KOSS CORP 10-K

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. The purpose of this discussion and analysis is to enhance the understanding and evaluation of the financial position, results of operations, cash flows, indebtedness, and other key financial information of the Company for fiscal years 2025 and 2024. Unless otherwise indicated, comparisons of financial information reflect the fiscal year ended June 30, 2025 versus the fiscal year ended June 30, 2024. Our MD&A should be read in conjunction with the Consolidated Financial Statements and related Notes included in Item 8, Financial Statements and Supplementary Data, of this Annual Report on Form 10-K. See also the “Cautionary Statement Regarding Forward-Looking Statements” on page 4 of this Report. Overview John C. Koss and the Company have been recognized as the creator of the personal listening industry. The Company initially developed the first Koss SP 3 stereo headphones in 1958 and has been an innovator in the field ever since. We market a complete line of high-fidelity headphones, wireless Bluetooth® headphones, wireless Bluetooth® speakers, computer headsets, telecommunications headsets, and active noise canceling headphones. Koss operates as one business segment, as its only business line is the design, manufacture and sale of stereo headphones and related personal listening accessories. The Company’s products are sold domestically and internationally through a variety of retailers and distributors, as well as directly to other manufacturers to include with their own products. Changes in sales volume are driven primarily by the addition or loss of customers, a customer adding or removing a product from its inventory, or changes in economic conditions. Sales levels are less impacted by seasonality or the traditional holiday shopping season. Although certain of the Company’s products could be viewed as essential by consumers for use with mobile phones and other portable electronic devices, many other models represent a more discretionary spend. The results of the Company’s operations are therefore susceptible to consumer confidence and adverse macroeconomic factors such as newly imposed tariffs, inflation, slower growth or recession, higher interest rates, and wage and commodity inflation. In addition, the economic sanctions imposed as a result of the Russia/Ukraine conflict have impacted certain of our customers in those markets and the surrounding regions. Fiscal Year 2025 Summary  Net sales grew 2.9% to $12,624,170, mainly as a result of a 48% increase in sales to our European distributors, a 16.5% increase in Direct-to-Consumer (DTC) sales. The growth was somewhat offset by lower sales to domestic distributors claiming excess inventory of prior year models of non-Koss electronics combined with a drop in sales to the Education market due to a delay in an order while awaiting budget approval. Overall domestic sales fell 8.4% while Export sales grew quite significantly at 48%.  Gross profit as a percentage of sales increased by 3.7 percentage points over the prior fiscal year from 34.1% to 37.8%. A favorable sales mix, with a higher mix of higher margin sales to certain domestic distributors and DTC coupled with sales to Europe that generated higher than normal margins due to new product sales. The prior year’s adverse impact of the continued sell-through of inventory brought in at higher freight rates also contributed to the favorable gross margin for the 2025 fiscal year.  Selling, general and administrative expenses increased 7.5% over the prior fiscal year principally due to the increase in new product compliance testing and certification. Legal fees and expenses also increased in support of the Compan y’s patent defense litigation and the settlement of an ADA lawsuit related to the Koss.com website.  Total tax expense of $17,482 was recorded for the year ended June 30, 2025 driven by minimum required payments and in increase in the uncertain tax position (UTP) related to research and development credits taken in the prior year and the appropriate tax and penalties that would be incurred should there be a denial of the credits During the prior year, a federal tax benefit of $73,604 was recorded as a result of the return-to-provision adjustment identified during the third quarter of fiscal year 2024. ‎ 19 Table of Contents Consolidated Results The following table presents selected consolidated financial data for each of the past two fiscal years: Consolidated Performance Summary 2025 2024 Net sales $ 12,624,170 $ 12,265,069 Net sales increase (decrease) % from prior year period 2.9% (6.4)% Gross profit $ 4,773,598 $ 4,185,447 Gross profit as % of net sales 37.8% 34.1% Selling, general and administrative expenses $ 6,510,721 $ 6,057,606 Selling, general and administrative expenses as % of net sales 51.6% 49.4% Interest income $ 879,774 $ 847,644 Loss before income tax provision (benefit) $ (857,349) $ (1,024,515) Loss before income tax provision (benefit) as % of net sales (6.8)% (8.4)% Income tax provision (benefit) $ 17,482 $ (73,604) Income tax provision (benefit) as % of loss before income tax provision (benefit) (2.0)% 7.2% 2025 Results of Operations Compared with 2024 Net sales for the year ending June 30, 2025 were $12,624,170, a 2.9% increase compared to $12,265,069 in the prior fiscal year, primarily behind a 48% increase in sales to Europe and a 16.5% increase in DTC sales. Growth in net export sales of $1,185,738, or 48%, for the fiscal year 2025 is predominantly driven by the significant increase in sales to two of the Company’s largest European distributors, which consisted of nearly $1,400,000 new product sales. Sales to the Asian markets were up almost 52%, assisting Europe with the overall increase. For the year ended June 30, 2025, domestic sales declined by 8.4%, or $826,637. Sales to our domestic distributors were down 27.3% behind weak commitments to stocking inventory and there was a $531,000 drop in sales to the Education market due to a delay in the finalization of a significant order while awaiting budget approval. E-tailer and Music and Books sales also declined $441,035 compared to the prior year. DTC and certain domestic distributors saw a combined sales increase of $860,019 for the year ended June 30, 2025, partially offsetting the overall decline. DTC sales represent 24% of the Company’s total sales and the noteworthy increase appears to be driven by new product launches, continued page optimizations and increased online advertising efforts. Gross profit as a percentage of net sales for the year ended June 30, 2025 was 37.8% versus 34.1% for the prior fiscal year. Gross margins vary by customer, product, and markets and, as a result, any shifts in the mix can impact the overall gross margin. A favorable mix of higher margin sales to certain of our domestic distributors and DTC sales was coupled with a higher mix of sales to Europe which included a significant amount of sales of new product at higher margins. This was slightly offset by the adverse impact of newly imposed tariffs included in inventory sold in the last quarter of fiscal year 2025 along with a write-off of some obsolete inventory. The negative impact of the sell-through of inventory brought in at higher freight rates in the prior year also contributed to the increase in gross margins year over year. Freight rates increased slightly throughout the year due mainly to strong demand, capacity constraints and disruptions in major ports. Rates are expected to settle back down in the first part of the coming fiscal year as the Peak Season Surcharge (PSS) imposed in the fourth quarter of fiscal year 2025 was cancelled. The Company renewed its partnership agreement with a dedicated freight forwarder, which will continue to provide access to lower freight rates even if market rates should go up, and a lane was added to a bonded warehouse which may be utilized to defer tariff spend. The cost of additional loading, unloading and storage at this new facility will be offset by the delayed payments to the Custom Border Patrol for product stored there until final delivery to the Company. The first shipment to the bonded warehouse occurred in August 2025, deferring the tariffs until the product arrives at the Company’s plant in Milwaukee, WI. The Company continues to stay abreast of current events that might impact future freight rates and will act accordingly to ensure availability of goods. The impact of broader economic factors such as newly imposed tariffs, inflation and shifts in consumer behavior could result in overcapacity in the market and rising freight costs. The Company continues to monitor the situation. Selling, general and administrative expenses rose by approximately $453,000, or 7.5%, for the fiscal year ended June 30, 2025. New product compliance testing and certifications were the main driver of the increase, combined with higher online marketing spend. Legal costs incurred for a Supreme Court appeal in the Company’s continued patent litigation, along with legal fees incurred and a settlement paid related to an ADA lawsuit brought against the Koss.com website, also contributed to the year over year increase. A reduction in stock-based compensation expense partially offset the increases as any remaining unvested stock options granted with the Koss Corporation 2012 Omnibus Incentive Plan (the “2012 Plan”) are nearly fully vested. 20 Table of Contents Interest income of $879,774 and $847,644 was recorded during the fiscal years ended June 30 2025 and 2024, respectively, due almost entirely to interest earned on the U.S. Treasury investments held during the years in order to earn a return on the Company’s excess cash while maintaining a low risk profile. Total tax expense of $17,482 was recorded for the year ended June 30, 2025. Federal tax expense of $5,570 was recorded for the uncertain tax position related to research and development (R&D) credits taken in a prior year and state tax expense of $11,912 related mostly to minimum estimated state tax payments due. In the prior year, a net income tax benefit of $73,604 was reported for the year, which included a federal income tax benefit of $81,278 recorded as a result of the return-to-provision (RTP) adjustments recorded in the period identified. The RTP adjustments were identified as part of the preparation and submission of the fiscal year 2023 tax returns during the third quarter fiscal year 2024. State income tax expense of $7,674, which represented only the required minimum estimated tax payments due, partially offset the benefit. The effective tax rate was 2.1% for the fiscal year ended June 30, 2025 compared to 7.2% for the previous fiscal year. The Company’s taxable losses for the years ended June 30, 2025 and 2024 increased the federal tax loss carryforward by approximately $1,150,000 and $1,270,000, respectively, resulting in an expected carryforward of approximately $34,00,000 by the end of the current fiscal year. The current fiscal year adjustment to the net operating loss carryforward increased the deferred tax asset to approximately $8,700,000 as of June 30, 2025, and the future realization of this continues to be uncertain. The valuation allowance was increased to fully offset the net deferred tax asset as there is sufficient negative evidence to support the maintaining of a full valuation allowance as, excluding unusual, infrequent items, a three-year cumulative tax loss occurred. As previously reported, the Company maintains a program focused on enforcing its intellectual property and, in particular, certain of its patent portfolio. The Company has enforced its intellectual property by filing complaints against certain parties alleging infringement on the Company’s patents relating to its wireless headphone technology. The Company has, in the past, recovered certain of the fees and costs that were involved with the underlying efforts to enforce this portfolio and, if the program continues to be successful with the remaining complaints, the Company may receive additional royalties, offers to purchase its intellectual property, or other remedies advantageous to its competitive position. There is no guarantee, however, of a positive outcome from these efforts, which could ultimately be time-consuming and unsuccessful. Additionally, the Company may owe all or a portion of any future proceeds arising from the enforcement program to third parties. The Company believes that its financial position remains strong. The Company had $2.8 million of cash and cash equivalents, $12.9 million of short-term investments and available credit facilities of $5.0 million on June 30, 2025. U.S. tariff policy has undergone significant changes under President Donald Trump’s administration, leading to heightened global trade tensions and economic repercussions. In April 2025, the U.S. government imposed tariffs of up to 145% on certain imports from China, significantly increasing the Company’s expected duty costs for goods sourced from China. On May 12, 2025, the U.S. and China reached a temporary 90 - day trade truce, reducing these tariffs to approximately 30%. During fiscal year 2025, inflation remained elevated with Personal Consumption Expenditures (PCE) inflation up 2.6% compared to a year ago. The Federal Reserve has maintained higher interest rates, even amid persisting tariff-driven price pressures. Energy prices have seen some mild relief, although their deflationary impact is modest compared to tariff-induced inflation. As such, rising costs and tariff uncertainty continue to impact consumer confidence with cuts to discretionary spending, switching to lower-priced brands and delaying large purchases which, in turn, impact the Company’s sales volumes. Inflationary cost increases have resulted in higher costs of commodities, packaging materials, and wages, along with higher energy and transportation costs. These increases have been partially mitigated by somewhat higher pricing on new product launches, and the Company continues to work with a dedicated freight forwarding partner to minimize freight rate increases. Other risk factors further exacerbated by inflation include supply chain disruptions, risks of international operations, tight labor markets, and the challenges in recruitment and retention of talent. The Company relies on our third-party supply chain, primarily in southern China, and distribution networks and the availability of necessary components to produce a considerable number of our products. A reduction or interruption in supply, including interruptions due to pandemic related restrictions, geopolitical unrest, labor shortages or strikes, newly imposed tariffs, or a failure to procure adequate components, may lead to delays in manufacturing or increases in costs. The global supply chain remains fragile despite pockets of stabilization and improved predictability. Freight rates have risen due to strong U.S. import demand and rerouting around the Red Sea and Suez Canal. While the Company rarely uses the Suez route and does not expect material impact, elevated costs and transit delays are affecting resellers who rely on carriers traversing that corridor. Freight rates may ease during the new fiscal year, but espionage, tariff uncertainly and capacity stress continue to pose risks. The Company continues to closely monitor developments in the tension in Eastern Europe and the Middle East, and the supply chain team remains ready to increase inventory investment as needed. This includes being alert to potential short supply situations, assisting suppliers with acquisition of critical components and utilizing alternative sources and/or air freight. Following Russia’s invasion of Ukraine in February 2022, global financial and credit markets around the world saw heightened volatility. In response to the invasion, the United States, United Kingdom, and European Union, along with others, imposed sweeping 21 Table of Contents sanctions and export controls targeting Russia’s financial sector, energy, technology, sovereign debt and key individuals. In January 2025, additional sanctions were authorized by the U.S. on Russia’s energy sector, imposing a petroleum services ban and secondary sanctions on operators, insurers, oil producers and certain vessels. The proposed “Sanctioning Russia Act of 2025” aims to impose secondary tariffs and sanctions on countries that continue to fund Russia’s war in Ukraine and Trump has threatened additional action against Russia if they don’t agree to a ceasefire with Ukraine. In accordance with Executive Order 14071 signed on April 6, 2022, the Company suspended sales to Russia and during the years ended June 30, 2025 and 2024, there were no sales to customers in Russia. Liquidity and Capital Resources Cash Flows The following table summarizes our cash flows from operating, investing and financing activities for each of the past two fiscal years: Total cash provided by (used in): 2025 2024 Operating activities $ (214,908) $ (190,531) Investing activities (120,284) (198,425) Financing activities 305,908 134,975 Net (decrease) in cash and cash equivalents $ (29,284) $ (253,981) Operating Activities During the fiscal year ended June 30, 2025, cash used in operating activities of the Company consisted of approximately $375,000 of payments to the Custom Border Patrol for the newly imposed tariffs on product shipped from China. This was partially offset by IRS refunds of $262,000 relating to employer payroll taxes incorrectly paid in prior years on the gains from the disqualifying dispositions of incentive stock options. Cash used in operating activities of the Company during the prior fiscal year related mostly to bonus payouts of $403,000 and funding of $362,000 relating to reimbursement of employee payroll taxes incorrectly withheld on the gains from the disqualifying dispositions of incentive stock options. Cash outflow was partially offset by tighter inventory buying practices and interest received on investments. Investing Activities Net cash used by investing activities for fiscal year 2025 was mostly related to capital expenditures comprised of a new roof section replacement for $346,000 and other leasehold improvements of approximately $75,000. The Company also paid life insurance premiums of $71,000 on company-owned life insurance policies for two of its executives. Proceeds of $14,303,000 from the maturity of U.S. Treasury securities were received during the year, of which $14,059,000 was reinvested in new similar securities at a discount of $197,000. For the fiscal year ended June 30, 2024, cash used by investing activities was related to capital expenditures, including the replacement of a roof section of the building and HVAC upgrades for approximately $330,000 and premiums of $82,000 on company-owned life insurance policies for two of its executives. Proceeds of $14,331,000 were received during the prior fiscal year from the maturity of U.S. Treasury securities which were mostly reinvested to purchase $14,286,000 of similar securities at a $300,000 discount. Financing Activities The cash generated from financing activities in the fiscal years ended June 30, 2025 and 2024 was solely a result of stock option exercises. In the fiscal year ended 2025, exercises of stock options for 156,643 shares generated $305,908 of cash while stock option exercises for 65,000 shares in the previous fiscal year generated $134,975 of cash. As of June 30, 2025 and 2024, the Company had no outstanding borrowings on its bank line of credit facility under the Credit Agreement (described below under “Credit Facility"). Short Term Liquidity The Company anticipates funding its normal recurring trade payables, accrued expenses, ongoing R&D costs, inventory purchases, related tariffs and any potential interest payments, if it utilizes its line of credit facility, through existing working capital, funds provided by operating activities and interest earned on investments. Payment terms for the majority of the Company’s international customers, as well as custom and OEM customers, are cash in advance whereby funds are received before a shipment is even made. The Company believes its existing cash, cash equivalents, investments in short-term U.S. Treasury securities, cash provided by operating activities and borrowings under its credit facility, if any, will be sufficient to meet its anticipated working capital, and capital expenditure requirements during the next twelve months. There can be no assurance, however, that the Company’s business will continue to generate cash flow at current levels. If the Company is unable to generate sufficient cash flow from operations, then it may 22 Table of Contents be required to sell assets, reduce capital expenditure, or draw on its credit facilities. Management is focused on increasing sales, especially in the U.S. distributor market, DTC, and the export markets, increasing new product introductions, increasing the generation of cash from operations, and improving the Company’s overall earnings to help improve the Company’s liquidity. The Company regularly evaluates new product offerings, inventory levels, and capital expenditure to ensure that it is effectively allocating resources in line with current market conditions. Long Term Liquidity The Company’s future capital requirements, to a certain extent, are also subject to general conditions in or affecting the electronics industry and are subject to general economic, political, financial, competitive, legislative, and regulatory factors that are beyond its control. Moreover, to the extent that existing cash, cash equivalents, cash from operations, and cash from its credit facilities are insufficient to fund its future activities, the Company may need to raise additional funds through public or private equity or debt financing, subject to the limitations specified in the Credit Agreement (as defined below). In addition, the Company may also need to seek additional equity funding or debt financing if it becomes a party to any agreement or letter of intent for potential investments in, or acquisitions of, businesses, services, or technologies. Credit Facility On May 14, 2019, the Company entered into a secured credit facility (“Credit Agreement”) with Town Bank (“Lender”). The Credit Agreement provides for a $5,000,000 revolving secured credit facility as well as letters of credit for the benefit of the Company of up to a sublimit of $1,000,000. There are no unused line fees in the credit facility. On January 28, 2021, the Credit Agreement was amended to change the interest rate to Wall Street Journal Prime less 1.50%. An amendment effective October 31, 2024 extended the maturity date to October 31, 2026. The Company and the Lender also entered into a General Business Security Agreement dated May 14, 2019 under which the Company granted the Lender a security interest in substantially all of the Company’s assets in connection with the Company’s obligations under the Credit Agreement. The Credit Agreement contains certain affirmative and negative covenants customary for financings of this type. The negative covenants include restrictions on other indebtedness, liens, fundamental changes, certain investments, disposition of assets, mergers and liquidations, among other restrictions. The Company is currently in compliance with all covenants related to the Credit Agreement. As of June 30, 2025 and 2024, there were no outstanding borrowings on the facility. Stock Repurchase Program In April 1995, the Board of Directors approved a stock repurchase program authorizing the Company to purchase, from time to time, up to $2,000,000 of its common stock for its own account. Subsequently, the Board of Directors periodically approved increases in the amount authorized for repurchase under the program. As of June 30, 2025, the Board had authorized the repurchase of an aggregate of $45,500,000 of common stock under the stock repurchase program, of which $43,360,247 had been expended. No stock repurchases were made under the program during the years ended June 30, 2025 or 2024. As of June 30, 2025, the amount of common stock subject to repurchase by the Company under the Board of Director’s prior authorization remained $2,139,753 at the discretion of the Chief Executive Officer of the Company. Future stock purchases under this program are dependent on management’s assessment of value versus market price, may occur either on the open market or through privately negotiated transactions and may be financed through the Company’s cash flow or by borrowing. Contractual Obligation The Company leases the 126,000 square foot facility from Koss Holdings, LLC, which is controlled by five equal ownership interests in trusts held by the five beneficiaries of the former Chairman’s revocable trust and includes current stockholders of the Company. On May 24, 2022, the lease was renewed for a period of five years, ending June 30, 2028, and is being accounted for as an operating lease. The lease extension maintained the rent at a fixed rate of $380,000 per year. The Company has the option to renew the lease for an additional five years beginning July 1, 2028 and ending June 30, 2033 under the same terms and conditions except that the annual rent will increase to $397,000. The negotiated increase in rent slated for 2028 will be the first increase in rent since 1996. The Company is responsible for all property maintenance, insurance, taxes, and other normal expenses related to ownership. The facility is in good repair and, in the opinion of management, is suitable and adequate for the Company’s business purposes. ‎ 23 Table of Contents Critical Accounting Estimates Our discussion and analysis of financial condition and results of operations is based upon our Consolidated Financial Statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these Consolidated Financial Statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. We have made estimates and we continually evaluate our estimates and judgments, including those related to doubtful accounts, product returns, excess inventories, warranties, impairment of long-lived assets, deferred compensation, income taxes and other contingencies. We base our estimates on historical experience and assumptions that we believe to be reasonable under the circumstances, taking into consideration certain possible adverse impacts from inflation, recently enacted tariffs, the economic sanctions imposed on the international community as a result of the continued conflicts in Eastern Europe and the Middle East, and any changes to the global economic situation as a consequence of future pandemics. Actual results may differ from these estimates. Below are the estimates that we believe are critical to the understanding of the Company’s results of operations and financial condition. Other accounting policies are described in Note 1, “Significant Accounting Policies” to the Consolidated Financial Statements included in this Annual Report on Form 10-K. Revenue Recognition Revenues from product sales are recognized when the customer obtains control of the product, which typically occurs upon shipment from the Company’s facility. There are a very limited number of customers for which control does not pass until they have received the products at their facility. Revenue from product sales is adjusted for estimated warranty obligations and variable consideration, which are detailed below. The Company uses a five-step analysis to determine how revenue is recognized. The underlying principle is to recognize revenue when promised goods or services transfer to the customer. The amount of revenue recognized is to reflect the consideration expected to be received for those goods or services. See Note 3 to the Consolidated Financial Statements for additional information on revenue recognition. Accounts Receivable The Company performs ongoing credit evaluations of its customers and adjusts credit limits based upon payment history and the customer’s current credit worthiness, as determined by the review of the customer’s current credit information. The Company continuously monitors collections and payments from customers and maintains an allowance for estimated credit losses. Accounts receivable are stated net of an allowance for doubtful accounts. The Company establishes an allowance based upon the current expected credit loss impairment model. The Company applies a historical loss rate based upon historic write-offs, adjusted for current conditions and reasonable and supportable forecasts of future losses as necessary. The Company may also record a specific reserve for individual accounts if they become aware of specific customer circumstances such as bankruptcy or deterioration in operational results or financial position. These specific reserves are re-evaluated and adjusted as additional information is received that impacts the amount reserved. However, the ultimate collectability of the unsecured receivable is dependent upon the financial condition of an individual customer, which could change rapidly and without warning. Inventories The Company values its inventories using standard cost which approximates the lower of first in first out (“FIFO”) cost or net realizable value. Valuing inventories at the lower of cost or net realizable value requires the use of estimates and judgment. The Company continues to use the same techniques to value inventories that it has in the past. Our customers may cancel their orders or change purchase volumes. This, or certain additional actions or market developments, could create excess inventory levels, which would impact the valuation of our inventories. Any actions taken by our customers or market developments that could impact the value of our inventory are considered when determining the lower of cost or net realizable value valuations. The Company regularly reviews inventory quantities on hand and records a provision for excess and obsolete inventory based primarily on historical and projected usage and production requirements. If the Company is not able to achieve its expectations of the net realizable value of the inventory at its current value, the Company would have to adjust its reserves accordingly. When a reserve is established, it creates a new cost basis, which is not increased in the future. Product Warranty Obligations The Company offers a lifetime warranty to consumers in the United States and certain other countries. This lifetime warranty creates a future performance obligation. There are also certain foreign distributors that receive warranty repair parts and replacement headphones to satisfy warranty obligations in those countries. The Company defers revenue to recognize the future obligations related to these warranties. The deferred revenue is based on historical analysis of warranty claims relative to sales. This deferred revenue reflects the Company’s best estimates of the amount of warranty returns and repairs it will experience during those future periods. If 24 Table of Contents future warranty activity varies from the estimates, the Company will adjust the estimated deferred revenue, which would affect net sales and operating results in the period that such adjustment becomes known. Deferred Compensation The Company’s deferred compensation liability is for a current officer and is calculated based on various assumptions that may include compensation, years of service, expected retirement date, discount rates and mortality tables. The related expense is calculated using the net present value of the expected payments and is included in selling, general and administrative expenses in the Consolidated Statements of Operations. Management makes estimates of life expectancy and discount rates using information available from several sources. In addition, management estimates the expected retirement date for the current officer as that impacts the timing for expected future payments. See Note 10 to the Consolidated Financial Statements for additional information on deferred compensation. Stock-Based Compensation The Company has a stock-based employee compensation plan, which is described more fully in Note 12 to the Consolidated Financial Statements. The Company accounts for stock-based compensation in accordance with ASC 718 "Compensation - Stock Compensation". Under the fair value recognition provisions of this statement, share-based compensation cost is measured at the grant date based on the fair value of the award and is recognized as expense over the vesting period. The expected term of the options and volatility are estimated using historical experience for the options by vesting period. The risk-free interest rate is calculated based on the expected life of the options. The Company does not estimate forfeitures as they are recognized when they occur. Income Taxes We estimate a provision for income taxes based on the effective tax rate expected to be applicable for the fiscal year. If the actual results are different from these estimates, adjustments to the effective tax rate may be required in the period such determination is made. Additionally, discrete items are treated separately from the effective rate analysis and are recorded separately as an income tax provision or benefit at the time they are recognized. Deferred income taxes are accounted for under the asset and liability method whereby deferred income tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred income tax assets and liabilities are measured using statutory tax rates. Deferred income tax provisions are based on changes in the deferred tax assets and liabilities from period to period. Additionally, we analyze our ability to recognize the net deferred income tax assets created in each jurisdiction in which we operate to determine if valuation allowances are necessary based on the “more likely than not” criteria. ‎ 25 Table of Contents ITEM 7A. QUANTITATIVE AND QU ALITATIVE DISCLOSURES ABOUT MARKET RISK Not applicable . ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA See the Consolidated Financial Statements included herewith. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None.