Nauticus Robotics, Inc. 10-K

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following discussion is intended to assist you in understanding our results of operations and our present financial condition and contains forward-looking statements that reflect our future plans, estimates, beliefs and expected performance. The forward-looking statements are dependent upon events, risks and uncertainties that may be outside our control. We caution you that our actual results could differ materially from those discussed in these forward-looking statements. Factors that could cause or contribute to such differences are discussed elsewhere in this Annual Report on Form 10-K, particularly in the “Cautionary Note Regarding Forward-Looking Statements” and “Item 1A. Risk Factors,” all of which are difficult to predict. In light of these risks, uncertainties and assumptions, the forward-looking events discussed may not occur. We do not undertake any obligation to publicly update any forward-looking statements except as otherwise required by applicable law. Explanatory Note On the Closing Date, we consummated the Business Combination with Merger Sub, and Nauticus Robotics Holdings, Inc. Pursuant to the terms of the Merger Agreement, a business combination between CLAQ and Nauticus Robotics Holdings was effected through the merger of Merger Sub with and into Nauticus Robotics Holdings, with Nauticus Robotics Holdings surviving the merger as a wholly owned subsidiary of CLAQ. On the Closing Date, CLAQ was renamed “Nauticus Robotics, Inc.” and the Nauticus Robotics Holdings’ predecessor was renamed “Nauticus Robotics Holdings, Inc.” The Business Combination was accounted for as a reverse recapitalization under GAAP. Nauticus Robotics Holdings, Inc. was determined to be the accounting acquirer and CLAQ was treated as the acquired company for financial reporting purposes. Accordingly, the financial statements of Nauticus represent a continuation of the financial statements of Nauticus Robotics Holdings, Inc. Overview Nauticus Robotics, Inc. (the “Company,” “our,” or “we”) is a developer of ocean robots, software and services delivered to the ocean industry. We were initially incorporated as CLAQ under the laws of the State of Delaware on June 18, 2020. The Company’s principal corporate offices are located in Webster, Texas. Our services provide customers with the necessary data collection, analytics, and subsea manipulation capabilities to support and maintain assets while reducing their operational footprint, operating cost, and greenhouse gas emissions, as well as to improve offshore health, safety, and environmental exposure. Our subsea robotic product, Aquanaut, is a vehicle that begins its mission in a hydrodynamically efficient configuration which enables efficient transit to the worksite (i.e., operating as an autonomous underwater vehicle, or “AUV”). During transit (operating in survey mode), Aquanaut’s sensor suite provides capability to observe and inspect subsea assets or other subsea features. Once it arrives at the worksite, Aquanaut transforms its hull configuration to expose two work-class capable, electric manipulators that can perform dexterous tasks with (supervised), or without (autonomous), direct human involvement. In this intervention mode, the vehicle has capabilities similar to a conventional remotely operated vehicle (“ROV”). The ability to operate in both AUV and ROV modes is a quality unique to our subsea robot and is protected under a U.S. patent. To take advantage of these special configuration qualities, we have developed underwater acoustic communication technology, called Wavelink, our over-the-horizon remote connectivity solution, which removes the need for long umbilicals to connect the robot with topside vessels. Eliminating these umbilicals and communicating with the robot through acoustic or other latent, laser, or RF methods reduces much of the system infrastructure that is currently required for ROV servicing operations and is core to our value proposition. The component technologies that comprise the Aquanaut are also marketable to the existing worldwide ROV fleet. Aquanaut’s perception and machine learning software technologies combined with its perception and electric manipulators can be retrofitted on existing ROV platforms to improve their ability to perform subsea maintenance activities. The Argonaut, a derivative product of the Aquanaut, is aligned to non-industrial, government applications. This vehicle embodies nearly all of the Aquanaut’s core technologies but varies in form and function necessary to perform specialized missions. Our key technologies are autonomous platforms, acoustic communications networks, electric manipulators, AI-based perception and control software, and high-definition workspace sensors. Implementation of these technologies enables operations to reduce costs over conventional methods. Basis of Presentation – The Business Combination was accounted for as a reverse business combination with Nauticus Robotics Holdings, Inc. as the accounting acquirer and CLAQ as the accounting acquiree. Our audited consolidated financial statements reflect the financial condition, results of operations, cash flows and changes in stockholders’ equity (deficit) of Nauticus Robotics Holdings for periods until September 9, 2022, the Closing Date of the Business Combination, and the consolidated results of operations, cash flows and changes in stockholders’ equity (deficit) of Nauticus Robotics, Inc. and its consolidated subsidiary, Nauticus Robotics Holdings for the period from September 10, 2022 through December 31, 2022. All intercompany balances and transactions have been eliminated in preparation of these consolidated financial statements. 46 Impact of COVID-19 Pandemic on Business — The global spread of COVID-19 has created significant market volatility and economic uncertainty and disruption during 2021 and continuing into 2022. The Company was adversely affected by the deterioration and increased uncertainty in the macroeconomic outlook as a result of the impact of COVID-19. We have experienced and may continue to experience disruptions in our supply chain, due in part to the global impact of the COVID-19 pandemic. Depending upon the duration of the ongoing effects of the COVID-19 pandemic and the associated business interruptions, our customers, suppliers, manufacturers and partners may suspend or delay their engagements with us, which could result in a material adverse effect on our financial condition and ability to meet current timelines. In addition, the COVID-19 pandemic has affected and may continue to affect our ability to recruit skilled employees to join our team. The conditions caused by the COVID-19 pandemic have adversely affected and may continue to adversely affect, among other things, demand for our products and the ability to test and assess our robotic systems with potential customers any of which adversely affects our business, results of operations and financial condition. The duration and extent of the COVID-19 pandemic and its impacts cannot be accurately predicted at this time, and the ultimate direct and indirect impacts on our business, results of operations and financial condition will depend on future developments that are highly uncertain. Liquidity — The Company has had recurring losses and negative cash flows since its inception. The Company continues to develop its principal products and conduct research and development activities. Supply chain disruptions instigated production delays and have continued to impact the Company’s ability to deploy its products and realize material RaaS and product sale revenues. Currently, the Company does not generate sufficient revenue to cover operating expenses, working capital and capital expenditures. We do not have any commitments for equity funding at this time, and additional funding may not be available to us on favorable terms, if at all. If additional financing is not raised, it would likely lead to the company reducing discretionary spending and other cost cutting measures. The Company has not considered cost-cutting measures at this time but will assess as needed to meet capital requirements for our business operations. The Company have sufficient cash and cash generated from operations along with access to debt funding as necessary to meet its obligations for at least one year from the issuance date of this report. On March 8, 2023, and subsequent to the filing of the Company’s Form 10-Q/A on such date, Triumph countersigned an agreement that amended the original agreement to accommodate staggered deposits and payments for each of the four contracted units, with deliveries taking place between 2024 and 2027. Triumph’s initial non-refundable deposit of $5,420,000 is due on October 31, 2023. Any failure by Triumph to make the initial deposit when due will be deemed breached by Triumph for failure to perform under the terms of the Agreement as amended. Management has carefully considered all facts surrounding the Triumph contract and its ability to secure financing for its capital projects, and as such, the Company has removed the contract from its internal projections and excluded all associated revenues and costs. Accordingly, we have excluded Triumph from the unfulfilled performance obligation table in Item 8, “Financial Statements – Note 3 – Revenue – Unfulfilled Performance Obligations.” As such, we do not believe a failure of such obligation will affect our future liquidity. See the sections entitled “Risks Related to Our Business and Industry — Almost all our revenues in 2020, 2021, and 2022 were derived from three customers. A substantial portion of our current revenue is generated by sales to government entities, which are subject to a number of uncertainties, challenges, and risks,” “Risks Related to Our Business and Industry — Our business plans require a significant amount of capital. Our future capital needs may require us to sell additional equity or debt securities that may dilute our stockholders or introduce covenants that may restrict our operations or our ability to pay dividends,” “Risks Related to Our Business and Industry — With our service offering still being commercialized at a large scale, we have limited current customers and no hard contracts for the RaaS offering, and there is no assurance that expected customer demand will result in binding orders or subscriptions,” “Risks Related to Our Business and Industry — If we are successful in commercializing our products and services, our revenue will be concentrated in a limited number of models for the foreseeable future,” “Risks Related to Our Business and Industry — The wide scale commercial RaaS launch of our fleet, Aquanaut and Hydronaut, may be delayed beyond the end of 2023,” and “Risks Related to Our Business and Industry — We may be unable to adequately control the costs associated with our operations.” 47 Results of Operations Year Ended December 31, 2022 Compared to Year Ended December 31, 2021 The following table sets forth summarized consolidated financial information: For The Year Ended December 31, 2022 2021 Change $ Change % Revenue Service $ 11,210,559 $ 7,854,068 $ 3,356,491 43 % Product 242,637 (242,637 ) -100 % Service - related party 224,400 332,767 (108,367 ) -33 % Product - related party - 162,068 (162,068 ) -100 % Total revenue 11,434,959 8,591,540 2,843,419 33 % Costs and Expenses Cost of revenue 11,863,862 6,850,248 5,013,614 73 % Depreciation 516,949 365,097 151,852 42 % Research and development 2,376,912 3,533,713 (1,156,801 ) -33 % General and administrative 15,056,565 4,362,400 10,694,165 245 % Total costs and expenses 29,814,288 15,111,458 14,702,830 97 % Operating loss (18,379,329 ) (6,519,918 ) (11,859,411 ) 182 % Other income (293,862 ) (1,601,568 ) (1,307,706 ) 82 % Loss on extinguishment of debt - 9,484,113 (9,484,113 ) 100 % Change in fair value of warrant liabilities 6,461,087 - (6,461,087 ) 100 % Interest expense, net 3,714,017 725,166 2,988,851 412 % Net loss $ (28,260,571 ) $ (15,127,629 ) $ (13,132,942 ) 87 % Revenue. At December 31,2022, net revenue increased by $2.8 million, or 33%, to $11.4 million for 2022, as compared to $8.6 million for 2021. The increase in revenue is primarily attributable to the addition of revenue from four new service contracts and increased performance on an existing service contract, including the continued lease of an Aquanaut vehicle during 2022. Cost of revenue. At December 31, 2022, cost of revenue increased by $5.0 million, or 73%, to $11.9 million for 2022, as compared to $6.9 million for 2021. The increase in cost of revenue is attributable to the addition of executing four service contracts with a mix of lower margin contracts from the prior year discussed above contributing to an overall increased cost of revenue. Also included in cost of revenue is a one-time bonus of approximately $1.2 million for manufacturing and operational personnel for the successful completion of the Merger. Depreciation. At December 31, 2022, depreciation increased by $152 thousand, or 42%, to $517 thousand for 2022, as compared to $365 thousand for 2021 primarily due to increased investment in operational assets. Research and development . At December 31, 2022, total research and development expenses decreased by $1.1 million, or 33%, to $2.4 million for 2022, as compared to $3.5 million for 2021. The decrease was due primarily to the Company meeting technological feasibility on both hardware and software development that has been capitalized throughout fiscal year 2022. General and administrative. At December 31, 2022, total general and administrative expenses increased by $10.7 million, or 245%, to $15.1 million for 2022, as compared to $4.4 million for 2021. General and administrative expenses increased primarily due to an increase in company headcount, sales and marketing expenses, professional fees and other costs incurred in preparation for the business combination transaction with CleanTech. Also included in general and administrative expense is a one-time bonus expense of approximately $1.5 million for the successful completion of the Merger. Other income, net. At December 31, 2022, other income, net decreased by $1.3 million to $0.3 million for 2022 as compared to $1.6 million in 2021. The decrease was due primarily to the recognition of the Paycheck Protection Program or PPP loan during the first and second quarter of 2021. 48 Loss on extinguishment of debt. At December 31, 2022, loss on extinguishment of debt decreased by $9.5 million to $0 for 2022 as compared to $9.5 million in 2021. The Company recognized a loss on extinguishment of debt of $9.5 million for 2021 due to an amendment of outstanding contingently convertible notes to allow the notes to be converted into Nauticus common stock as of the closing date of the Business Combination between CleanTech and Nauticus. The amendment was treated as an accounting extinguishment of debt. A loss was recognized for the difference between the carrying amounts of the notes and their fair values as of the date the notes were modified. Change in fair value of warrant liabilities. At December 31, 2022, change in fair value of warrant liabilities increased by $6.5 million to $6.5 million of other (income) expense in 2022 as compared to $0 million in 2021. This increase was due to the change in mark-to-market value of the SPA warrants and public and private warrants assumed by the Company in the Business Combination. Interest expense, net. At December 31, 2022, interest expense, net increased by $3.0 million to $3.7 million for 2022 as compared to $0.7 million in 2021. Interest expense, net increased due to an increase in indebtedness entered into by the Company during the third and fourth quarter of 2021, and amortization of debt discount of $1.1 million associated with the Debenture note. Liquidity and Capital Resources As of December 31, 2022, we had $22,746,422 of cash, cash equivalents and short term investments. The cash equivalents consist of demand deposits and money market funds. Significant sources and uses of cash during the year ended December 31, 2022. Sources of cash: ● We received net proceeds of $53.3 million from debt and equity financings. Uses of cash: ● Cash used in operating activities was $37.3 million, which included $19.9 million invested in working capital. ● Capital expenditures were $14.2 million. ● Cash used in financing activities in payment of debt obligations was $17.9 million Future sources and uses of cash. Our capital requirements will depend on many factors, including sales volume, the timing and extent of spending to support R&D efforts, investments in technology, the expansion of sales and marketing activities, and market adoption of new and enhanced products and features. To date, our principal sources of liquidity have been proceeds received from the issuance of debt and equity funding and cash flow from our operations. We believe our cash on hand and cash collections from our revenue from our existing and anticipated new contracts afford us adequate liquidity for the balance of fiscal 2023. We anticipate needing additional capital to continue expanding our business operations, which may include acquisitions and capital expenditures. Currently, the Company does not generate sufficient revenue to cover operating expenses, working capital and capital expenditures. We have historically financed our operations through equity and debt financing. We do not have any commitments for equity funding at this time, and additional funding may not be available to us on favorable terms, if at all. As such there is no assurance that we can raise additional capital from external sources, the failure of which could cause us to curtail operations. Indebtedness. The Company’s indebtedness at December 31, 2022 is presented in Item 8, “Financial Statements – Note 5 – Notes Payable” and our lease obligations are presented in Item 8, “Financial Statements—Note 6 – Leases.” Recent accounting pronouncements. In June 2016, the FASB issued ASU 2016-13, Financial Instruments—Credit Losses , which replaces the existing incurred loss impairment model with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. We adopted this standard on January 1, 2022. There was no impact from the adoption of this standard on our consolidated financial statements. There are no other new accounting pronouncements that are expected to have a material impact on our consolidated financial statements. Off-Balance Sheet Arrangements As of December 31, 2022, we had no material off-balance sheet arrangements. Critical Accounting Policies and Estimates The preparation of our consolidated financial statements in accordance with GAAP requires us to make estimates, assumptions and judgments that can significantly impact the amounts we report as assets, liabilities, revenue, costs and expenses and the related disclosures. We base our estimates on historical experience and other assumptions that we believe are reasonable under the circumstances. Actual results could differ significantly from these estimates under different assumptions and conditions. The accounting policies discussed below are critical to understanding our historical and future performance as these policies involve a greater degree of judgment and complexity. 49 Revenue Recognition. Our primary sources of revenue are from providing technology and engineering services and products to the offshore industry and governmental entities. Revenue is generated pursuant to contractual arrangements to design and develop subsea robots and software and to provide related engineering, technical, and other services according to the specifications of the customers. These contracts can be service sales (cost plus fixed fee or firm fixed fee) or product sales and typically have terms of up to 18 months. The Company has limited product sales as its core products are still under development. Product sales to date have been for HaloGuard, a red zone monitoring solution we developed, which has been phased out as of March 31, 2022. A performance obligation is a promise in a contract to transfer distinct goods or services to a customer. The products and services in our contracts are typically not distinct from one another. Accordingly, our contracts are typically accounted for as one performance obligation. The Company’s performance obligations under service agreements generally are satisfied over time as the service is provided. Revenue under these contracts is recognized over time using an input measure of progress (typically costs incurred to date relative to total estimated costs at completion). This requires management to make significant estimates and assumptions to estimate contract sales and costs associated with its contracts with customers. At the outset of a long-term contract, the Company identifies risks to the achievement of the technical, schedule and cost aspects of the contract. Throughout the contract term, on at least a quarterly basis, we monitor and assess the effects of those risks on its estimates of sales and total costs to complete the contract. Changes in these estimates could have a material effect on the Company’s results of operations. Cost plus fixed fee contracts are largely used for development projects. Firm-fixed price contracts provide products or services generally over an agreed upon time frame for a predetermined amount. Firm-fixed price contracts present the risk of unreimbursed cost overruns, potentially resulting in lower-than-expected contract profits and margins. This risk is generally lower for cost plus fixed fee contracts which, as a result, generally have a lower margin. Service revenue includes equipment operating lease income recognized based on the contractual cash lease payments for the period. Performance obligations for product sales are typically satisfied at a point in time. This occurs when control of the products is transferred to the customer, which generally is when title and risk of loss have passed to the customer. Contract assets include unbilled amounts typically resulting from sales under contracts when the cost-to-cost method of revenue recognition is utilized and revenue recognized exceeds the amount billed to the customer. Contract assets are recorded at the net amount expected to be billed and collected. Contract liabilities include billings in excess of revenue recognized and accrual of certain contract obligations. Stock-Based Compensation. Nauticus recognizes the cost of stock-based awards granted to its employees and directors based on the grant-date fair value of the awards. Cost is recognized on a straight-line basis over the service period, which is the vesting period of the award. Nauticus elected to recognize the effect of forfeitures in the period they occur. Nauticus determines the fair value of stock options using the Black-Scholes option pricing model, which is impacted by the following assumptions: ● Expected Term—We use the “simplified method” for expected term. ● Expected Volatility—We use the historical volatility of Nauticus’ publicly traded common stock. ● Expected Dividend Yield—The dividend rate used is zero as Nauticus has never paid any cash dividends on its common stock and does not anticipate doing so in the foreseeable future. ● Risk-Free Interest Rate—The interest rates used are based on the implied yield available on U.S. Treasury zero-coupon issues with an equivalent remaining term equal to the expected life of the award. Common Stock Warrants – We account for common stock warrants as either equity-classified or liability-classified instruments based on an assessment of the warrant’s specific terms and applicable authoritative guidance. This assessment considers whether the warrants are freestanding financial instruments, meet the definition of a liability or requirements for equity classification, including whether the warrants are indexed to the Company’s Common Stock, among other conditions for equity classification. This assessment, which requires the use of professional judgment, is conducted at the time of warrant issuance and as of each subsequent quarterly period end date while the warrants are outstanding. 50 We have determined that the Private Warrants and Public Warrants should be accounted for as liabilities. The Private Warrants and Public Warrants were initially recorded at their estimated fair value on the Closing Date and are then revalued at each reporting date thereafter, with changes in the fair value reported in the consolidated statements of operations. Derivative warrant liabilities are classified in the balance sheet as current or non-current based on whether or not net-cash settlement or conversion of the instrument could be required within 12 months of the balance sheet date. The fair value of the Private Warrants was estimated using a Black-Scholes option pricing model (a Level 3 measurement). The Public Warrants are valued using their publicly traded price at each measurement date (a Level 1 measurement). We have determined that the SPA Warrants (defined below) should be accounted for as liabilities. The SPA Warrants were initially recorded at their estimated fair value on the Closing Date and are then re-valued at each reporting date thereafter, with changes in the fair value reported in the consolidated statements of operations. Derivative warrant liabilities are classified in the balance sheet as current or non-current based on whether or not net-cash settlement or conversion of the instrument could be required within 12 months of the balance sheet date. At the Closing Date, the SPA Warrants’ fair value upon issuance was estimated using a Monte Carlo valuation model (a Level 3 measurement). Earnout Shares – Earnout shares, issuable to former holders of Nauticus Robotics Holdings’ Common Stock, are held in escrow. The Earnout Shares will be released upon occurrence of a Triggering Event within five years of the Closing Date. The Earnout Shares are considered legally issued and outstanding shares of Common Stock subject to restrictions on transfer and potential forfeiture pending the achievement of the earnout targets. The Company evaluated the Earnout Shares and concluded that they meet the criteria for equity classification. The Earnout Shares were classified in stockholders’ equity, recognized at fair value upon the closing of the Business Combination and will not be subsequently remeasured. Their estimated fair value upon issuance was determined using a Monte Carlo valuation model (a Level 3 measurement). Item 7A. Quantitative and Qualitative Disclosure About Market Risk Not required for smaller reporting companies. 51