Airship AI Holdings, Inc. 10-Q

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. The following discussion and analysis summarizes the significant factors affecting our operating results, financial condition, liquidity and cash flows as of and for the periods presented below. The following discussion and analysis should be read in conjunction with our financial statements and the related notes thereto included elsewhere in this report. The discussion contains forward-looking statements that are based on the beliefs of management, as well as assumptions made by, and information currently available to, management. Actual results could differ materially from those discussed in or implied by forward-looking statements as a result of various factors, including those discussed below and elsewhere in this report, particularly in the sections titled “Risk Factors” and “Special Note Regarding Forward-Looking Statements.” Overview We are a robust AI-driven data management platform that solves complex data challenges for large institutions operating in dynamic and mission-critical environments with rapidly increasing volumes of data being ingested from a similarly rapidly growing number of data sources. We solve these challenges by structuring “dark” or unstructured data at the edge, the location at which the data is generated and collected, and leveraging purpose-built AI models. Unstructured, or “dark” data, which is typically categorized as qualitative data, cannot be processed and analyzed via conventional data tools and methods. Conversely, structured data, typically categorized as quantitative data, is highly organized and easily decipherable by machine learning algorithms. Structuring and then analyzing data using AI models at the edge, versus transmitting the data from the edge back to a central processing location for structuring and analysis, enables real-time decision making and data-driven operational efficiency. We specialize in ingesting all available metadata from edge-based sensors used by government and law enforcement agencies around the world, including surveillance cameras (video), audio, telemetry, acoustic, seismic, and autonomous devices, along with large commercial corporations with fundamentally similar capabilities and requirements. Data generated by these edge-based sensors, including video, can then be run through our trained AI models to detect objects present within the video frame. Once an object is detected, for example an automobile, additional identifying characteristics of the object can be extracted from the image including the license plate characters and the make, model, and color of the automobile. This process of analyzing, logging and categorizing ingested data is referred to as “structuring” the data. Airship AI’s software allows customers to view structured data both in real-time as well as to conduct searches on the structured data at a later point in time. Real-time structured data use includes, for example, alarms on a specific license plate or a specific make, model or color of automobile. Non-real-time structured data use includes, for example, searching a database of video data that has been previously ingested and stored to find instances of a particular license plate being visible, along with other logged vehicle characteristics such as make, model and color of an automobile. Additional edge deployed AI models enable similar object detection and recognition of common and custom trained objects, such as an aircraft, boat, person, animal, bag, or weapon. Airship AI’s models provide similar data points for these object types allowing analysts the ability to be notified in real-time of the detection of a specified object and similarly search for historically detected objects. Examples include detecting aircrafts and boats along with their respective tail numbers and hull registration numbers. Our AI modelling process starts with pre-trained AI models from our technology ecosystem partners which we then customize using proprietary datasets tailored towards our customers unique workflow requirements. Where customers have pre-existing AI models or engines, we integrate those models or engines into our edge platform allowing customers to leverage proprietary models within the Airship AI software ecosystem. Our primary offerings include Outpost AI, Acropolis, and Airship Command. Our offerings allow customers to manage their data across the full data lifecycle, when and where they need it, using a highly secure permissioned based architecture. Recent Developments As of September 30, 2024, we determined the first operating performance milestone of the earnout shares was achieved resulting in the vesting of 1,250,000 earnout shares, of which 1,160,906 shares of our common stock were issued to applicable personnel on January 7, 2025. 24 Table of Contents Fair Value Transactions in Connection with Merger As a result of the merger, we entered into the following transactions that were measured at fair value and vary quarterly with the share price and other items. Any change is non-cash and is recorded as a gain or loss in other income (expense). See Note 13– Fair Value Measurements for more information. Liability as of Liability as of March 31, 2025 December 31, 2024 Earnout liability $ 8,199,079 $ 23,304,808 Warrant liability (Public Warrants) 18,082,635 33,124,868 Warrant liability (Private Warrants) 576,800 1,055,750 Total liabilities measured at fair value $ 26,858,514 $ 57,485,426 Other income (expense) related to instruments recorded at fair value during the three months ended March 31, 2025 and 2024 $ 25,344,788 $ (30,371,318 ) Private Placement and Public Warrants in Connection with Merger At the merger closing, we assumed 515,000 private placement warrants and 16,184,612 public warrants. On June 3, 2024, we permanently reduced the exercise price of such warrants from $11.50 per share to an exercise price of $7.80 per share. On November 20, 2024, the Company further reduced the exercise price of the outstanding public warrants and private warrants to an exercise price of $4.50 per share. The purpose of this reduced exercise price was to potentially raise proceeds received from the exercise of such warrants, if any, for working capital and general corporate purposes. As of March 31, 2025, there were 515,000 private placement warrants and 16,145,210 public warrants outstanding. Key Performance Indicators Historically, a majority of our product revenue has consisted primarily of a bundled hardware and software product and to date we have sold or licensed a minimal amount of standalone software. In the future, we expect to see more delivery of our products using a cloud-based software solution which will allow us to create additional subscription revenue. We have historically evaluated our business solely based on revenue generated from customers and we have not tracked any other customer-related metrics. As we grow and increase our product offerings and customer base, we intend to modify and develop more advanced performance indicators. We believe the following key performance indicators apply to us in the future: · Growth within existing government customers . While we currently have a strong footprint across multiple large U.S. government agencies, growing our business within these agencies outside of the investigation focused departments is a fundamental area of our projected growth. Our ability to expand our footprint by implementing AI based solutions that leverage our core existing competencies within the agencies will be a critical indicator of the success of this strategy. We will measure progress against this objective through the disclosure of awards for new business within these agencies during the affected timeframe, providing tangible evidence of the success of our strategy to both management and investors alike. · Greater penetration into the commercial marketplace . While we have several existing customers in the commercial marketplace, our ability to build on the solutions we provide those customers and expand that base will be critical to our projected growth objectives. We will measure progress against this objective through the disclosure of the number of new commercial customers added during the affected timeframe, providing tangible evidence of the success of our strategy to both management and investors alike. · Expansion of our edge AI based solutions . We began to sell AI based solutions in late 2022. Our current strategy is highly focused on the transition of data management and analysis workloads to the edge, driving efficiency and cost savings for our customers. This strategy also includes new models being trained to extract data at the edge which enables real-time intelligent decision making for our customers. We will measure progress against this objective through the disclosure of the numbers of edge AI hardware devices we are selling as well as the growth of our edge AI analytic capabilities, providing tangible evidence of the success of our strategy to both management and investors alike. 25 Table of Contents Principal Factors Affecting Our Financial Performance We believe the following factors and trends may cause previously reported financial information not to be necessarily indicative of future operating results or future financial conditions: · Increase in the sales of lower margin solutions as we expand our operational footprint . While our current focus remains on expanding our AI driven software application portfolio, opportunities will continue to present themselves to provide those software-based solutions as part of a larger hardware-based turn-key solutions where Airship AI can provide a unique value-add to the customer. While these solutions will positively affect revenue we anticipate our operating profits in future periods may be adversely affected as compared to previous years due to the lower operating margin for hardware versus software applications. · Challenges due to geo-political driven supply-chain constraints . While many of the COVID-19 driven supply chain issues have been resolved, challenges to the timely production and delivery of Taiwan based products we utilize for our edge AI platform due to geo-political factors is a concern looking forward. In the event that our suppliers are unable to provide timely delivery of those supplies it will significantly impact our ability to meet delivery schedules for existing and anticipated edge AI hardware-based solutions. · Near-term impacts due to merger and acquisition activity . If Airship AI merges with or acquires another company, it is reasonably expected that there will be increased operating expenses and costs associated with the merger that could negatively impact operating profits in the future periods immediately following the M&A event. The extent and longevity of those impacts is not possible to quantify. · Potential tariffs may impact financial performance. Changes in international trade policies, including the imposition of new tariffs, quotas, trade restrictions, or other government-imposed barriers to trade, could have a material adverse effect on our business, financial condition, and results of operations. We rely on Taiwan and Canada for certain raw materials, components, and finished goods, For example, if the U.S. government were to impose additional tariffs on goods imported from countries where we source key inputs—such as Taiwan and Canada —or if retaliatory tariffs were imposed on U.S. exports, the cost of our products could increase, potentially reducing demand, compressing margins, or requiring us to adjust our pricing structure. Segment Reporting The Financial Accounting Standards Board, or FASB, Accounting Standard Codification, or ASC, Topic 280, Segment Reporting, requires that an enterprise report selected information about reportable segments in its financial reports issued to its stockholders. Operating segments are defined as components of an entity for which separate financial information is available and that is regularly reviewed by the Chief Operating Decision Maker (“CODM”) in deciding how to allocate resources to an individual segment and in assessing performance. The Chief Executive Officer, Chief Financial Officer and President are the Company’s CODM. The CODM monitors the revenue and expense components of the various products and services we offer, but operations are managed and financial performance is evaluated on a corporation-wide basis in comparison to a business plan which is developed each year. Accordingly, all operations are considered by the CODM to be one operating segment and one reportable segment as contained in the Consolidated Statements of Operations and Comprehensive Loss to the consolidated financial statements. The CODM uses consolidated net income (loss) as its required measure of segment profit/loss, as such measure is determined in accordance with the measurement principles most consistent with the consolidated financial statements. 26 Table of Contents Results of Operations The following table sets forth key components of our results of operations during the three months ended March 31, 2025 and 2024. (dollars in thousands) Three Months Ended March 31, 2025 2024 $ Variance % Variance Net revenues $ 5,503 $ 10,575 $ (5,072 ) -48.0 % Cost of net revenues 3,268 7,947 4,679 58.9 % Gross profit 2,235 2,628 (393 ) -15.0 % Research and development expenses 719 695 (24 ) -3.5 % Selling, general and administrative expenses 3,230 3,335 105 3.1 % Total operating expenses 3,949 4,030 81 2.0 % Operating loss (1,714 ) (1,402 ) (312 ) -22.3 % Other income (expense): Gain (loss) from change in fair value of earnout liability 9,824 (21,485 ) 31,309 145.7 % Gain (loss) change in fair value of warrant liability 15,521 (6,847 ) 22,368 326.7 % Loss from change in fair value of convertible debt - (2,039 ) 2,039 100.0 % Loss on note conversion - (159 ) 159 100.0 % Interest income (expense), net 77 (32 ) 109 340.6 % Total income (other expense), net 25,422 (30,562 ) 55,984 183.2 % Income (loss) before income taxes 23,708 (31,964 ) 55,672 174.2 % Provision for income taxes - - - - Net income (loss) $ 23,708 $ (31,964 ) $ 55,672 174.2 % Net Revenues — Net revenues for the three months ended March 31, 2025 decreased $5,072,000 to $5,503,000 as compared to $10,575,000 for the three months ended March 31, 2024, as a result of purchase orders from various federal government agency customers totaling over $13 million which we primarily shipped in the three months ended March 31, 2024. On January 20, 2025, President Trump signed an executive order creating an advisory commission, the Department of Government Efficiency to reform federal government processes and reduce expenditures. Pressures on and uncertainty surrounding the U.S. federal government’s budget, and potential changes in budgetary priorities and spending levels, could adversely affect staffing levels and the funding for government projects. Disruptions in how the government agencies operate due to these policies are materially affecting our business. Cost of Net Revenues — Cost of net revenues primarily consists of product costs and post customer support. For the three months ended March 31, 2025, cost of sales decreased $4,679,000 to $3,268,000 as compared to $7,947,000 for the three months ended March 31, 2024. The decrease was due to lower sales, offset by product mix with decreased equipment purchases during the three months ended March 31, 2025. Research and Development Expenses — Research and development expenses for the three months ended March 31, 2025 increased $24,000 to $719,000 as compared to $695,000 for the three months ended March 31, 2024. The increase was due to increased expenses for product development. Selling, General and Administrative Expenses — Selling, general and administrative expenses for the three months ended March 31, 2025 decreased $105,000 to $3,230,000 as compared to $3,335,000 for the three months ended March 31, 2024. The decrease was due to (i) reduced professional service expenses of $211,000; (ii) reduced insurance expenses of $154,000; (iii) offset increased stock based compensation of $159,000; (iv) increased sales and marketing expenses of $147,000 related to expanded trade shows; and other reduced operating expenses of $46,000. Other Income (Expense) — Other income for the three months ended March 31, 2025 was $25,422,000 as compared to other expense of $30,562,000 for the three months ended March 31, 2024. Other income for the three months ended March 31, 2025 consisted of (i) gain from change in fair value of earnout liability of $9,824,000; (ii) gain from change in fair value of warrant liability of $15,521,000; (iii) other income of $77,000. The gain from change in fair value of various financial instruments was primarily the result of a decrease in our stock price. Other expense for the three months ended March 31, 2024 consisted of (i) loss from change in fair value of warrant liability of $6,847,000; (ii) loss from change in fair value of earnout liability of $21,485,000; (iii) loss from change in fair value of convertible debt of $2,039,000; (iv) loss on note conversion of $159,000; and (iv) noncash interest of $32,000. 27 Table of Contents Net Income (Loss ) — Net income for the three months ended March 31, 2025 was $23,708,000 as compared to a net loss of $31,964,000 for the three months ended March 31, 2024. The net income primarily related to noncash items of $24,833,000. Noncash items included (i) gain from change in warrant liability of $15,521,000; and (ii) gain from change in earnout liability of $9,823,000; and offset by (iii) stock based compensation of $428,000; and (iv) net amortization of operating lease right of use asset of $83,000. The net loss for the three months ended March 31, 2024 primarily related to noncash charges of $30,881,000. Noncash charges include (i) depreciation of $2,000; (ii) stock based compensation of $269,000; (iii) net amortization of operating lease right of use asset of $81,000; (iv) loss from change in warrant liability of $6,847,000; (v) loss from change in earnout liability of $21,485,000; (vi) loss from change in fair value of convertible note of $2,039,000; and (vii) loss on note conversions of $159,000. Liquidity and Capital Resources as of March 31, 2025 and 2024 Liquidity is our ability to generate funds to support its current and future operations, satisfy its obligations, and otherwise operate on an ongoing basis. Significant factors in the management of liquidity are funds generated by operations, levels of accounts receivable and accounts payable and capital expenditures. We have incurred losses from operations in the past few years and had an accumulated deficit of $8.8 million as of March 31, 2025. In September 2024, we closed an $8 million public offering with approximately $7.3 million in net proceeds. In December 2024, we received net proceeds of approximately $7.4 million from the exercise of warrants related to an inducement offer agreement. We formally evaluated our liquidity and cash position in May 2025 when preparing the March 31, 2025 Form 10-Q consolidated financial statements. During this process, we analyzed our cash requirements and operations at least through May 2026 and determined that, based upon our current available cash and operations, we have no substantial doubt about our ability to continue as a going concern. Our assessment of the period of time through which our financial resources will be adequate to support our operations is a forward-looking statement and involves risks and uncertainties. Our actual results could vary as a result of our near and long-term future capital requirements that will depend on many factors. Operating Activities Net cash used in operating activities for the three months ended March 31, 2025 was $2,098,000. This amount was primarily related to (i) net income of $23,708,000; and offset by (ii) net working capital reductions of $973,000 (including a $713,000 reduction in deferred revenues); and (iii) noncash items of $24,833,000. Noncash items included (iv) gain from change in warrant liability of $15,521,000; and (v) gain from change in earnout liability of $9,823,000; and offset by (vi) stock based compensation of $428,000; and (vii) net amortization of operating lease right of use asset of $83,000. Net cash used in operating activities for the three months ended March 31, 2024 was $1,695,000. This amount was primarily related to (i) net loss of $31,964,000; and (ii) net working capital reductions of $611,000; offset by (iii) noncash charges of $30,881,000. Noncash charges include (iv) depreciation of $2,000; (v) stock based compensation of $269,000; (vi) net amortization of operating lease right of use asset of $81,000; (vii) loss from change in warrant liability of $6,847,000; (viii) loss from change in earnout liability of $21,485,000; (ix) loss from change in fair value of convertible note of $2,039,000; and (x) loss on note conversions of $159,000. Financing Activities Net cash used in financing activities for the three months ended March 31, 2025 was $497,000 and consisted of (i) repayment of advances by founders of $600,000; and offset by (ii) net proceeds from exercise of warrants of $60,000; and (iii) proceeds from stock option exercises of $43,000. Net cash provided by financing activities for the three months ended March 31, 2024 was $293,000 and consisted proceeds from warrant exercise. 28 Table of Contents Contractual Obligations and Commitments Less Than Contractual Cash Obligations Total 1 Year 1-3 Years 4-5 Years Operating lease cash payments $ 1,281,638 $ 471,901 $ 486,075 $ 323,661 On July 13, 2023, we entered into a lease in Redmond, WA for 15,567 square feet of office and warehouse space which started October 1, 2023. The monthly payment is $25,000 per month. The lease expires October 31, 2027 and the monthly payment increases 3% on July 31, 2024 and each year thereafter. There is a one three year option to extend the lease based on the fair market rate on October 31, 2027, which we expect to exercise. On February 29, 2024, we extended an office lease in Moorestown, North Carolina. We leased 3,621 square feet and the net monthly payment is $6,488. On August 27, 2024, we extended the lease, which expired on February 28, 2025. On February 1, 2025, we entered into an office lease in Mooresville, North Carolina. We lease 5,240 square feet and the net monthly payment is $9,105. The lease expires January 31, 2028 and the monthly payment increases 3% on February 1, 2026 and each year thereafter. There is no option to extend the lease. Off-Balance Sheet Arrangements We do not have any off-balance sheet arrangements (as that term is defined in Item 303 of Regulation S-K) that are reasonably likely to have a current or future material effect on our financial condition, revenue or expenses, results of operations, liquidity, capital expenditures or capital resources. Critical Accounting Policies and Estimates Our consolidated financial statements have been prepared in accordance with U.S. GAAP. The preparation of these consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, expenses, and related disclosures. We base our estimates on historical experience and on various other assumptions that we believe are reasonable under the circumstances. We evaluate our estimates and assumptions on an ongoing basis. Actual results could differ materially from those estimates due to risks and uncertainties, including uncertainty in the current economic environment. To the extent that there are material differences between these estimates and our actual results, our future consolidated financial statements will be affected. We believe that the significant accounting policies described in “ Note 2, Summary of Significant Accounting Policies ” to our audited consolidated financial statements are accurate and complete. The critical accounting estimates and policies during the three months ended March 31, 2025 have not materially changed to those discussed in our Annual Report on Form 10-K for the year ended December 31, 2024. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. Not applicable to smaller reporting companies. 29 Table of Contents