Forward Industries, Inc. 10-K

ITEM 1. BUSINESS General Forward Industries, Inc. (“Forward”, “we”, “our” or the “Company”), through its wholly-owned subsidiaries, Forward Industries (IN), Inc., (“Forward US”), Forward Industries (Switzerland) GmbH, (“Forward Switzerland”), Forward Industries UK Limited, (“Forward UK”), Intelligent Product Solutions, Inc., (“IPS”), and Kablooe, Inc., (“Kablooe”), is a fully integrated design, development and manufacturing solution provider for top tier medical and technology customers worldwide. The Company has expanded its ability to design and develop solutions for our existing multinational client base and expand beyond the diabetic product line into a variety of industries with a full spectrum of hardware and software product design and engineering services. In addition to our existing design and distribution of carry and protective solutions, primarily for handheld electronic devices, the Company is now a one-stop shop for design, development and manufacturing solutions serving a wide range of clients in the industrial, commercial and consumer industries. The Company’s previous principal customer market has been original equipment manufacturers, or “OEMs” (or the contract manufacturing firms of these OEM customers), that either package our products as accessories “in box” together with their branded product offerings or sell them through their retail distribution channels. The Company’s OEM products include carrying cases and other accessories for medical monitoring and diagnostic kits and a variety of other portable electronic and non-electronic products (such as sporting and recreational products, bar code scanners, smartphones, GPS location devices, tablets and firearms). The Company’s OEM customers are located in: (i) the Asia-Pacific region, which we refer to as the “APAC Region”; (ii) Europe, the Middle East, and Africa, which we refer to as the “EMEA Region”; and (iii) the geographic area encompassing North America, Central America and South America, which we refer to as the “Americas”. The Company does not manufacture any of its OEM products and sources substantially all of its OEM products from independent suppliers in China, through Forward Industries Asia-Pacific Corporation, a British Virgin Islands corporation (“Forward China”). As a result of the expansion of the design development capabilities through its wholly-owned subsidiaries, IPS and Kablooe, the Company is now able to introduce proprietary products to the market from concepts brought to it from a number of different sources, both inside and outside the Company. By virtue of our strategic collaboration and distribution agreements, we have secured a portfolio of smart enabled products which we have begun distributing to retail outlets in the United States. The rollout of these products has been delayed by COVID-19 as discussed below. As a result of this collaboration and other product initiatives, we invested in and began to build out a retail distribution network responsible for getting products into big box retailers for retail consumption. This build out is a continuation of our strategy to be a one-stop shop for product development, manufacture and distribution and represents a significant achievement in completing the strategic process of taking a product from concept to the consumer. Through the manufacturer representative agreements we currently have in place, we expect to gain sales coverage to retailers such as Best Buy, Target, Walmart, Costco, Amazon, CVS, Walgreens, Staples, Office Depot and many others. The manufacturer representative model allows us to engage and support a large sales team and cover a larger territory with a variable cost model as these representatives work on commission only. The outbreak of the COVID-19 virus in China and its subsequent spread throughout the world has impacted our Fiscal 2020 results of operations. In efforts to contain the virus, authorities have implemented travel restrictions, quarantines, business limitations and shutdowns. Since the majority of our workforce is based in New York, these restrictions have required substantially all our employees to work from home for much of Fiscal 2020. During the third quarter of Fiscal 2020, productivity of our direct labor employees was reduced, which caused a decline in revenue and gross profit. As some of these restrictions were relaxed in the fourth quarter of Fiscal 2020, employees started to return to the office with minimal operational challenges. Business shutdowns resulting from the pandemic disrupted our supply chain and the manufacture or shipment of our products and have delayed the rollout of our smart enabled retail products to big box retail stores, causing our distribution segment revenues in Fiscal 2020 to be less than anticipated. Additionally, our design segment reported lower revenues as demand for its design and development services were reduced or delayed. The impact from lower revenue was partially offset by a reduction in certain selling and travel related expenses resulting from government mandated stay-at-home orders and travel restrictions as well as revenues derived from sales and sourcing of personal protective equipment. The pandemic had temporarily impacted our liquidity in Fiscal 2020, as collections of accounts receivable were somewhat delayed at certain times. 3 The economy started to open in certain jurisdictions where the virus was considered under control. However, there continue to be areas with increased rates of infection that could cause government officials to enact more restrictions on how businesses operate. The future impacts of the pandemic and any resulting economic impact are largely unknown and could be significant. It is possible that the pandemic, the measures taken by the governments of countries affected and the resulting economic impact may negatively impact our results of operations, cash flows and financial position in future periods as well as that of our customers, including their ability to pay for our services and choosing to allocate their budgets to new or existing projects which may or may not require our services. The long-term financial impact on our business cannot be reasonably estimated at this time. As a result, the effects of COVID-19 may not be fully reflected in our financial results until future periods. Refer to “Part I, Item 1A — Risk Factors” in this report for a description of the material risks that the Company currently faces in connection with COVID-19. Until there is a vaccine and treatment that is widely distributed, we expect business conditions to remain challenging. In response to these challenges, we will continue to focus on those factors that we can control: closely managing and controlling our expenses; aligning our design and development schedules with demand in a proactive manner as there are changes in market conditions to minimize our cash operating costs; pursuing further improvements in the productivity and effectiveness of our development, selling and administrative activities and, where appropriate, taking advantage of opportunities to enhance our business growth and profitability strategy. Corporate History Forward was incorporated in 1961 as a manufacturer and distributer of advertising specialty and promotional products. In 1989, we acquired Forward US, a manufacturer of soft-sided carrying cases. The carrying case business became our predominant business, and in September 1997, we sold the assets relating to the production of advertising specialty and promotional products, ceasing to operate in that segment. In May 2001, we formed Forward Switzerland to facilitate distribution of aftermarket products under our licenses for cell phone cases with a major North American multinational and to further develop our OEM European business presence. After the expiration of the last of these licenses in March 2009, staff at Forward Switzerland was significantly reduced and in recent years has primarily served our OEM customers in Europe. I n January 2018, Forward acquired IPS which resulted in IPS being a wholly-owned subsidiary of Forward. In August 2020, Forward acquired the assets of Kablooe Design, a medical and consumer design and development company. The Company believes that the design and engineering service capabilities of Kablooe will complement the IPS business and further diversify the industries and customers with which the Company does business. In this report, the Company uses the term “distribution” to refer to what has historically been described as the “OEM” business. However, we may refer to our customers as “OEM” customers, using a standard industry term. In addition, we use the term “design” or “design and development” to describe the acquired IPS and Kablooe businesses, to be consistent with the operating segment definitions (see Note 16 to the audited consolidated financial statements herein). Customers The Company’s distribution customers are located in: (i) the APAC Region; (ii) the EMEA Region; and (iii) the Americas. IPS and Kablooe provide product development services for Fortune 500 companies, established mid-level companies, and start-ups. The wide range of industries served includes industrial electronics, medical and dental equipment, food/beverage, U.S. Department of Defense, certain luxury brands, and oil/gas. 4 Products The Company’s distribution products include carrying cases and other accessories for medical monitoring and diagnostic kits and a variety of other portable electronic and non-electronic products (such as sporting and recreational products, bar code scanners, smartphones, GPS location devices, tablets, and firearms). Beginning in Fiscal 2020, the Company’s distribution products also include smart-enabled products such as speakers and lamps. The Company does not manufacture any of its distribution products and sources substantially all of its distribution products from independent suppliers in China, through Forward China, a related party (see Note 14 to the consolidated financial statements). Diabetic Products We sell carrying cases for blood glucose diagnostic kits (“Diabetic Products”) directly to OEM customers, or their contract manufacturers. These electronic monitoring kits are made for use by diabetics. We typically sell these cases at prices ranging from approximately $0.60 to $7.00 per unit. Unit volumes are sold predominantly at the lower end of this price range. We also sell higher end units ranging from approximately $18.50 to $39.00 per unit, but this represents less than 2% of net revenues. The distribution customer (or its contract manufacturer) packages our carry cases “in box” as a custom accessory for the customer’s blood glucose testing and monitoring kits, or to a much lesser extent, sells them through their retail distribution channels. These kits typically include a small, electronic blood glucose monitor, testing strips, lancets for drawing a drop of blood and our carrying case, customized with the manufacturer’s logo and designed to fit and secure the glucose monitor, testing strips, and lancets in separate straps, pouches, and holders. As the kits and technology change, our carrying case designs change to accommodate the changes in size, shape and layout of the electronic monitoring device, strips and lancet. For Fiscal 2020, our Diabetic Products customers accounted for 83% of our total net revenues in the distribution business, compared to 89% in Fiscal 2019. Other Products We also sell carrying and protective solutions to distribution customers for a diverse array of other portable electronic and other products (“Other Products”), including sporting and recreational products, bar code scanners, smartphones, GPS and location devices, tablets, and firearms, on a made-to-order basis that are customized to fit the products sold by our distribution customers. Our selling prices for these products also vary across a broad range, depending on the size and nature of the product for which we design and sell the carry solution. In Fiscal 2020, we added smart-enabled products to our distribution business. Our smart-enabled products include speakers and lamps that provide lighting and sound with connectivity to other devices via Bluetooth. Our selling prices for these products, including related accessories, ranges from $35 to $135 per unit. For Fiscal 2020, our other products accounted for 17% of our total net revenues in the distribution business, compared to 11% in Fiscal 2019. Our design segment provides a complete range of design, engineering and development services with respect to a diverse array of consumer and industrial electronics products. These include but are not limited to medical products, smart displays, beverage vending, enterprise and mobile software applications, lighting, security and detections systems, cameras, wearables and vehicle controls. Solutions in these and other areas are designed and developed in-house, beginning at product concept, extending through design, engineering and prototype, and final design for manufacturing and Computer-Aided Design (“CAD”) files. As a combined company, we are able to provide manufacturing sourcing and final product support and delivery services for initial short-run, low volume products. 5 Product Development In the OEM division of our distribution business, we typically receive requests to submit product designs in connection with a customer’s introduction and rollout to market of a new product. IPS collaborates with clients to determine functionality, size and other basic specifications and requirements for products. Our design and production resources develop more detailed product specifications and design options for our customers’ evaluation. We provide documentation of each phase to the client and gain approval of a working prototype. Working with our suppliers and the customer, samples are modified and refined. Once approved for commercial introduction and order by our customer, we work with our suppliers to ensure conformity of commercial production to the definitive product samples and specifications. Manufacture and delivery of products in production quantities are coordinated with the customer’s manufacturing and shipment schedules so that our products are available to be packaged with the customer’s additional product components prior to shipment and sale, or to make the product available to the customer for direct sale through its retail distribution channels. Services Services offered for each engagement vary from full development utilizing a wide range of in-house design and engineering functions, to targeted design and engineering support for clients with in-house development teams. Our in-house capabilities include the following: • Electrical Engineering • Mechanical Engineering • Software Engineering • Industrial Design • User Experience/User Interface (UX/UI) Design and Development • Optical Engineering • Program Management • IoT System Architecture • Marketing Distribution Channels of Distribution We primarily ship our OEM products directly to our customers (or their contract manufacturers), who package our accessory products “in box” with their branded products. Some of our customers also purchase certain of our products and offer them for sale as stand-alone accessories to complement their product offerings. 6 In Fiscal 2019, we secured a portfolio of smart-enabled products which we began distributing through retail outlets in the U.S. in Fiscal 2020. We continue to invest in and build out a distribution network for retail products as we expect this part of our business to grow in the future. The retail distribution network is responsible for placing products with major retailers for consumption both in store and online. Distribution Hubs for Customers We have arrangements with various customer’s distribution hubs. These arrangements obligate us to supply our products to our customers’ distribution hubs where their products are manufactured, kitted, and/or warehoused pending sale, and where our products are packaged “in box” with the distribution customers’ products. The product quantities we are required to supply to each distribution hub are based on the distribution customer’s purchase orders and forecasts. We do not recognize revenue for product shipped to a customers’ hub until we have been notified by our customer that our product has been withdrawn or used by the distribution hub. Hub arrangements have had the general effect of providing financing for our customers’ inventory purchases by extending the time between our placement of orders to our suppliers in order to ship and supply the hubs and the time that we are able to recognize revenue. The corollary effect is an increase in our inventory levels. We also have arrangements with various third-party fulfillment centers for products distributed through retail outlets in the U.S. We do not recognize revenue for products shipped to a fulfillment center until the product has been shipped to the end-user customer. Product Supply Manufacturing The manufacture of custom carrying cases and other carry and protective solutions generally consists of die cutting fabrics and heat sealing, gluing, sewing, and decorating (affixing logos to) the cut-outs by means of silk screening, hot-stamping, embroidering or embossing. The principal materials used in the manufacture of our products are vinyl, nylon, leather, metal and plastic parts (for clips, buckles, loops, hinges and other hardware), foam padding and cardboard, all of which are obtained from suppliers based on our specifications. We do not believe that any of the component materials or parts used in the manufacture of our products are supply constrained. We believe that there are adequate available alternative sources of supply for all of the materials used to manufacture, package, and ship our products. Dependence on Sourcing Agent The Company has a Buying Agency and Supply Agreement (the “Supply Agreement”) with Forward China (the “Agent”). The Supply Agreement provides that the Agent acts as the Company’s exclusive buying agent. The Agent also arranges for sourcing, manufacture and exportation of such products. The Company purchases products at the Agent’s cost and pays a service fee to the Agent. The service fee is calculated at $100,000 monthly plus 4% of “Adjusted Gross Profit”, which is defined as the selling price less the cost from the Agent. The Supply Agreement has been extended to October 22, 2023. Terence Wise, the Company’s Chairman, Chief Executive Officer and largest shareholder, is a principal of the Agent. See “Item 1A. – Risk Factors” regarding our dependence on the Agent. Suppliers We procure substantially all products for our distribution business from independent suppliers in China through the Agent. Depending on the product, we may require several different suppliers to furnish component parts or pieces. 7 We place orders with the Agent for particular products. We do not have minimum supply requirement agreements with our suppliers to guarantee a supply of finished product, nor have we made purchase commitments to purchase minimum amounts from any of our suppliers. However, from time to time, we may order products from our suppliers in advance of receiving a customer purchase order, or in quantities in excess of those forecasted to us by our customer, for which they are contractually obligated to us, in order to meet our customers’ anticipated delivery demands. Beginning September 1, 2013, we began making purchases directly from Forward China. During Fiscal 2020 and Fiscal 2019, all of our purchases for our distribution business were made directly through Forward China. There are very few suppliers for the design and development part of the business as it is a service-based business. We do, however, purchase supplies and equipment to develop prototypes or “mock-ups” for design and development projects. Design business suppliers are predominantly based in the United States. Quality Assurance Forward’s quality assurance manager oversees the process to ensure that our distribution products manufactured by our Chinese suppliers meet our quality assurance standards. He independently verifies and supervises the inspection of products provided by independent contractors in China. In July 2015, Forward China received its ISO 9001:2008 quality certification, which was renewed in July 2018 and is valid until July 2021. Our design business follows general industry standard practices for review and corrective actions related to its design services. There are no independent quality assurance standards in place for its design and engineering work. Customer specifications and scope of services are laid out in the project contracts and the Company works closely with the customer to identify and correct any quality issues that arise. Competition Distribution Business The OEM division of our distribution business is highly competitive in terms of product pricing, design, delivery terms, and customer service. In the production of our distribution products, we compete with numerous United States and foreign producers and distributors. Some of our competitors are substantially larger than we are and have greater financial and other resources. We believe that we sustain our competitive position through maintenance of an effective product design capability, rapid response time to customer requests for proposals and product shipment, reliable product delivery and product quality, and competitive pricing. We believe that our ability to compete based on product quality assurance considerations is enhanced by Forward China’s local presence, quality control, shipment capabilities and expertise in sourcing. Design and Engineering Business The depth and breadth of the services offered, and industries served by our design segment are unique. Our management team is aware that there are very few competitive firms that have the full set of capabilities that our design segment has under one roof. There are however, numerous design and engineering companies that compete with us in specific industries and/or with specific targeted skills or competitive advantages. Human Capital/Employees The Company’s key human capital management objectives are to attract, retain and develop the highest quality talent. To support these objectives, the Company’s human resources programs are designed to develop talent to prepare them for critical roles and leadership positions for the future; reward and support employees through competitive pay and benefits; enhance the Company’s culture through efforts aimed at making the workplace more engaging and inclusive; acquire talent and facilitate internal talent mobility to create a high-performing, and diverse workforce. None of our employees are covered by a collective bargaining agreement. The Company employed approximately 85 people as of November 30, 2020. We hire consultants on an as-needed basis in our design segment. 8 Regulation and Environmental Protection Our sourcing business is subject to various regulations in various jurisdictions, including the United States and member states of the European Community, that restrict the use or importation of products manufactured with compounds deemed to be hazardous. We work with our suppliers to ensure compliance with such regulations. In addition, from time to time, one or more customers may require testing of our products to ensure compliance with applicable consumer safety rules and regulations or the customer’s safety or packaging protocols. Because we do not manufacture the products that we sell and distribute, compliance with federal, state and local laws and regulations pertaining to the discharge of materials into the environment, or otherwise relating to the protection of the environment, has not had, and is not anticipated to have, any direct material effect upon our capital expenditures, earnings, or competitive position. However, compliance with such laws and regulations on the part of our suppliers may result in increased costs of supply to us, particularly if domestic environmental regulations in China becomes more prevalent. We have not been engaged in any environmental litigation or incurred any material costs related to compliance with environmental or other regulations. From time to time, we incur chemical and/or safety laboratory testing expenses in order to address customer requests regarding our product materials or method of manufacture or regarding their packaging methods and standards. There are no specific regulatory or environmental requirements imposed upon the design segment of our business. As a paid service provider, end customers are assisted in securing regulatory certifications including UL (Underwriters Laboratories – a U.S. based safety certification organization), FCC (Federal Communications Commission – U.S. governmental certification department for electronic goods), CE (Conformité Européenne – a European certification for health, safety and environmental protection standards) and others depending on needs, product types and locations of end customers’ product markets. As our retail business increases, we anticipate that we will be required to obtain certain certifications for products on an as required basis.