10-Q: Quarterly report pursuant to Section 13 or 15(d)
Published on December 15, 2023
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM
| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | ||
|
For
the |
or
| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | ||
|
For the transition period from ___________ to ___________ |
Commission
File Number:
(Exact name of Registrant as specified in its charter)
| (State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) |
|
|
|
|
| (Address of principal executive offices) | (Zip Code) |
(
(Registrant's telephone number, including area code)
__________________________________
(Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report)
Securities registered pursuant to Section 12(b) of the Act:
|
Title of Each Class |
Trading Symbol(s) |
Name of each exchange on which registered |
||
Indicate by check mark whether the registrant (1)
has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months
(or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements
for the past 90 days.
Indicate by check mark whether the registrant has
submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of
this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of "large accelerated filer," "accelerated filer," "smaller reporting company," and "emerging growth company" in Rule 12b-2 of the Exchange Act.
| Large accelerated filer ☐ | Accelerated filer ☐ |
| Smaller reporting company | |
|
Emerging
growth company |
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark
whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐
As of December 12, 2023, there were shares of the registrant's common stock outstanding.
Red Cat Holdings, Inc.
Form 10-Q
For the Quarterly Period Ended October 31, 2023
TABLE OF CONTENTS
RED CAT HOLDINGS
Consolidated Balance Sheets
(Unaudited)
| October 31, | April 30, | |||||||
| 2023 | 2023 | |||||||
| ASSETS | ||||||||
| Current assets | ||||||||
| Cash | $ | $ | ||||||
| Marketable securities | ||||||||
| Accounts receivable, net | ||||||||
| Inventory | ||||||||
| Other | ||||||||
| Current assets of discontinued operations | ||||||||
| Total current assets | ||||||||
| Goodwill | ||||||||
| Intangible assets, net | ||||||||
| Property and equipment, net | ||||||||
| Other | ||||||||
| Operating lease right-of-use assets | ||||||||
| Long-term assets of discontinued operations | ||||||||
| Total long-term assets | ||||||||
| TOTAL ASSETS | $ | $ | ||||||
| LIABILITIES AND STOCKHOLDERS' EQUITY | ||||||||
| Current liabilities | ||||||||
| Accounts payable | $ | $ | ||||||
| Accrued expenses | ||||||||
| Debt obligations - short term | ||||||||
| Customer deposits | ||||||||
| Operating lease liabilities | ||||||||
| Warrant derivative liability | ||||||||
| Current liabilities of discontinued operations | ||||||||
| Total current liabilities | ||||||||
| Operating lease liabilities | ||||||||
| Debt obligations - long term | ||||||||
| Long-term liabilities of discontinued operations | ||||||||
| Total long-term liabilities | ||||||||
| Commitments and contingencies | ||||||||
| Stockholders' equity | ||||||||
| Series B preferred stock - shares authorized ; outstanding and | ||||||||
| Common stock - shares authorized ; outstanding and | ||||||||
| Additional paid-in capital | ||||||||
| Accumulated deficit | ( |
) | ( |
) | ||||
| Accumulated other comprehensive loss | ( |
) | ( |
) | ||||
| Total stockholders' equity | ||||||||
| TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY | $ | $ | ||||||
See accompanying notes.
| 3 |
RED CAT HOLDINGS
Consolidated Statements Of Operations
(Unaudited)
| Three months ended October 31, | Six months ended October 31, | |||||||||||||||
| 2023 | 2022 | 2023 | 2022 | |||||||||||||
| Revenues | $ | $ | $ | $ | ||||||||||||
| Cost of goods sold | ||||||||||||||||
| Gross Margin | ||||||||||||||||
| Operating Expenses | ||||||||||||||||
| Operations | ||||||||||||||||
| Research and development | ||||||||||||||||
| Sales and marketing | ||||||||||||||||
| General and administrative | ||||||||||||||||
| Stock based compensation | ||||||||||||||||
| Total operating expenses | ||||||||||||||||
| Operating loss | ( |
) | ( |
) | ( |
) | ( |
) | ||||||||
| Other (income) expense | ||||||||||||||||
| Change in fair value of derivative liability | ( |
) | ( |
) | ( |
) | ( |
) | ||||||||
| Investment loss (income), net | ( |
) | ( |
) | ||||||||||||
| Interest expense | ||||||||||||||||
| Other, net | ||||||||||||||||
| Other (income) expense | 522,176 | (519,807 | ) | 1,076,916 | (406,580 | ) | ||||||||||
| Net loss from continuing operations | ( |
) | ( |
) | ( |
) | ( |
) | ||||||||
| Loss from discontinued operations | ( |
) | ( |
) | ( |
) | ( |
) | ||||||||
| Net loss | $ | ( |
) | $ | ( |
) | $ | ( |
) | $ | ( |
) | ||||
| Loss per share - basic and diluted | ||||||||||||||||
| Continuing operations | $ | ( |
) | $ | ( |
) | $ | ( |
) | $ | ( |
) | ||||
| Discontinued operations | ( |
) | ( |
) | ( |
) | ( |
) | ||||||||
| Loss per share - basic and diluted | $ | (0.10 | ) | $ | (0.12 | ) | $ | (0.21 | ) | $ | (0.19 | ) | ||||
| Weighted average shares outstanding - basic and diluted | ||||||||||||||||
See accompanying notes.
| 4 |
RED CAT HOLDINGS
Consolidated Statements of Stockholders’ Equity
For the three and six months ended October 31, 2023 and October 31, 2022
(Unaudited)
| Series B | Additional | Accumulated Other | ||||||||||||||||||||||||||||||
| Preferred Stock | Common Stock | Paid-in | Accumulated | Comprehensive | Total | |||||||||||||||||||||||||||
| Shares | Amount | Shares | Amount | Capital | Deficit | Income (Loss) | Equity | |||||||||||||||||||||||||
| Balances, April 30, 2022 | $ | $ | $ | $ | ( |
) | $ | ( |
) | $ | ||||||||||||||||||||||
| Stock based compensation | — | — | ||||||||||||||||||||||||||||||
| Vesting of restricted stock units | — | ( |
) | ( |
) | |||||||||||||||||||||||||||
| Unrealized gain on marketable securities | — | — | ||||||||||||||||||||||||||||||
| Currency translation adjustments | — | — | ||||||||||||||||||||||||||||||
| Net loss | — | — | ( |
) | ( |
) | ||||||||||||||||||||||||||
| Balances, July 31, 2022 | $ | $ | $ | $ | ( |
) | $ | ( |
) | $ | ||||||||||||||||||||||
| Stock based compensation | — | — | ||||||||||||||||||||||||||||||
| Vesting of restricted stock units | — | ( |
) | ( |
) | |||||||||||||||||||||||||||
| Unrealized loss on marketable securities | — | — | ( |
) | ( |
) | ||||||||||||||||||||||||||
| Currency translation adjustments | — | — | ( |
) | ( |
) | ||||||||||||||||||||||||||
| Net loss | — | — | ( |
) | ( |
) | ||||||||||||||||||||||||||
| Balances, October 31, 2022 | $ | $ | $ | $ | ( |
) | $ | ( |
) | $ | ||||||||||||||||||||||
| Balances, April 30, 2023 | $ | $ | $ | $ | ( |
) | $ | ( |
) | $ | ||||||||||||||||||||||
| Stock based compensation | — | — | ||||||||||||||||||||||||||||||
| Vesting of restricted stock units | — | ( |
) | ( |
) | |||||||||||||||||||||||||||
| Conversion of preferred stock | ( |
) | ( |
) | ||||||||||||||||||||||||||||
| Unrealized gain on marketable securities | — | — | ||||||||||||||||||||||||||||||
| Currency translation adjustments | — | — | ||||||||||||||||||||||||||||||
| Net loss | — | — | ( |
) | ( |
) | ||||||||||||||||||||||||||
| Balances, July 31, 2023 | $ | $ | $ | $ | ( |
) | $ | ( |
) | $ | ||||||||||||||||||||||
| Stock based compensation | — | — | ||||||||||||||||||||||||||||||
| Vesting of restricted stock units | — | ( |
) | ( |
) | |||||||||||||||||||||||||||
| Issuance of common stock through ATM facility, net | — | |||||||||||||||||||||||||||||||
| Unrealized gain on marketable securities | — | — | ||||||||||||||||||||||||||||||
| Currency translation adjustments | — | — | ||||||||||||||||||||||||||||||
| Net loss | — | — | ( |
) | ( |
) | ||||||||||||||||||||||||||
| Balances, October 31, 2023 | $ | $ | $ | $ | ( |
) | $ | ( |
) | $ | ||||||||||||||||||||||
See accompanying notes.
| 5 |
RED CAT HOLDINGS
Consolidated Statements of Cash Flows
(Unaudited)
| Six months ended October 31, | ||||||||
| 2023 | 2022 | |||||||
| Cash Flows from Operating Activities | ||||||||
| Net loss | $ | ( |
) | $ | ( |
) | ||
| Net loss from discontinued operations | ( |
) | ( |
) | ||||
| Net loss from continuing operations | ( |
) | ( |
) | ||||
| Adjustments to reconcile net loss to net cash from operations: | ||||||||
| Stock based compensation - options | ||||||||
| Stock awards - restricted units | ||||||||
| Amortization of intangible assets | ||||||||
| Realized loss from sale of marketable securities | ||||||||
| Depreciation | ||||||||
| Change in fair value of derivative | ( |
) | ( |
) | ||||
| Changes in operating assets and liabilities | ||||||||
| Accounts receivable | ( |
) | ( |
) | ||||
| Inventory | ( |
) | ( |
) | ||||
| Other | (1,576,157 | ) | (87,846 | ) | ||||
| Operating lease right-of-use assets and liabilities | ( |
) | ||||||
| Customer deposits | ( |
) | ( |
) | ||||
| Accounts payable | ||||||||
| Accrued expenses | ( |
) | ||||||
| Net cash used in operating activities of continuing operations | ( |
) | ( |
) | ||||
| Cash Flows from Investing Activities | ||||||||
| Purchases of property and equipment | ( |
) | ( |
) | ||||
| Proceeds from sale of marketable securities | ||||||||
| Net cash provided by investing activities of continuing operations | ||||||||
| Cash Flows from Financing Activities | ||||||||
| Proceeds from related party obligations | ||||||||
| Payments under related party obligations | ( |
) | ||||||
| Payments under debt obligations | ( |
) | ( |
) | ||||
| Payments of taxes related to equity transactions | ( |
) | ( |
) | ||||
| Proceeds from issuance of common stock through ATM facility, net | ||||||||
| Net cash used in financing activities of continuing operations | ( |
) | ( |
) | ||||
| Discontinued operations | ||||||||
| Operating activities | ( |
) | ( |
) | ||||
| Investing activities | ||||||||
| Financing activities | ||||||||
| Net cash used in discontinued operations | ( |
) | ( |
) | ||||
| Net decrease in Cash | ( |
) | ( |
) | ||||
| Cash, beginning of period | ||||||||
| Cash, end of period | ||||||||
| Less: Cash of discontinued operations | ( |
) | ( |
) | ||||
| Cash of continuing operations, end of period | ||||||||
| Cash paid for interest | ||||||||
| Cash paid for income taxes | ||||||||
| Non-cash transactions | ||||||||
| Unrealized gain (loss) on marketable securities | $ | $ | ( |
) | ||||
| Conversion of preferred stock into common stock | $ | $ | ||||||
| Shares withheld as payment of note receivable | $ | $ | ||||||
| Taxes related to net share settlement of equity awards | $ | $ | ||||||
See accompanying notes.
| 6 |
RED CAT HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Our unaudited interim consolidated financial statements and accompanying notes are prepared in accordance with accounting principles generally accepted in the United States of America ("GAAP"). In the opinion of management, the unaudited interim consolidated financial statements reflect all adjustments of a normal recurring nature that are necessary for a fair presentation of the results for the interim periods presented. Interim results are not necessarily indicative of results for a full year. The information included in this Form 10-Q should be read in conjunction with the financial information included in the Annual Report on Form 10-K for the fiscal year ended April 30, 2023 of Red Cat Holdings, Inc. (the "Company"), filed with the Securities and Exchange Commission ("SEC") on July 27, 2023.
Note 1 – The Business
Red Cat Holdings (“Red Cat” or the “Company”) was originally incorporated in February 1984. Since April 2016, the Company’s primary business has been to provide products, services, and solutions to the drone industry which it presently does through its four wholly owned subsidiaries. Beginning in January 2020, the Company expanded the scope of its drone products and services through four acquisitions, including:
| A. | In January 2020, the Company acquired Rotor Riot, a provider of First Person View (FPV) drones and equipment, primarily to consumers. The purchase price was $1,995,114. |
| B. | In November 2020, the Company acquired Fat Shark Holdings, a provider of FPV video goggles to the drone industry. The purchase price was $8,354,076. |
| C. | In May 2021, the Company acquired Skypersonic which provides hardware and software solutions that enable drones to complete inspection services in locations where GPS is either denied or not available, yet still record and transmit data even while being operated from thousands of miles away. The purchase price was $2,791,012. |
| D. | In August 2021, the Company acquired Teal Drones, a leader in commercial and government UAV (Unmanned Aerial Vehicles) technology. The purchase price was $10,011,279. |
Following the Teal acquisition in August 2021, we concentrate on integrating and organizing these businesses. Effective May 1, 2022, we established the Enterprise and Consumer segments to focus on the unique opportunities in each sector. Enterprise's initial strategy was to provide UAV's to commercial enterprises, and the military, to navigate dangerous military environments and confined industrial and commercial interior spaces. Subsequently, Enterprise narrowed its near-term attention on the military and other government agencies. Skypersonic's technology has been redirected to military applications and its operations consolidated into Teal. The Consumer segment, which includes Fat Shark and Rotor Riot, caters to hobbyists, drone racers, and enthusiasts. The reportable segments were established based on how our chief operating decision maker (“CODM”), which is a committee comprised of our Chief Executive Officer (“CEO”), Chief Operating Officer (“COO”) and our Chief Financial Officer (“CFO”), manages our business, makes resource allocation and operating decisions, and evaluates operating performance. See “Note 21 - Segment Reporting”.
| 7 |
In November 2022, we entered into an agreement to sell our Consumer segment to Unusual Machines, Inc. (or “Unusual Machines” or “UM”). The unadjusted sale price is $20 million, including $3 million in cash, at closing, and $17 million in securities of Unusual Machines plus a post-closing adjustment for excess working capital. The agreement reflects the Company's decision to focus its efforts and capital and defense where it believes that there are more opportunities to create long term shareholder value. The closing of the transaction is contingent upon Unusual Machines completing (i) an initial public offering that raises sufficient capital to close the transaction, and (ii) a listing on a public stock exchange such as the NYSE or Nasdaq.
Note 2 – Summary of Significant Accounting Policies
Basis of Accounting – The financial statements and accompanying notes are prepared in accordance with generally accepted accounting principles in the United States (“GAAP”). Certain prior period amounts have been restated to conform to the current year presentation.
Principles of Consolidation – Our consolidated financial statements include the accounts of our wholly owned operating subsidiaries which include Teal Drones, Skypersonic, Rotor Riot, and Fat Shark. Intercompany transactions and balances have been eliminated.
As further described in Note 3, we presently expect to sell our Consumer segment, which includes Rotor Riot and Fat Shark, within the next twelve months. Accordingly, the Consumer segment businesses are characterized as Discontinued Operations in these financial statements. The assets and liabilities of these entities have been presented separately in the Consolidated Balance Sheet as discontinued operations. Similarly, the operating results and cash flows of discontinued operations are separately stated in those respective financial statements.
Use of Estimates – The preparation of financial statements in accordance with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. Significant estimates reflected in these financial statements include those used to (i) determine stock-based compensation, (ii) complete purchase price accounting for acquisitions, (iii) accounting for derivatives, (iv) reserves and allowances related to accounts receivable and inventory, and (v) the evaluation of long-term assets, including goodwill, for impairment.
Cash and Cash Equivalents – At October 31, 2023, we had cash of $1,408,977 in multiple commercial banks and financial services companies. We have not experienced any loss on these cash balances and believe they are not exposed to any significant credit risk.
Marketable Securities – Our marketable securities have been classified and accounted for as available-for-sale securities. These securities are primarily invested in corporate bonds and are readily saleable, and therefore, we have classified them as short term. Our available-for-sale securities are carried at fair value with any unrealized gains and losses reported as a component of comprehensive income (loss). Once realized, any gains or losses are recognized in the statement of operations.
We have elected to present accrued interest income separately from marketable securities on our consolidated balance sheets. Accrued interest income was $20,572 and $151,671 as of October 31, 2023 and April 30, 2023, respectively, and was included in other current assets. We did not write off any accrued interest income during the six months ended October 31, 2023 and 2022.
| 8 |
Accounts Receivable, net – Accounts receivable are recorded at the invoiced amount less allowances for doubtful accounts. The Company's estimate of the allowance for doubtful accounts is based on a multitude of factors, including historical bad debt levels for its customer base, experience with a specific customer, the economic environment, and other factors. Accounts receivable balances are written off against the allowance when it is probable that the receivable will not be collected.
Inventories – Inventories, which consist of raw materials, work-in-process, and finished goods, are stated at the lower of cost or net realizable value, and are measured using the first-in, first-out method. Cost components include direct materials and direct labor, as well as in-bound freight. At each balance sheet date, the Company evaluates the net realizable value of its inventory using various reference measures including current product selling prices and recent customer demand, as well as evaluating for excess quantities and obsolescence.
Goodwill and Long-lived Assets – Goodwill represents the future economic benefit arising from other assets acquired in an acquisition that are not individually identified and separately recognized. We test goodwill for impairment in accordance with the provisions of ASC 350, Intangibles – Goodwill and Other, (“ASC 350”). Goodwill is tested for impairment at least annually at the reporting unit level or whenever events or changes in circumstances indicate that goodwill might be impaired. ASC 350 provides that an entity has the option to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If, after assessing the totality of events or circumstances, an entity determines it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then additional impairment testing is not required. However, if an entity concludes otherwise, then it is required to perform an impairment test. The impairment test involves comparing the estimated fair value of a reporting unit with its book value, including goodwill. If the estimated fair value exceeds book value, goodwill is considered not to be impaired. If, however, the fair value of the reporting unit is less than book value, then an impairment loss is recognized in an amount equal to the amount that the book value of the reporting unit exceeds its fair value, not to exceed the total amount of goodwill allocated to the reporting unit.
The estimate of fair value of a reporting unit is computed using either an income approach, a market approach, or a combination of both. Under the income approach, we utilize the discounted cash flow method to estimate the fair value of a reporting unit. Significant assumptions inherent in estimating the fair values include the estimated future cash flows, growth assumptions for future revenues (including gross margin, operating expenses, and capital expenditures), and a rate used to discount estimated future cash flow projections to their present value based on estimated weighted average cost of capital (i.e., the selected discount rate). Our assumptions are based on historical data, supplemented by current and anticipated market conditions, estimated growth rates, and management’s plans. Under the market approach, fair value is derived from metrics of publicly traded companies or historically completed transactions of comparable businesses. The selection of comparable businesses is based on the markets in which the reporting units operate and consider risk profiles, size, geography, and diversity of products and services.
Goodwill for Rotor Riot relates to its strong social media presence including more than 200,000 YouTube subscribers. Goodwill for Fat Shark is attributable to its relationship with manufacturing sources in China and the potential to integrate its goggle technologies with the Teal drone. Goodwill for Teal is ascribed to its existing relationship with several U.S. government agencies including its classification as an approved vendor. The Company expects that the Goodwill recognized in each transaction will be deductible for tax purposes. The Company has reported net losses since its inception and is presently unable to determine when and if the tax benefit of this deduction will be realized.
Property and equipment – Property and equipment is stated at cost less accumulated depreciation which is calculated using the straight-line method over the estimated useful life of the asset. The estimated useful lives of our property and equipment are generally: (i) furniture and fixtures - seven years, (ii) equipment and related - two to five years, and (iii) leasehold improvements - 15 years.
| 9 |
Leases – Accounting Standards Codification (ASC) 842 requires the recognition of assets and liabilities associated with lease agreements. The Company determines if a contract is a lease or contains a lease at inception. Operating lease liabilities are measured, on each reporting date, based on the present value of the future minimum lease payments over the remaining lease term. The Company's leases do not provide an implicit rate. Therefore, the Company uses an effective discount rate of 12% based on its last debt financing. Operating lease assets are measured by adjusting the lease liability for lease incentives, initial direct costs incurred and asset impairments. Lease expense for minimum lease payments is recognized on a straight-line basis over the lease term with the operating lease asset reduced by the amount of the expense. Lease terms may include options to extend or terminate a lease when they are reasonably certain to occur.
Fair Values, Inputs and Valuation Techniques for Financial Assets and Liabilities, and Related Disclosures – The fair value measurements and disclosure guidance defines fair value and establishes a framework for measuring fair value. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. In accordance with this guidance, the Company has categorized its recurring basis financial assets and liabilities into a three-level fair value hierarchy based on the priority of the inputs to the valuation technique.
The fair value hierarchy gives the highest priority to quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3). The inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, the level in the fair value hierarchy within which the fair value measurement in its entirety falls has been determined based on the lowest level input that is significant to the fair value measurement in its entirety. The Company's assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment and considers factors specific to the asset or liability.
The guidance establishes three levels of the fair value hierarchy as follows:
Level 1: Inputs are unadjusted, quoted prices in active markets for identical assets or liabilities at the measurement date;
Level 2: Inputs are observable, unadjusted quoted prices in active markets for similar assets or liabilities, unadjusted quoted prices for identical or similar assets or liabilities in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the related assets or liabilities; and
Level 3: Unobservable inputs that are significant to the measurement of the fair value of the assets or liabilities that are supported by little or no market data.
Disclosures for Non-Financial Assets Measured at Fair Value on a Non-Recurring Basis
The Company's financial instruments mainly consist of cash, receivables, current assets, accounts payable, accrued expenses and debt. The carrying amounts of these instruments approximates fair value due to their short-term nature.
Convertible Securities and Derivatives
When the Company issues convertible debt or equity instruments that contain embedded derivative instruments that are to be bifurcated and accounted for as liabilities, the total proceeds from the convertible host instruments are first allocated to the bifurcated derivative instruments. The remaining proceeds, if any, are then allocated to the convertible instruments themselves, resulting in those instruments being recorded at a discount from their face value but no lower than zero. Any excess amount is recognized as a derivative expense.
| 10 |
Derivative Liabilities
The Company has issued financial instruments which include embedded features subject to derivative accounting. Specifically, there are warrants outstanding, issued in connection with a convertible debt financing, which include provisions under which the exercise price is equal to the lesser of (i) $1.50 or (ii) the exercise or conversion price of securities issued in a future, qualified offering. Embedded derivatives are valued separately from the host instrument and are recognized as liabilities on the Company's balance sheet. The warrants are valued using a multinomial lattice method that values the derivative liability based on a probability weighted discounted cash flow model. The liability is valued at each reporting date and the change in liability is reflected as a change in derivative liability in the statement of operations.
Revenue Recognition – The Company recognizes revenue in accordance with ASC 606, “Revenue from Contracts with Customers”, issued by the Financial Accounting Standards Board (“FASB”). This standard includes a comprehensive evaluation of factors to be considered regarding revenue recognition including (i) identifying the promised goods, (ii) evaluating performance obligations, (iii) measuring the transaction price, (iv) allocating the transaction price to the performance obligations if there are multiple components, and (v) recognizing revenue as each obligation is satisfied. The Company’s revenue transactions include a single component, specifically, the shipment of goods to customers as orders are fulfilled. The Company recognizes revenue upon shipment. The timing of the shipment of orders can vary considerably depending upon whether an order is for an item normally maintained in inventory or an order that requires assembly or unique parts. Customer deposits totaled $61,805 and $155,986 at October 31, 2023 and April 30, 2023, respectively.
Research and Development – Research and development expenses include payroll, employee benefits, and other headcount-related expenses associated with product development. Research and development expenses also include third-party development and programming costs, as well as a proportionate share of overhead costs such as rent.
Income Taxes – Deferred taxes are provided on the liability method whereby deferred tax assets are recognized for deductible temporary differences and deferred tax liabilities are recognized for taxable temporary differences. Temporary differences are the differences between the reported amounts of assets and liabilities and their tax bases. Deferred tax assets and liabilities are adjusted for the effects of changes in tax laws and rates on the date of enactment.
Recent Accounting Pronouncements – Management does not believe that recently issued, but not yet effective accounting pronouncements, if adopted, would have a material effect on the accompanying consolidated financial statements.
Foreign Currency – The functional currency of our international subsidiary, Skyset, is the local Italian currency. For that subsidiary, we translate assets and liabilities to U.S. dollars using period-end exchange rates, and average monthly exchange rates for revenues, costs, and expenses. We record translation gains and losses in accumulated other comprehensive income.
Comprehensive Loss – Comprehensive loss consists of net loss and other comprehensive loss. Other comprehensive loss refers to gains and losses that are recorded as an element of stockholders' equity but are excluded from net loss. Our other comprehensive loss is comprised of foreign currency translation adjustments and unrealized gains or losses on available-for-sale securities. During the six months ended October 31, 2023, comprehensive loss was $656,074 lower than net loss, primarily related to unrealized gains on available-for-sale securities totaling $653,052, and foreign currency translation adjustments of $3,022. During the six months ended October 31, 2022, comprehensive loss was $218,133 higher than net loss, primarily related to unrealized losses on available-for-sale securities totaling $217,229, and foreign currency translation adjustments of $904.
| 11 |
Stock-Based Compensation – Stock options are valued using the estimated grant-date fair value method of accounting in accordance with ASC Topic 718, Compensation – Stock Compensation. Fair value is determined based on the Black-Scholes Model using inputs reflecting our estimates of expected volatility, term and future dividends. We recognize forfeitures as they occur. The fair value of restricted stock is based on our stock price on the date of grant. Compensation cost is recognized on a straight-line basis over the service period which is the vesting term.
| October 31, 2023 | April 30, 2023 |
|||||||
| Series B Preferred Stock, as converted | ||||||||
| Stock options | ||||||||
| Warrants | ||||||||
| Restricted stock | ||||||||
| Total | ||||||||
Related Parties – Parties are considered to be related to us if they have control or significant influence, directly or indirectly, over us, including key management personnel and members of the Board of Directors. Related Party transactions are disclosed in Note 20.
Segment Reporting
Since January 2020, we have acquired four separate businesses operating in various aspects of the drone industry. Following the Teal acquisition in August 2021, we focused on integrating and organizing these businesses. Effective May 1, 2022, we established the Enterprise and Consumer segments to focus on the unique opportunities in each sector. Enterprise's initial strategy was to provide UAV's to commercial enterprises, and the military, to navigate dangerous military environments and confined industrial and commercial interior spaces. Subsequently, Enterprise narrowed its near-term attention on the military and other government agencies. Skypersonic's technology has been redirected to military applications and its operations consolidated into Teal. The Consumer segment, which includes Fat Shark and Rotor Riot, caters to hobbyists, drone racers, and enthusiasts. The reportable segments were established based on how our CODM manages our business, makes resource allocation and operating decisions, and evaluates operating performance. See “Note 21 - Segment Reporting”.
Liquidity and Going Concern – The Company has never been profitable and its net losses have been increasing related to acquisitions, as well as costs incurred to pursue its long-term growth strategy. During the six months ended October 31, 2023, the Company incurred a net loss from continuing operations of $10,649,592 and used cash in operating activities of continuing operations of $11,240,359. As of October 31, 2023, working capital for continuing operations totaled $15,128,282. These financial results and our financial position at October 31, 2023 raise substantial doubt about our ability to continue as a going concern. However, the Company has recently taken actions to strengthen its liquidity. On December 11, 2023, we closed an offering of 18,400,000 shares of common stock which generated net proceeds of approximately $8,400,000 as further described in Note 24. In addition, the Company’s operating plan for the next twelve months has been updated to reflect recent operating improvements. Revenues have accelerated and are expected to continue growing. The Company’s new manufacturing facility is scaling production and gross margins are projected to increase. Management has concluded that these recent positive developments alleviate any substantial doubt about the Company’s ability to continue its operations, and meet its financial obligations, for twelve months from the date these consolidated financial statements are issued. See “Note 24 – Subsequent Events”.
| 12 |
Note 3 – Discontinued Operations – Sale of Consumer Segment
In November 2022, the Company agreed to the sale of its Consumer segment consisting of Rotor Riot, (“RR”), and Fat Shark Holdings (“FS”). The closing of the transaction is subject to the successful initial public offering by the buyer, Unusual Machines, Inc. The Company has concluded that the transaction is presently likely to close within the next twelve months. Accordingly, the Consumer segment has been classified as Discontinued Operations and reported in accordance with the applicable accounting standards. See Note 22 for additional information regarding the transaction. Set forth below are the results of operations for the Consumer segment for:
|
Three months ended October 31, |
Six months ended October 31, |
|||||||||||||||
| 2023 | 2022 | 2023 | 2022 | |||||||||||||
| Revenues | $ | $ | $ | $ | ||||||||||||
| Cost of goods sold | ||||||||||||||||
| Gross Margin | ( |
) | ||||||||||||||
| Operating Expenses | ||||||||||||||||
| Operations | ||||||||||||||||
| Research and development | ||||||||||||||||
| Sales and marketing | ||||||||||||||||
| General and administrative | ||||||||||||||||
| Total operating expenses | ||||||||||||||||
| Operating loss | ( |
) | ( |
) | ( |
) | ( |
) | ||||||||
| Other (income) expense | ||||||||||||||||
| Interest expense | ||||||||||||||||
| Other, net | ( |
) | ( |
) | ( |
) | ( |
) | ||||||||
| Other (income) expense | (31 | ) | (8,050 | ) | 22,706 | (8,174 | ) | |||||||||
| Net loss from discontinued operations | $ | ( |
) | $ | ( |
) | $ | ( |
) | $ | ( |
) | ||||
| 13 |
Assets and liabilities for the Consumer segment included:
| October 31, 2023 | April 30, 2023 | |||||||
| Current assets | ||||||||
| Cash | $ | $ | ||||||
| Accounts receivable, net | ||||||||
| Inventory | ||||||||
| Other | ||||||||
| Total current assets | ||||||||
| Intangible assets, net | ||||||||
| Other | ||||||||
| Operating lease right-of-use assets | ||||||||
| Total long term assets | ||||||||
| Current liabilities | ||||||||
| Accounts payable | $ | $ | ||||||
| Accrued expenses | ||||||||
| Debt obligations - short term | ||||||||
| Customer deposits | ||||||||
| Operating lease liabilities | ||||||||
| Total current liabilities | ||||||||
| Long term liabilities - Operating lease liabilities | ||||||||
| Working capital | $ | $ | ||||||
Note 4 – Marketable Securities
Marketable securities consisted solely of corporate
bonds at October 31, 2023 and were classified at Level 2 in the Fair Value Hierarchy. Fair value, cost basis, and unrealized losses totaled
$
Note 5 – Inventories
Inventories consisted of the following:
| October 31, 2023 | April 30, 2023 | |||||||
| Raw materials | $ | $ | ||||||
| Work-in-process | ||||||||
| Finished goods | ||||||||
| Total | $ | $ | ||||||
| 14 |
Note 6 – Other Current Assets
Other current assets included:
| October 31, 2023 | April 30, 2023 | |||||||
| Prepaid inventory | $ | $ | ||||||
| Prepaid expenses | ||||||||
| Accrued interest income | ||||||||
| Total | $ | $ | ||||||
Note 7 – Due From Related Party
In January 2022, the Company determined that a senior
executive had relocated in 2021 but their compensation had not been subject to the income tax withholding required by the new jurisdiction. The
amount subject to taxation included $
Note 8 – Intangible Assets
Intangible assets relate to acquisitions completed by the Company, including those described in Note 1, and were as follows:
| October 31, 2023 | April 30, 2023 | |||||||||||||||||||||||
| Gross Value | Accumulated Amortization | Net Value |
Gross Value |
Accumulated Amortization | Net Value | |||||||||||||||||||
| Proprietary technology | $ | $ | ( |
) | $ | $ | $ | ( |
) | $ | ||||||||||||||
| Non-compete agreements | ( |
) | ( |
) | ||||||||||||||||||||
| Customer relationships | ( |
) | ( |
) | ||||||||||||||||||||
| Total finite-lived assets | ( |
) | ( |
) | ||||||||||||||||||||
| Brand name | ||||||||||||||||||||||||
| Total indefinite-lived assets | ||||||||||||||||||||||||
| Total intangible assets, net | $ | $ | ( |
) | $ | $ | $ | ( |
) | $ | ||||||||||||||
Proprietary technology and non-compete agreements are being amortized over five to six years and three years, respectively. Customer relationships are being amortized over seven years. Goodwill and Brand name are not amortized but evaluated for impairment on a quarterly basis.
| 15 |
As of October 31, 2023, expected amortization expense for finite-lived intangible assets for the next five years is as follows:
| Fiscal Year Ended: | ||||||
| 2024 | $ | |||||
| 2025 | ||||||
| 2026 | ||||||
| 2027 | ||||||
| 2028 | ||||||
| Thereafter | ||||||
| Total | $ | |||||
Goodwill represents the future economic benefit arising from other assets acquired in an acquisition that are not individually identified and separately recognized. The composition of, and changes in goodwill, consist of:
| Date | Acquisition | Goodwill | ||||||
| January 2020 | Rotor Riot | $ | ||||||
| November 2020 | Fat Shark | |||||||
| May 2021 | Skypersonic | |||||||
| August 2021 | Teal Drones | |||||||
| April 2023 - Impairment loss | Skypersonic | ( |
) | |||||
| Balance at April 30, 2023 and October 31, 2023 | $ | |||||||
Following the establishment of the Enterprise and
Consumer segments, management evaluated the long-term business strategy of each segment. This resulted in the Enterprise segment narrowing
its focus on the military and other government agencies. It was determined that Skypersonic's technology would be re-focused for the near
term on military applications and consolidated into the operations of Teal Drones. The Company completes a formal evaluation of the carrying
value of its intangible assets, including goodwill, at the end of each fiscal year. Based on (i) the operating results for Skypersonic
since its acquisition in May 2021, (ii) its consolidation into Teal, (iii) our current expectations of its future business conditions
and trends, including its projected revenues, expenses, and cash flows, the Company recognized an impairment charge of $
Note 9 – Property and Equipment
Property and equipment consist of assets with an estimated useful life greater than one year and are reported net of accumulated depreciation. The reported values are periodically assessed for impairment, and were as follows:
| October 31, 2023 | April 30, 2023 | |||||||
| Equipment and related | $ | $ | ||||||
| Leasehold improvements | ||||||||
| Furniture and fixtures | ||||||||
| Accumulated depreciation | ( |
) | ( |
) | ||||
| Net carrying value | $ | $ | ||||||
Depreciation expense totaled $
| 16 |
Note 10 – Other Long-Term Assets
Other long-term assets included:
| October 31, 2023 | April 30, 2023 | |||||||
| SAFE agreement | $ | $ | ||||||
| Security deposits | ||||||||
| Total | $ | $ | ||||||
In November 2022, the Company entered into a SAFE
(Simple Agreement for Future Equity) agreement with Firestorm Labs, Inc. (“Firestorm”) under which it made a payment of $
Note 11 – Operating Leases
As of October 31, 2023, the Company had operating
type leases for real estate and no finance type leases. The Company’s leases have remaining lease terms of up to 3.58 years, some
of which may include options to extend for up to 5 years. Operating lease expense totaled $
Leases on which the Company made rent payments during the reporting period included:
| Location | Monthly Rent | Expiration | ||||||
| South Salt Lake, Utah | $ | December 2024 | ||||||
| San Juan, Puerto Rico | $ | June 2027 | ||||||
| Troy, Michigan | $ | May 2022 | ||||||
Supplemental information related to operating leases for the six months ended October 31, 2023 was:
| Operating cash paid to settle lease liabilities | $ |
|||
| Weighted average remaining lease term (in years) | ||||
| Weighted average discount rate | ||||
Future lease payments at October 31, 2023 were as follows:
| Fiscal Year Ended: | ||||||
| 2024 | ||||||
| 2025 | ||||||
| 2026 | ||||||
| 2027 | ||||||
| 2028 | ||||||
| Total | $ | |||||
| 17 |
Note 12 – Debt Obligations
| A. | Decathlon Capital |
On August 31, 2021, Teal entered into an Amended and
Restated Loan and Security Agreement with Decathlon Alpha IV, L.P. (“DA4”) in the amount of $
| B. | Pelion Note |
In May 2021, Teal entered
into a note agreement totaling $
| C. | Vendor Agreement |
In connection with the acquisition
of Teal on August 31, 2021, the Company assumed an obligation with a contract manufacturing firm. The assumed balance of $
| D. | SBA Loan |
In February 2021, Teal received a Small Business Administration
Paycheck Protection Program (“SBA PPP”) loan in the amount of $
| E. | Corporate Equity |
Beginning in October 2021, and amended in January
2022, Teal financed a total of $
| F. | Revenue Financing Arrangement |
In April 2021, Teal entered
into an agreement under which it sold future customer payments, at a discount, to Forward Financing. At August 31, 2021, the Company assumed
the outstanding balance of $
| G. | Ascentium Capital |
In September 2021, Teal entered into a financing agreement
with Ascentium Capital to fund the purchase of a fixed asset totaling $
| 18 |
| H. | Summary |
Outstanding principal payments on debt obligations are due as follows:
| Fiscal 2024 | 643,012 | |||
| Fiscal 2025 | ||||
| Total | $ | |||
| Short term – through October 31, 2024 | $ | |||
| Long term – thereafter | $ |
Note 13 – Due to Related Party
BRIT, LLC
In January 2020, in connection with the
acquisition of Rotor Riot, the Company assumed a line of credit obligation of the seller, BRIT, LLC, totaling $
Note 14 – Income Taxes
Our operating subsidiary, Red Cat Propware, Inc., is incorporated and based in Puerto Rico which is a commonwealth of the United States. We are not subject to taxation by the United States as Puerto Rico has its own taxing authority. Since inception, we have incurred net losses in each year of operations. Our current provision for the reporting periods presented in these financial statements consisted of a tax benefit against which we applied a full valuation allowance, resulting in no current provision for income taxes. In addition, there was no deferred provision for any of these reporting periods.
At October 31, 2023 and April 30, 2023, we had accumulated
deficits of approximately $
and $, respectively. Deferred tax assets related to the future benefit of these net operating
losses for tax purposes totaled approximately $
| 19 |
Note 15 – Common Stock
Our common stock has a par value of $0.001 per share. We are authorized to issue 500,000,000 shares of common stock. Each share of common stock is entitled to one vote. A summary of shares of common stock issued by the Company since April 30, 2022 is as follows:
| Description of Shares | Shares Issued | |||
| Shares outstanding as of April 30, 2022 | ||||
| Vesting of restricted stock to employees, net of shares withheld of 273,874 to pay taxes and 9,000 to repay a Note | ||||
| Vesting of restricted stock to Board of Directors | ||||
| Vesting of restricted stock to consultants | ||||
| Shares issued for services | ||||
| Shares outstanding as of April 30, 2023 | ||||
| Vesting of restricted stock to employees, net of shares withheld of 18,935 to pay taxes | ||||
| Vesting of restricted stock to Board of Directors | ||||
| Vesting of restricted stock to consultants | ||||
| Conversion of preferred stock | ||||
| Issuance of common stock through ATM facilities | ||||
| Shares outstanding as of October 31, 2023 | ||||
ATM Facility
In August 2023, we entered into a sales agreement (“the 2023 ATM Facility”) with ThinkEquity LLC (“ThinkEquity”), which provides for the sale, in our sole discretion, of shares of our common stock having an aggregate offering price of up to $17 million through ThinkEquity, as our sales agent. The issuance and sale of these shares by us pursuant to the 2023 ATM Facility are deemed “at the market” offerings as defined in Rule 415 under the Securities Act of 1933, as amended (the Securities Act), and are registered under the Securities Act. We pay a commission of up to 2.5% of gross sales proceeds of any common stock sold under the 2023 ATM Facility.
During the six months ended October 31, 2023, we sold an aggregate of
shares of common stock under the 2023 ATM Facility, at an average price of $1.07 per share, for gross proceeds of approximately $
Subsequent to the quarter ended October 31, 2023, in December 2023, the terms of the 2023 ATM Facility were amended to change the aggregate offering price to up to $4,375,000.
Note 16 – Preferred Stock
Series B Preferred Stock (“Series B Stock”) is convertible into common stock at a ratio of 0.8334 shares of common stock for each share of Series B Stock held and votes together with the common stock on an as-if-converted basis. 982,000 shares of Series B Stock were converted into 818,334 shares of common stock in June 2023. Shares outstanding at October 31, 2023 totaled which are convertible into shares of common stock.
| 20 |
Note 17 – Warrants
The Company issued 5 year warrants to investors in connection with two
convertible note financings. The warrants have an initial exercise price of $
A summary of the warrants issued and their fair values were:
| Upon Issuance | Outstanding at October 31, 2023 | |||||||||||||||||
| Date of Transaction | Number of Warrants | Initial Fair Value | Number of Warrants | Fair Value | ||||||||||||||
| October 2020 | $ | $ | ||||||||||||||||
| January 2021 | $ | $ | ||||||||||||||||
To date, we have received $301,248 related to the exercise of 268,332 warrants. These exercises eliminated the derivative liability in these warrants, resulting in a decrease of $857,446 in the derivative liability with a corresponding increase in additional paid in capital.
In May 2021, the Company issued warrants to purchase
shares of common stock to the placement agent of its common stock offering. The warrants have a five-year term and an exercise
price of $
In July 2021, the Company issued warrants to purchase shares of common stock to the placement agent of its common stock offering. The warrants have a five-year term and an exercise
price of $
There have been no issuances or exercises of warrants since April 30, 2022. The key attributes of the 1,539,999 warrants outstanding, which have a weighted average exercise price of $3.38, are as follows:
Weighted-average Remaining Contractual Term (in years) |
Aggregate Intrinsic Value |
||||||
| April 30, 2022 | 3.89 | $427,533 | |||||
| April 30, 2023 | 2.89 | $— | |||||
| October 31, 2023 | 2.38 | $— | |||||
The 2019 Equity Incentive Plan (the "Plan") allows us to incentivize key employees, consultants, and directors with long term compensation awards such as stock options, restricted stock, and restricted stock units (collectively, the "Awards"). The number of shares issuable in connection with Awards under the Plan may not exceed .
| A. | Options |
The range of assumptions used to calculate the fair value of options granted during the six months ended October 31 was:
| 21 |
| 2023 | 2022 | |||||||
| Exercise Price | $ | – | $ | |||||
| Stock price on date of grant | – | |||||||
| Risk-free interest rate | – % | % | ||||||
| Dividend yield | — | |||||||
| Expected term (years) | – | |||||||
| Volatility | – % | % |
A summary of options activity under the Plan since April 30, 2022 was:
| Shares | Weighted-Average Exercise Price | Weighted-Average Remaining Contractual Term | Aggregate Intrinsic Value | |||||||||||||
| Outstanding as of April 30, 2022 | $ | |||||||||||||||
| Granted | ||||||||||||||||
| Exercised | ||||||||||||||||
| Forfeited or expired | ( |
) | ||||||||||||||
| Outstanding as of April 30, 2023 | ||||||||||||||||
| Granted | ||||||||||||||||
| Exercised | ||||||||||||||||
| Forfeited or expired | ( |
) | ||||||||||||||
| Outstanding as of October 31, 2023 | ||||||||||||||||
| Exercisable as of October 31, 2023 | $ | $ | ||||||||||||||
The aggregate intrinsic value of outstanding options
represents the excess of the stock price at the indicated date over the exercise price of each option. As of October 31, 2023 and October
31, 2022, there was $
| B. | Restricted Stock |
A summary of restricted stock activity under the Plan since April 30, 2022 was:
| Shares | Weighted Average Grant-Date Fair Value Per Share | |||||||
| Unvested and outstanding as of April 30, 2022 | $ | |||||||
| Granted | ||||||||
| Vested | ( |
) | ||||||
| Forfeited | ( |
) | ||||||
| Unvested and outstanding as of April 30, 2023 | ||||||||
| Granted | ||||||||
| Vested | ( |
) | ||||||
| Forfeited | ( |
) | ||||||
| Unvested and outstanding as of October 31, 2023 | $ | |||||||
| 22 |
| C. | Stock Compensation |
Stock compensation expense by functional operating expense was:
|
Three months ended October 31, |
Six months ended October 31, |
|||||||||||||||
| 2023 | 2022 | 2023 | 2022 | |||||||||||||
| Operations | $ | $ | $ | $ | ||||||||||||
| Research and development | ||||||||||||||||
| Sales and marketing | ||||||||||||||||
| General and administrative | ||||||||||||||||
| Total | $ | $ | $ | $ | ||||||||||||
Stock compensation expense pertaining to options
totaled $
Note 19 – Derivatives
The Company has completed financings which included notes and warrants containing embedded features subject to derivative accounting. Both the notes and the warrants included provisions which provided for a reduction in the conversion and exercise prices, respectively, if the Company completed a future qualified offering at a lower price. These provisions represent embedded derivatives which are valued separately from the host instrument (meaning the notes and warrants) and recognized as derivative liabilities on the Company's balance sheet. The Company initially measures these financial instruments at their estimated fair value and recognizes changes in their estimated fair value in results of operations during the period of change. The Company also measures these financial instruments on the date of settlement (meaning when the note is converted, or the warrant is exercised) at their estimated fair value and recognizes changes in their estimated fair value in results of operations. Any discount in the carrying value of the note is fully amortized on the date of settlement and recognized as interest expense. The Company estimated the fair value of these embedded derivatives using a multinomial lattice model. The range of underlying assumptions used in the binomial model to determine the fair value of the derivative warrant liability upon settlement of the derivative liability and as of October 31, 2023 and April 30, 2023 are set forth below. In addition, the Company's stock price on each measurement date was used in the model.
| October 31, 2023 | April 30, 2023 | |||||||
| Risk-free interest rate | – % | – % | ||||||
| Expected dividend yield | ||||||||
| Expected term (in years) | – | – | ||||||
| Expected volatility | – % | – % |
As of October 31, 2023, all of the notes had been converted into common stock and 806,666 of the warrants were outstanding. Changes in the derivative liability during the six months ended October 31, 2023 and the year ended April 30, 2023 were as follows:
| October 31, 2023 | April 30, 2023 | |||||||
| Balance, beginning of period | $ | $ | 1,607,497 | |||||
| Additions | — | |||||||
| Eliminated upon conversion of notes/exercise of warrants | — | |||||||
| Changes in fair value | ( |
) | (1,019,292 | ) | ||||
| Balance, end of period | $ | $ | 588,205 | |||||
| 23 |
Changes in fair value primarily relate to changes in the Company’s stock price during the period, with increases in the stock price increasing the liability and decreases in the stock price reducing the liability.
Note 20 - Related-Party Transactions
In July 2021, the Company entered into a consulting
agreement with a director resulting in monthly payments of $
In January 2022, the Company entered into a note agreement
with an employee in the principal amount of $
Additional related party transactions are disclosed in Note 13 and Note 22.
Note 21 - Segment Reporting
The following table sets forth key operating data and asset categories which are reviewed by our CODM in evaluating the operating performance of each segment:
| For the six months ended October 31, 2023 | ||||||||||||||||
| Enterprise | Consumer | Corporate | Total | |||||||||||||
| Revenues | $ | $ | $ | $ | ||||||||||||
| Cost of goods sold | ||||||||||||||||
| Gross margin | ||||||||||||||||
| Operating expenses | ||||||||||||||||
| Operating loss | ( |
) | ( |
) | ( |
) | ( |
) | ||||||||
| Other expenses, net | ||||||||||||||||
| Net loss | $ | ( |
) | $ | ( |
) | ( |
) | $ | ( |
) | |||||
| For the six months ended October 31, 2022 | ||||||||||||||||
| Enterprise | Consumer | Corporate | Total | |||||||||||||
| Revenues | $ | $ | $ | $ | ||||||||||||
| Cost of goods sold | ||||||||||||||||
| Gross margin | ||||||||||||||||
| Operating expenses | ||||||||||||||||
| Operating loss | ( |
) | ( |
) | ( |
) | ( |
) | ||||||||
| Other expenses, net | ( |
) | ( |
) | ( |
) | ||||||||||
| Net loss | $ | ( |
) | $ | ( |
) | $ | ( |
) | $ | ( |
) | ||||
| 24 |
| As of October 31, 2023 | ||||||||||||||||
| Enterprise | Consumer | Corporate | Total | |||||||||||||
| Accounts receivable, net | $ | $ | $ | $ | ||||||||||||
| Inventory, net | ||||||||||||||||
| Inventory deposits | $ | $ | $ | $ | ||||||||||||
| As of April 30, 2023 | ||||||||||||||||
| Enterprise | Consumer | Corporate | Total | |||||||||||||
| Accounts receivable, net | $ | $ | $ | $ | ||||||||||||
| Inventory, net | ||||||||||||||||
| Inventory deposits | $ | $ | $ | $ | ||||||||||||
Note 22 - Sale of Consumer Segment
In November 2022, the Board of Directors approved a Stock Purchase Agreement (the "SPA") between the Company, Unusual Machines and Jeffrey Thompson, the founder and Chief Executive Officer of the Company, related to the sale of the Company’s Consumer segment consisting of Rotor Riot, (“RR”), and Fat Shark Holdings (“FS”), to UM. In March 2023, shareholders approved the sale. Mr. Thompson is a significant shareholder in Unusual Machines.
The final, amended purchase price of $20 million includes $1 million in cash, payable at closing, a $2 million secured promissory note, with the remaining $17 million consisting of shares of common stock of Unusual Machines. The purchase price will be adjusted for working capital on the closing date (increased for positive working capital and decreased for negative working capital). The Company estimates that working capital at closing will range between $3.0 to $4.5 million. The number of shares of UM’s common stock (the “Unusual Common Stock”) to be issued will be based on the initial public offering price for the Unusual Common Stock. All of the Unusual Common Stock will be subject to a lock-up of 180 days and be eligible for registration. The closing of the SPA is subject to the successful completion of an initial public offering (the “IPO”) by UM in the minimum amount of $5 million, and the listing of UM’s common stock on a public stock exchange such as the NYSE or Nasdaq. UM filed a registration statement on Form S-1 for an initial public offering of its Common Stock with the SEC.
Note 23 – Commitments and Contingencies
Legal Proceedings
In the ordinary course of business, we may be involved, at times, in various legal proceedings involving a variety of matters. We do not believe there are any pending legal proceedings that will have a material adverse effect on our business, consolidated financial position, results of operations, or cash flows. However, the outcome of such legal matters is inherently unpredictable and subject to significant uncertainties. We have not recorded any litigation reserves as of October 31, 2023.
| 25 |
One pending legal matter is an action filed against Teal Drones and the Company in a U.S. District Court in California. The complaint asserts claims for breach of contract, and the unlawful conversion and sale of shares of common stock that plaintiff alleges to have purchased in Teal prior to its acquisition by the Company. The complaint also alleges breach of fiduciary duty and seeks in excess of $1 million in damages. The Company is asserting vigorous defenses to the complaint.
Note 24 – Subsequent Events
Subsequent events have been evaluated through the date of this filing and there are no subsequent events which require disclosure except as set forth below:
On December 11, 2023, the Company closed an offering of 18,400,000 shares of common stock which generated gross proceeds of $9,200,000 and net proceeds of approximately $8,400,000 million. In connection with the offering, the amount of shares issuable under the ATM Facility was reduced to $4,375,000.
| 26 |
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with our unaudited condensed consolidated financial statements and related notes and other financial data included elsewhere in this Quarterly Report on Form 10-Q.
Management's Discussion and Analysis contains forward-looking statements that involve risks and uncertainties such as statements relating to our liquidity, and our plans for our business focusing on providing products, services and solutions to the drone industry. Any statements that are not historical fact are forward-looking statements. When used, the words "believe," "plan," "intend," "anticipate," "target," "estimate," "expect," and the like, and/or future-tense or conditional constructions ("will," "may," "could," "should," etc.), or similar expressions, identify certain of these forward-looking statements. These forward-looking statements are subject to risks and uncertainties that could cause actual results or events to differ materially from those expressed or implied by the forward-looking statements in this Quarterly Report on Form 10-Q. The Company's actual results and the timing of events could differ materially from those anticipated in these forward-looking statements as a result of many factors. Investors should also review the risk factors in the Company's Annual Report on Form 10-K filed with the SEC on July 27, 2023.
All forward-looking statements speak only as of the date on which they are made. The Company does not undertake any obligation to update such forward-looking statements to reflect events that occur or circumstances that exist after the date of this Quarterly Report on Form 10-Q except as required by federal securities law.
Recent Developments
Corporate developments during the two years ended October 31, 2023 include:
Capital Transactions
During the first quarter of fiscal 2022, the Company completed two firm commitment underwritten public offerings with ThinkEquity, a division of Fordham Financial Management. The first offering, in May 2021, generated gross and net proceeds of $16 and $14.6 million, respectively. The second offering, in July 2021, generated gross and net proceeds of $60 and $55.5 million, respectively.
In August 2023, we entered into a sales agreement (“the 2023 ATM Facility”) with ThinkEquity LLC (“ThinkEquity”), which provides for the sale, in our sole discretion, of shares of our common stock having an aggregate offering price of up to $17 million through ThinkEquity, as our sales agent. The issuance and sale of these shares by us pursuant to the 2023 ATM Facility are deemed “at the market” offerings as defined in Rule 415 under the Securities Act of 1933, as amended (the Securities Act), and are registered under the Securities Act. We pay a commission of up to 2.5% of gross sales proceeds of any common stock sold under the 2023 ATM Facility.
During the six months ended October 31, 2023, we sold an aggregate of 53,235 shares of common stock under the 2023 ATM Facility, at an average price of $1.07 per share, for gross proceeds of approximately $57,000 and net proceeds of approximately $55,700, after deducting commissions and other offering expenses payable by us.
On December 11, 2023, the Company closed an offering of 18,400,000 shares of common stock which generated gross proceeds of $9,200,000 and net proceeds of approximately $8,400,000 million. In connection with the offering, the amount of shares issuable under the ATM Facility was reduced to $4,375,000
| 27 |
Plan of Operations
Since April 2016, the Company's primary business has been to provide products, services, and solutions to the drone industry which it presently does through its four wholly owned subsidiaries. Beginning in January 2020, the Company expanded the scope of its drone products and services through four acquisitions, including:
| A. | In January 2020, the Company acquired Rotor Riot, a provider of First Person View (FPV) drones and equipment, primarily to the consumer marketplace. The purchase price was $1,995,114. |
| B. | In November 2020, the Company acquired Fat Shark Holdings, a provider of FPV video goggles to the drone industry. The purchase price was $8,354,076. |
| C. | In May 2021, the Company acquired Skypersonic which provides hardware and software solutions that enable drones to complete inspection services in locations where GPS is not available, yet still record and transmit data even while being operated from thousands of miles away. The purchase price was $2,791,012. |
| D. | In August 2021, the Company acquired Teal Drones, a leader in commercial and government UAV (Unmanned Aerial Vehicles) technology. The purchase price was $10,011,279. |
Following the Teal acquisition, we focused on integrating and organizing these businesses. Effective May 1, 2022, we established the Enterprise and Consumer segments in order to sharpen our focus on the unique opportunities in each sector. Enterprise's initial strategy was to provide UAV's, primarily drones, to commercial enterprises and government agencies, including the military, to navigate dangerous military environments and confined industrial and commercial interior spaces. Subsequently, Enterprise narrowed its near-term focus on the military and other government agencies. Skypersonic's technology has been re-focused on military applications and its operations consolidated into Teal. The Consumer segment, which includes Fat Shark and Rotor Riot, is focused on hobbyists and enthusiasts which are expected to increase as drones become more visible and useful in our daily lives.
In November 2022, we entered into an agreement to sell our Consumer segment to Unusual Machines. The adjusted sale price is $20 million, including $3 million in cash, at closing, and $17 million in securities of Unusual Machines. The agreement reflects the Company's decision to focus its efforts and capital on military and defense where it believes that there are more opportunities to create long term shareholder value. The closing of the transaction is contingent upon Unusual Machines completing (i) an initial public offering that raises sufficient capital to close the transaction, and (ii) a listing on a public stock exchange such as the NYSE or Nasdaq.
Results of Operations - Continuing Operations
The analysis of the Company's results of continuing operations for the three and six months ended October 31, 2023 compared to the three and six months ended October 31, 2022 includes only the Company's Enterprise segment which includes Teal Drones and Skypersonic. During Fiscal 2023, the operations of Skypersonic were consolidated into Teal. The following discussion and analysis describes the operating results of Teal and Skypersonic on a consolidated basis with Teal representing more than 90% of the operating activities of the Enterprise segment.
| 28 |
Discussion and Analysis of the Three Months Ended October 31, 2023 compared to the Three Months Ended October 31, 2022
Revenues
Revenues totaled $3,930,868 during the three months ended October 31, 2023 (or the "2023 period") compared to $747,612 during the three months ended October 31, 2022 (or the "2022 period") representing an increase of $3,183,256, or more than four times. The increase primarily related to higher product sales related to the launch of the Teal 2 in April 2023. Product sales totaled $3,383,238 during the three months ended October 31, 2023 compared to $330,061 during the three months ended October 31, 2022 representing an increase of $3,053,177, or more than 9 times. The increase in product sales also partially related to increased contract revenues during the 2023 period. Contract revenues totaled $529,438 during the 2023 period compared to $243,306 during the 2022 period, representing an increase of $286,132, or more than 100%. Contract revenues are primarily sourced through government agencies and can fluctuate from period to period based on the timing of award deliverables and amendments.
Gross Margin
Gross margin totaled $1,200,582 during the 2023 period compared to $123,851 during the 2022 period representing an increase of $1,076,731, or more than eight times. On a percentage basis, gross margin was 30.5% during the 2023 period compared to 16.6% during the 2022 period. The percentage basis increase in gross margin in the 2023 period was primarily related to contract revenue whose margins fluctuate from period to period as the labor required to meet the deliverables varies greatly. During the 2023 period, Teal’s gross margin % on product revenue was 24% compared to negative 22% during the 2022 period. The percentage basis increase in gross margin on product revenue in the 2023 period primarily related to lower relative labor costs as recently hired manufacturing operators replaced higher compensated engineers in performing many production activities. Additionally, lower manufacturing levels in the 2022 period resulted in higher relative overhead costs compared to the 2023 period. Our manufacturing facility is presently producing drones at a lower level than it is designed for, and these lower production levels, combined with higher overhead costs, continue to result in lower than targeted gross margins. As production levels increase, our fixed overhead costs, including labor, will be allocated to a greater number of drones which will drive our per-drone production costs lower and increase gross margins of product revenue.
Operating Expenses
Operations expenses totaled $440,445 during the 2023 period compared to $1,581,818 during the 2022 period, resulting in a decrease of $1,141,373, or 72%. This decrease is primarily due to lower payroll costs, controlled spending on manufacturing supplies, and lower office expenses related to fewer new hires in the 2023 period.
Research and development expenses totaled $1,987,890 during the three months ended October 31, 2023 compared to $1,266,956 during the three months ended October 31, 2022, representing an increase of $720,934, or 57%. Supplies and materials expense totaled $857,067 in the 2023 period compared to $310,394 in the 2022 period. This increase of $546,673, or more than 100%, primarily related to increased efforts in developing new products and represented 76% of the total increase in research and development costs. Additionally, higher payroll expenses represented 22% of the increase.
Sales and marketing costs totaled $675,490 during the 2023 period compared to $563,756 during the 2022 period, representing an increase of $111,734 or 20%. Headcount for sales, customer service, and marketing totaled 11 at the end of the 2023 period compared to 9 at the end of the 2022 period, resulting in total payroll expense of $381,268 in the 2023 period compared to $310,014 in the 2022 period. This increase of $71,254, or 23%, represented 64% of the total increase in sales and marketing costs. Higher advertising expenses represented 34% of the increase.
| 29 |
General and administrative expenses totaled $1,460,073 during the three months ended October 31, 2023 compared to $1,815,314 during the three months ended October 31, 2022, representing a decrease of $355,241 or 20%. Lower costs at the corporate level represented 78% of the decrease. Corporate level costs includes executive compensation and other administrative costs associated with operating a publicly traded company including departments such as finance, human resources, and administration. Other significant costs include professional services fees (legal, audit, and board compensation), Nasdaq listing fees and filing costs, and corporate insurance. Lobbying costs totaled $21,734 in the 2023 period compared to $139,553 in the 2022 period resulting in a decrease of $117,819 or 33% of the total decrease in general and administrative expenses.
During the three months ended October 31, 2023, we incurred stock-based compensation costs of $1,196,325 compared to $1,246,796 in the 2022 period, resulting in a decrease of $50,471 or 4%. Since the 2022 period, the Company issued 3,643,542 additional options and 348,643 additional RSUs which resulted in incremental stock-based compensation costs of $775,520 and $42,708, respectively. This increase was partially offset by an RSU award that fully vested since the 2022 period, resulting in decremental stock-based compensation expense of $168,125.
Other (Income) Expense
Other expense totaled $522,176 during the 2023 period compared to other income of $519,807 during the 2022 period, representing a decrease of $1,041,983 or greater than 100%. Investment loss totaled $333,867 during the three months ended October 31, 2023 compared to an investment loss of $92,711 during the three months ended October 31, 2022. During both the 2023 and the 2022 periods, the Company sold certain investment grade securities in order to fund operations. The fair value of these securities had been adversely impacted by the sharp increase in interest rates since the securities were acquired. Changes in the fair value of the derivative liability resulted in income of $162,482 during the 2023 period compared to income of $686,744 during the 2022 period, representing a net decremental difference of $524,262.
Net Loss from Continuing Operations
Net loss from continuing operations totaled $5,081,817 for the three months ended October 31, 2023, compared to $5,830,982 for the three months ended October 31, 2022, resulting in a decrease of $749,165 or 13%. Total operating expenses totaled $5,760,223 for the three months ended October 31, 2023 compared to $6,474,640 for the three months ended October 31, 2022. Lower operating expenses represented 95% of the total decrease in the net loss and were driven by operating efficiencies as Teal Drones scales production.
Results of Discontinued Operations
Revenues from discontinued operations totaled $1,056,932 for the three months ended October 31, 2023, compared to $782,850 for the three months ended October 31, 2022, representing an increase of $274,082 or 35%. During the 2023 period, Rotor Riot generated revenues totaling $936,450 compared to $736,528 during the 2022 period, representing an increase of $199,922 or 27%. During the 2023 period, Rotor Riot’s higher revenues were generated by a significant increase in digital marketing spending. During the 2023 period, Fat Shark generated revenues totaling $120,482 compared to $46,322 during the 2022 period, representing an increase of $74,160 or more than 100%. Higher revenues in the 2023 period reflected re-orders from resellers which can occur infrequently and impact quarter to quarter comparisons.
Gross margin from discontinued operations totaled negative $97,268 during the 2023 period compared to positive $109,804 during the 2022 period representing a decrease of $207,072, or more than 100%. On a percentage basis, gross margin from discontinued operations was negative 9% during the 2023 period compared to 14% during the 2022 period. Gross margin for Rotor Riot was 24% for the 2023 period compared to 11% for the 2022 period. Gross margin for Fat Shark was negative 154% for the 2023 period compared to 6% for the 2022 period. A charge of $317,155 to write-off excess quantities of Dominator inventory based on sales volumes. This charge reduced gross margin from negative 7% to negative 154%. Fat Shark’s gross margin, exclusive of inventory write-offs, was negative during the 2023 period due to sales discounts for the Dominator whose sales volumes have steadily declined since its launch.
| 30 |
Operating expenses totaled $502,274 during the 2023 period compared to $531,349 during the 2022 period, resulting in a decrease of $29,075, or 5%. This decrease is primarily due to efforts to control spending.
Net loss from discontinued operations totaled $599,511 for the three months ended October 31, 2023, compared to $413,495 for the three months ended October 31, 2022, representing a decrease of $186,016, or 45%.
Discussion and Analysis of the Six Months Ended October 31, 2023 compared to the Six Months Ended October 31, 2022
Revenues
Revenues totaled $5,678,997 during the six months ended October 31, 2023 (or the "2023 period") compared to $1,874,163 during the six months ended October 31, 2022 (or the "2022 period") representing an increase of $3,804,834, or more than 100%. The increase related primarily to higher product sales related to the launch of the Teal 2 in April 2023. Product sales totaled $4,796,365 during the six months ended October 31, 2023 compared to $1,030,275 during the six months ended October 31, 2022 representing an increase of $3,766,090, or more than 3 times. The increase in product sales also partially related to higher contract revenues during the 2023 period. Contract revenues totaled $840,318 during the 2023 period compared to $641,805 during the 2022 period, representing an increase of $198,514, or 31%. Contract revenues are primarily sourced through government agencies and can fluctuate from period to period based on the timing of award deliverables and amendments.
Gross Margin
Gross margin totaled $1,375,247 during the 2023 period compared to $205,971 during the 2022 period representing an increase of $1,169,276, or more than five times. On a percentage basis, gross margin was 24.2% during the 2023 period compared to 10.9% during the 2022 period. The percentage basis increase in gross margin in the 2023 period was primarily related to contract revenue whose margins fluctuate from period to period as the labor required to meet the deliverables varies greatly. During the 2023 period, Teal’s gross margin percentage on product revenue was 19% compared to negative 9% during the 2022 period. The percentage basis increase in gross margin on product revenue in the 2023 period primarily related to lower relative labor costs as recently hired manufacturing operators replaced higher compensated engineers in performing many production activities. Additionally, lower manufacturing levels in the 2022 period resulted in higher relative overhead costs compared to the 2023 period. Our manufacturing facility is presently producing drones at a lower level than it is designed for, and these lower production levels, combined with higher overhead costs, continue to result in lower than targeted gross margins. As production levels increase, our fixed overhead costs, including labor, will be allocated to a greater number of drones which will drive our per-drone production costs lower and increase gross margins.
Operating Expenses
Operations expenses totaled $1,148,348 during the 2023 period compared to $2,468,121 during the 2022 period, resulting in a decrease of $1,319,773, or 53%. This decrease is primarily due to lower payroll costs, controlled spending on manufacturing supplies, and lower office expenses related to fewer new hires in the 2023 period.
Research and development expenses totaled $3,126,017 during the six months ended October 31, 2023 compared to $1,716,920 during the six months ended October 31, 2022, representing an increase of $1,409,097, or 82%. Supplies and materials expense totaled $1,019,364 in the 2023 period compared to $394,507 in the 2022 period. This increase of $624,857, or more than 100%, primarily related to increased efforts in developing new products and represented 44% of the total increase in research and development costs. Additionally, higher payroll expenses represented 38% of the increase.
| 31 |
Sales and marketing costs totaled $1,662,398 during the 2023 period compared to $970,709 during the 2022 period, representing an increase of $691,689 or 71%. Headcount for sales, customer service, and marketing totaled 11 at the end of the 2023 period compared to 9 at the end of the 2022 period, resulting in total payroll expense of $809,732 in the 2023 period compared to $524,467 in the 2022 period. This increase of $285,265, or more than 100%, represented 41% of the total increase in sales and marketing costs. Higher travel-related and office expenses represented 25% and 16% of the increase, respectively.
General and administrative expenses totaled $2,903,229 during the six months ended October 31, 2023 compared to $2,877,718 during the six months ended October 31, 2022, representing an increase of $25,511 or 1%.
During the six months ended October 31, 2023, we incurred stock-based compensation costs of $2,107,931 compared to $2,002,267 in the 2022 period, resulting in a decrease of $105,664 or 5%. Since the 2022 period, the Company issued 3,643,542 additional options and 348,643 additional RSUs which resulted in incremental stock-based compensation costs of $1,551,039 and $144,398, respectively. This increase was partially offset by an RSU award that fully vested since the 2022 period, resulting in decremental stock-based compensation expense of $351,535.
Other (Income) Expense
Other expense totaled $1,076,916 during the 2023 period compared to other income of $406,580 during the 2022 period, representing a decrease of $1,483,496 or greater than 100%. Investment loss totaled $573,357 during the six months ended October 31, 2023 compared to an investment loss of $234,113 during the six months ended October 31, 2022. During both periods, the Company sold certain investment grade securities in order to fund operations. The fair value of these securities had been adversely impacted by the sharp increase in interest rates since the securities were acquired. Changes in the fair value of the derivative liability resulted in income of $189,002 during the 2023 period compared to income of $593,822 during the 2022 period, representing a net decremental difference of $404,820.
Net Loss from Continuing Operations
Net loss from continuing operations totaled $10,649,592 for the six months ended October 31, 2023, compared to $9,423,184 for the six months ended October 31, 2022, resulting in an increase of $1,226,408 or 13%. Total operating expenses totaled $10,947,923 for the six months ended October 31, 2023 compared to $10,035,735 for the six months ended October 31, 2022. Lower operating expenses represented 74% of the total decrease in the net loss and were driven by operating efficiencies as Teal Drones scales production.
Results of Discontinued Operations
Revenues from discontinued operations totaled $2,926,151 for the six months ended October 31, 2023, compared to $2,725,570 for the six months ended October 31, 2022, representing an increase of $200,581 or 7%. During the 2023 period, Rotor Riot generated revenues totaling $2,180,357 compared to $1,624,947 during the 2022 period, representing an increase of $555,410 or 34%. During the 2023 period, Rotor Riot’s higher revenues were generated by a significant increase in digital marketing spending. During the 2023 period, Fat Shark generated revenues totaling $745,794 compared to $1,100,623 during the 2022 period, representing a decrease of $354,829 or 32%. Lower revenues for the 2023 period related to its newest product, the Dominator, which was launched at the beginning of the 2022 period, and while it generated strong initial sales in the first quarter of its launch, sales have declined significantly since then.
Gross margin from discontinued operations totaled $386,835 during the 2023 period compared to $385,311 during the 2022 period representing an increase of $1,524, or 0.4%. On a percentage basis, gross margin from discontinued operations was 13% during the 2023 period compared to 14% during the 2022 period. Gross margin for Rotor Riot was 30% for the 2023 period compared to 14% for the 2022 period. Gross margin for Fat Shark was negative 24% for the 2023 period compared to positive 13% for the 2022 period. The reported gross margin of negative 24% for Fat Shark was adversely impacted by a charge of $317,155 related to the write-off of excess quantities of Dominator inventory based on sales volumes. This charge reduced gross margin from 7% to negative 24%.
| 32 |
Operating expenses totaled $1,206,213 during the 2023 period compared to $1,026,377 during the 2022 period, resulting in an increase of $179,836, or 18%. This increase is primarily due to increased advertising expenses in the 2023 period.
Net loss from discontinued operations totaled $842,084 for the six months ended October 31, 2023, compared to $632,892 for the six months ended October 31, 2022, representing an increase of $209,192, or 33%.
Cash Flows
Operating Activities – Continuing Operations
Net cash used in operating activities was $11,240,359 during the six months ended October 31, 2023, compared to net cash used in operating activities of $9,527,472 during the six months ended October 31, 2022, representing an increase of $1,712,887 or 18%. The higher use of cash primarily related to timing of accounts receivable receipts for government customers. Net cash used in operations, net of non-cash expenses, totaled $7,427,197 during the six months ended October 31, 2023, compared to $7,674,729 during the six months ended October 31, 2022, resulting in a decrease of $247,532, or 3%. Net cash used related to changes in operating assets and liabilities totaled $3,813,162 during the six months ended October 31, 2023, compared to $1,852,743 during the six months ended October 31, 2022, representing an increase of $1,960,419 or more than 100%. Changes in operating assets and liabilities can fluctuate significantly from period to period depending upon the timing and level of multiple factors, including inventory purchases, vendor payments, and customer collections.
Investing Activities
Net cash provided by investing activities was $10,065,641 during the six months ended October 31, 2023, compared to net cash provided by investing activities of $11,960,901 during the six months ended October 31, 2022 resulting in a decrease of $1,895,260 or 16%. During the 2023 period, proceeds of $10,205,501 from the sale of marketable securities were used to fund operations. During the 2022 period, proceeds of $13,241,836 from the sale of marketable securities were used to fund operations.
Financing Activities
Net cash used in financing activities totaled $286,206 during the six months ended October 31, 2023, compared to net cash used in financing activities of $928,826 during the six months ended October 31, 2022. Financing activities can vary from period to period depending upon market conditions, both at a macro-level and specific to the Company. During the 2023 period, the Company made payments of $16,292 related to payroll taxes on equity awards compared to payments of $561,407 during the 2022 period, resulting in a decrease of $545,115. This decrease represented 97% of the total decrease. The lower payments related to lower equity award vesting in the 2023 period compared to the 2022 period.
Liquidity and Capital Resources
At October 31, 2023, the Company reported current assets totaling $23,262,672, current liabilities totaling $4,405,265 and net working capital of $18,857,407. Cash and marketable securities totaled $4,024,266 at October 31, 2023. Inventory related balances, including pre-paid inventory, totaled $10,871,809. We continue to maintain high inventory balances related to the global supply chain issues, including chip shortages, which continue to impact the timing of our purchase decisions.
| 33 |
Going Concern
The Company has never been profitable, and its net losses have been increasing related to acquisitions, as well as costs incurred to pursue its long-term growth strategy. During the six months ended October 31, 2023, the Company incurred net losses of $10,649,592 from continuing operations and $842,084 from discontinued operations and used cash in operating activities of $11,240,359 from continuing operations and $550,120 from discontinued operations. As of October 31, 2023, the Company has working capital of $18,857,407. While the Company has historically been successful in raising capital to meet its working capital requirements, the ability to continue raising such capital to enable the Company to continue its growth is not guaranteed. Therefore, there is substantial doubt about the Company’s ability to continue as a going concern as the Company will require additional liquidity to continue its operations and meet its financial obligations for twelve months from the date these consolidated financial statements are issued.
If the Company is unable to raise additional capital, there is a risk that the Company could default on its financial obligations and could be required to discontinue or significantly reduce the scope of its operations. The consolidated financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts, or the amount and classification of liabilities or any other adjustment that might be necessary should the Company be unable to continue as a going concern.
Critical Accounting Policies and Estimates
Our financial statements and accompanying notes have been prepared in accordance with GAAP applied on a consistent basis. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods.
We regularly evaluate the accounting policies and estimates that we use to prepare our financial statements. A complete summary of these policies is included in the notes to our financial statements. In general, management's estimates are based on historical experience, information from third party professionals, and on various other assumptions that are believed to be reasonable under the facts and circumstances. Actual results could differ from those estimates made by management.
Significant estimates reflected in these financial statements include those used to (i) determine stock-based compensation, (ii) complete purchase price accounting for acquisitions, (iii) accounting for derivatives, (iv) reserves and allowances related to accounts receivable and inventory, and (v) the evaluation of long-term assets, including goodwill, for impairment.
Goodwill and Long-lived Assets – Goodwill represents the future economic benefit arising from other assets acquired in an acquisition that are not individually identified and separately recognized. We test goodwill for impairment in accordance with the provisions of ASC 350, Intangibles – Goodwill and Other, (“ASC 350”). Goodwill is tested for impairment at least annually at the reporting unit level or whenever events or changes in circumstances indicate that goodwill might be impaired. ASC 350 provides that an entity has the option to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If, after assessing the totality of events or circumstances, an entity determines it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then additional impairment testing is not required. However, if an entity concludes otherwise, then it is required to perform an impairment test. The impairment test involves comparing the estimated fair value of a reporting unit with its book value, including goodwill. If the estimated fair value exceeds book value, goodwill is considered not to be impaired. If, however, the fair value of the reporting unit is less than book value, then an impairment loss is recognized in an amount equal to the amount that the book value of the reporting unit exceeds its fair value, not to exceed the total amount of goodwill allocated to the reporting unit.
| 34 |
The estimate of fair value of a reporting unit is computed using either an income approach, a market approach, or a combination of both. Under the income approach, we utilize the discounted cash flow method to estimate the fair value of a reporting unit. Significant assumptions inherent in estimating the fair values include the estimated future cash flows, growth assumptions for future revenues (including gross margin, operating expenses, and capital expenditures), and a rate used to discount estimated future cash flow projections to their present value based on estimated weighted average cost of capital (i.e., the selected discount rate). Our assumptions our based on historical data, supplemented by current and anticipated market conditions, estimated growth rates, and management’s plans. Under the market approach, fair value is derived from metrics of publicly traded companies or historically completed transactions of comparable businesses. The selection of comparable businesses is based on the markets in which the reporting units operate and consider risk profiles, size, geography, and diversity of products and services.
Fair Values, Inputs and Valuation Techniques for Financial Assets and Liabilities and Related Disclosures – The fair value measurements and disclosure guidance defines fair value and establishes a framework for measuring fair value. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. In accordance with this guidance, the Company has categorized its recurring basis financial assets and liabilities into a three-level fair value hierarchy based on the priority of the inputs to the valuation technique.
The fair value hierarchy gives the highest priority to quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3). The inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, the level in the fair value hierarchy within which the fair value measurement in its entirety falls has been determined based on the lowest level input that is significant to the fair value measurement in its entirety. The Company's assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment and considers factors specific to the asset or liability.
The guidance establishes three levels of the fair value hierarchy as follows:
Level 1: Inputs are unadjusted, quoted prices in active markets for identical assets or liabilities at the measurement date;
Level 2: Inputs are observable, unadjusted quoted prices in active markets for similar assets or liabilities, unadjusted quoted prices for identical or similar assets or liabilities in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the related assets or liabilities; and
Level 3: Unobservable inputs that are significant to the measurement of the fair value of the assets or liabilities that are supported by little or no market data.
Financial Instruments
The Company's financial instruments mainly consist of cash, receivables, current assets, accounts payable, accrued expenses and debt. The carrying amounts of cash, receivables, current assets, accounts payable, accrued expenses and current debt approximates fair value due to the short-term nature of these instruments.
Derivative Liabilities
The Company has financial instruments that are considered derivatives or contain embedded features subject to derivative accounting. Embedded derivatives are valued separately from the host instrument and are recognized as liabilities on the Company's balance sheet. The Company measures these instruments at their estimated fair value and recognizes changes in their estimated fair value in results of operations during the period of change.
| 35 |
In October 2020 and January 2021, the Company entered into convertible note agreements which included provisions under which the conversion price was equal to the lesser of an initial stated amount or the conversion price of a future offering. This variable conversion feature was recognized as a derivative. Both financings included the issuance of warrants which contained similar variable conversion features. The Company values these convertible notes and warrants using the multinomial lattice method. The valuation is updated each reporting date with the change in the liability reflected as a change in derivative liability in the statement of operations.
Off-Balance Sheet Arrangements
We have no off-balance sheet arrangements.
Recently Issued Accounting Pronouncements
The Company has implemented all new accounting pronouncements that are in effect. These pronouncements did not have any material impact on the financial statements unless otherwise disclosed, and the Company does not believe that there are any other new accounting pronouncements that have been issued that might have a material impact on its financial position or results of operations.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are a smaller reporting company and are not required to provide this information.
ITEM 4. CONTROLS AND PROCEDURES
Disclosure Controls and Procedures.
Our management, with the participation of our CEO and CFO, has evaluated the effectiveness of the Company’s disclosure controls and procedures, as defined in Rule 13a-15(e) and 15d-15(e) of the Exchange Act, as of October 31, 2023.
The term “disclosure controls and procedures” as defined in Rules 13a-15(e) and 15d-15(e) means controls and other procedures of the Company that are designed to ensure that information required to be disclosed by a company in reports, such as this report, that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure. Management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives, and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures.
Based on that evaluation, our CEO and CFO concluded that our disclosure controls and procedures were effective as of October 31, 2023.
Changes In Internal Control Over Financial Reporting.
There were no changes in our internal control over financial reporting (as defined in Rule 13a-15(f) of the Exchange Act) that occurred during the six months ended October 31, 2023 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
| 36 |
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None.
ITEM 1A. RISK FACTORS
We are a smaller reporting company as defined by Rule 12b-2 of the Exchange Act and are not required to provide the information required by this Item. Our most recent risk factor disclosures may be reviewed in our Annual Report on Form 10-K for the year ended April 30, 2023, as filed with the SEC on July 27, 2023.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES, USE OF PROCEEDS, AND ISSUER PURCHASES OF EQUITY SECURITIES
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. MINE SAFETY DISCLOSURES
Not applicable
ITEM 5. OTHER INFORMATION
Rule 10b5-1 Trading Plans
During the six months ended ended October 31, 2023, none of the Company’s directors or executive officers adopted or terminated any contract, instruction or written plan for the purchase or sale of Company securities that was intended to satisfy the affirmative defense conditions of Rule 10b5-1(c) or any “non-Rule 10b5-1 trading arrangement.”
| 37 |
ITEM 6. EXHIBITS
| 101.INS* | Inline XBRL Instance Document (the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document) | ||
| 101.SCH* | Inline XBRL Taxonomy Extension Schema Document | ||
| 101.CAL* | Inline XBRL Taxonomy Extension Calculation Linkbase Document | ||
| 101.DEF* | Inline XBRL Taxonomy Extension Definition Linkbase Document | ||
| 101.LAB* | Inline XBRL Taxonomy Extension Labels Linkbase Document | ||
| 101.PRE* | Inline XBRL Taxonomy Extension Presentation Linkbase Document | ||
| 104* | Cover Page Interactive Data File (formatted as inline XBRL and contained in Exhibit 101) | ||
| * | Filed herewith. |
| # | This certification is deemed not filed for purposes of Section 18 of the Exchange Act, or otherwise subject to the liability of that section, nor shall it be deemed incorporated by reference into any filing under the Securities Act. |
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.
| Date: December 15, 2023 |
Red Cat Holdings, Inc.
By: /s/ Jeffrey Thompson Jeffrey Thompson Chief Executive Officer (Principal Executive Officer) |
|
| Date: December 15, 2023 | By: /s/ Joseph P. Hernon | |
|
Joseph Hernon Chief Financial Officer (Principal Financial and Accounting Officer) |
38