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Item 7. Management’s Discussion and Analysis

2023-07-27 compared with 2022-07-27 · 349 added, 371 removed, 2 unchanged (100% of the section changed)

MANAGEMENT'S DISCUSSION AND ANALYSIS

OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Management's Discussion and Analysis contains forward-looking

statements that involve risks and uncertainties, such as statements relating to our business plan to provide products, services and solutions

to the drone industry.

Any statements that are not statements of 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 Annual Report on Form 10-K.

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.

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 Annual Report on Form 10-K except as required by federal securities law.

Recent Developments

Red Cat Holdings has recently completed a series

of acquisitions and financings which have broadened the scope of its activities in the drone industry.

These developments include:

In November 2020, the Company acquired Fat Shark Holdings, which sells consumer

electronics products to the first-person view (“FPV”) sector of the drone industry.

Fat Shark’s flagship products are

headsets with a built in display (or “goggles”) that allow a pilot to see a real-time video feed from a camera mounted on

an aerial platform.

The total purchase price was $8.4 million.

In May 2021, the Company closed a firm commitment underwritten public offering

(the “Underwritten Offering”) resulting in the sale of 4,000,000 shares of common stock at a public offering price of $4.00

per share to underwriters, ThinkEquity, a division of Fordham Financial Management, Inc.

(“ThinkEquity”), pursuant to a registration

statement on Form S-1, as amended (File No.

333-253491), filed with the Securities and Exchange Commission (the “Commission”),

which was declared effective on April 29, 2021.

The financing generated gross proceeds of $16.0 million and net proceeds of $14.6 million.

In May 2021, we acquired Skypersonic, Inc., a provider of drone products

and software solutions that enable drone inspection flights that can be executed by pilots anywhere in the world.

Skypersonic powers drones

to “Fly Anywhere” and “Inspect the Impossible”.

Its patented software and hardware solutions allow for inspection

services in restricted spaces where GPS is not allowed or available.

The total purchase price was $2.8 million.

In July 2021, the Company closed an Underwritten Offering resulting in the

sale of 13,333,334 shares of common stock at a public offering price of $4.50 per share to ThinkEquity.

The shares of Common Stock were

offered by the Company pursuant to a registration statement on Form S-3, as amended (File No.

333-256216), filed with the Commission

which was declared effective on June 14, 2021 (the “Registration Statement”).

The financing generated gross proceeds of $60.0

million and net proceeds of approximately $55.5 million.

In August 2021, we closed the acquisition of Teal Drones ("Teal"),

a leader in commercial and government unmanned aerial vehicle ("UAV") technology.

Teal manufactures the Golden Eagle, one of

only five drones approved by the U.S.

Department of Defense for reconnaissance, public safety, and inspection applications.

purchase price was $14 million.

Business Strategy

Red Cat remains focused

on building a portfolio of complementary products and services to support the continued growth and maturation of the drone industry in

both the enterprise and consumer market segments.

Our disciplined acquisition strategy targets companies with advanced product offerings

and unique drone platforms and intellectual property.

After the integration of Teal Drones, we would expect government customers including

defense, public safety, and infrastructure to be our most significant revenue drivers in the fiscal year ending April 30, 2023.

During the second

half of the fiscal year ending on April 30, 2022, the Company focused on integrating and organizing its acquired businesses.

These efforts

including refining the establishment of Enterprise and Consumer segments in order to sharpen the Company's focus on the unique opportunities

in each sector of the drone industry.

The Enterprise segment is focused on opportunities in the commercial sector, including the military.

Enterprise is building the infrastructure to manage drone fleets, fly and provide services remotely, and navigate confined interior spaces

and dangerous military environments.

The Consumer segment is focused on enthusiasts and hobbyists which are expected to increase as drones

become more visible in our daily lives.

Consumer provides a growing revenue base, strong brand visibility for the Company, and is an

excellent source of professional pilots.

Results of Operations

When evaluating its operating results, the Company categorizes its functional

expenses into sub-categories that capture the essence of the hundreds of general ledger accounts that it maintains.

believes this process enables a more insightful understanding of changes in its operating expenses.

Cost of Goods is categorized

into (i) materials, (ii) labor, (iii) overhead, and (iv) freight.

Operations includes (i) payroll and (ii) overhead.

and development is categorized into (i) payroll, (ii) materials, and (iii) overhead.

Sales and marketing includes (i) payroll,

(ii) advertising programs, and (iii) third party services.

General and administrative is categorized into (i) payroll, (ii) facilities,

(iii) professional services, (iv) public company, (v) office, and (vi) insurance and related.

During the fiscal year ended April 30, 2022 (“Fiscal 2022”),

the Company completed the acquisitions of Teal Drones and Skypersonic which effectively doubled the number of operating subsidiaries.

These transactions were the primary reason that the Company’s operating expenses increased to $13,927,801 in Fiscal 2022 compared

to $5,946,295 in Fiscal 2021 (the fiscal year ending April 30, 2021) representing an increase of $7,981,506, or 134%.

During Fiscal 2022,

employee headcount increased from 16 at the beginning of the year to 62 on April 30, 2022.

This increase includes the addition of 15 and

10 employees from Teal and Skypersonic, respectively, that now work for the Company.

Since acquiring Teal, its headcount has doubled from

15 to 30 in connection with its expanded operations.

In addition, we have hired 6 employees to form an internal sales team primarily focused

on our Enterprise segment.

Year Ended April 30, 2022 and April 30, 2021

During the year ended April 30, 2022 (or the “2022

period”), we generated revenues totaling $6,428,963 compared to revenues totaling $4,999,517 during the year ended April 30, 2021

(or the “2021 period”) representing an increase of $1,429,446 or 29%.

Rotor Riot and Fat Shark revenues comprise the entire

amount for the 2021 period.

During fiscal year 2022, we acquired two additional drone technology companies:

Skypersonic and Teal.

increase in revenue during the 2022 period is directly related to the acquisitions.

The increase is partially offset by a decrease in

both Rotor Riot and Fat Shark revenues of 8% and 9%, respectively.

The decreased sales for Fat Shark primarily related to its primary

product being at the end of its sales cycle.

Fat Shark released its next generation product in June 2022.

Cost of Goods Sold

During the year ended

April 30, 2022, we incurred cost of goods sold of $5,503,448 compared to $3,929,832 during the year ended April 30, 2021 resulting in

an increase of $1,573,616 or 40%.

The higher dollar amount relates to the increase in revenues, primarily related to the acquisitions

of Skypersonic and Teal .

During the year ended April 30, 2022, gross margin was $925,515 compared to $1,069,685 during the year ended April 30, 2021, resulting

in a decrease of $144,170 or 13%.

Gross margin, as a percentage of sales, totaled 14% in Fiscal 2022 compared to 21% in Fiscal 2021.

The lower level of gross margin was primarily related to Teal whose gross margin of 19% was lower than the consolidated gross margin.

In addition, the gross margin of Fat Shark decreased from 18% to 2% due to pricing discounts associated with the sales of products at

the end of their life cycles.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

following discussion should be read in conjunction with our audited consolidated financial statements and related notes and other financial

data included elsewhere in this Annual Report on Form 10-K.

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 Annual Report on

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.

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 Annual Report on

Form 10-K except as required by federal securities law.

developments during the two years ended April 31, 2023 include:

May 4, 2021, the Company closed a firm commitment underwritten public offering (the "S-1 Offering") for the sale of 4,000,000

shares of common stock, at a public offering price of $4.00 per share, to ThinkEquity, a division of Fordham Financial Management, Inc.,

as representative of the underwriters ("ThinkEquity"), pursuant to an underwriting agreement with Think Equity.

were sold pursuant to a registration statement on Form S-1, as amended (File No.

333-253491), filed with the SEC, which was

declared effective by the Commission on April 29, 2021 (the "S-1 Registration Statement").

The S-1 offering generated

gross proceeds of $16 million and net proceeds of approximately $14.6 million.

July 21, 2021 the Company closed a firm commitment underwritten public offering (the "S-3 Offering") for the sale of 13,333,334

shares of common stock at a purchase price of $4.50 per share to ThinkEquity.

The shares were sold pursuant to a registration statement

on Form S-3, as amended (File No.

333-256216), filed with the SEC, which was declared effective by the SEC on June 14, 2021

and a Supplement to the Prospectus contained in a registration statement filed with the SEC on July 19, 2021.

The S-3 offering generated

gross proceeds of $60 million and net proceeds of approximately $55.5 million.

of Operations

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:

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.

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.

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.

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.

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, 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

Skypersonic's technology has been re-focused on military applications and its operations consolidated into Teal.

segment, which includes Fat Shark and Rotor Riot, is focused on hobbyists and enthusiasts which are expected to increase as drones become

more visible in our daily lives.

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

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.

of Operations

analysis of the Company's results of operations for the year ended April 30, 2023 ("Fiscal 2023") compared to the year ended

April 30, 2022 ("Fiscal 2022") includes its wholly owned subsidiaries including Teal Drones, Rotor Riot, Fat Shark, and Skypersonic.

The results for both periods is significantly impacted by the acquisition of Teal Drones on August 31, 2021.

Teal is the Company’s

largest operating subsidiary, and its operating results include 8 months for Fiscal 2022 and 12 months for Fiscal 2023.

Since acquiring

Teal, the Company has more than tripled the number of Teal employees and significantly expanded its facilities.

As a result, the comparison

of the year ended April 30, 2023 to the year ended April 30, 2022 yields more significant changes than might normally occur.

the end of Fiscal 2023, the Company recognized an impairment loss of $2,826,918 related to Skypersonic goodwill which was written down

In addition, its operations were consolidated into Teal.

Skypersonic's operating results represented 2% and 4% of consolidated

revenues and operating loss for Fiscal 2023.

Based on its immateriality, Skypersonic is not included in the operating analysis set forth

A summary comparison

of Fiscal 2023 operating results compared to Fiscal 2022 is as follows:

Cost of Goods

Operating Expenses

Operations expenses totaled $1,353,904 during Fiscal

2022 compared to $590,342 during Fiscal 2021, representing an increase of $763,562, or 129%.

Payroll costs increased to $911,358 in Fiscal

2022 compared to $219,396 in Fiscal 2021, representing an increase of $691,962, or more than 100%.

Higher payroll costs represented 91%

of the total increase in Operations expense.

During the year ended April 30, 2022, we incurred

research and development expenses totaling $2,606,141 compared to $516,084 for the year ended April 30, 2021 resulting in an increase

of $2,090,057, or greater than 100%.

Payroll costs totaled $2,211,909 in Fiscal 2022 compared to $510,084 in Fiscal 2021, representing

an increase of $1,701,825, or more than 100%.

Higher payroll costs represented 81% of the total increase in Research and Development expense.

In addition, materials costs totaled $350,372 in Fiscal 2022 compared to $1,449 in Fiscal Year 2021 representing an increase of $348,923.

Higher material costs represented 17% of the year-over-year increase.

During the year ended April 30, 2022, sales and marketing

expenses totaled $1,127,532 compared to $172,182 during the year ended April 30, 2021, resulting in an increase of $955,350 or greater

Payroll costs totaled $764,404 in Fiscal 2022 compared to $90,363 in Fiscal 2021, representing an increase of $674,041, or

more than 100%.

Higher payroll costs represented 71% of the total increase in sales and marketing expense.

In addition, advertising program

costs totaled $256,895 in Fiscal 2022 compared to $61,228 in Fiscal Year 2021 representing an increase of $195,667.

Higher advertising

program costs represented 20% of the year-over-year increase.

During the year ended April 30, 2022, we incurred

general and administrative expenses totaling $5,548,589 compared to $1,279,471 for the year ended April 30, 2021, resulting in an increase

of $4,269,118, or greater than 100%.

Payroll costs totaled $1,536,126 in Fiscal 2022 compared to $297,909 in Fiscal 2021, representing

an increase of $1,238,217, or more than 100%.

Higher payroll costs represented 29% of the total increase in general and administrative

In addition, professional services costs totaled $1,004,785 in Fiscal 2022 compared to $418,340 in Fiscal Year 2021 representing

an increase of $586,445, or 140 percent.

Higher professional services costs represented 14% of the year-over-year increase in general

administrative expenses.

Finally, public company costs, including insurance, totaled $1,456,413 in Fiscal 2022 compared to $339,428 in

Fiscal Year 2021 representing an increase of $1,116,985, or more than 100 percent.

Higher public company costs represented 26% of the

year-over-year increase in general and administrative expenses.

The Company uplisted to Nasdaq Capital Market in April 2021 which has

resulted in higher public company costs.

The remaining 30% of the increase in general and administrative expenses occurred across all

functional areas including facilities and office.

Other Expense

Other income totaled $1,313,158 during the year ended

April 30, 2022, compared to other expense of $8,359,565 during the year ended April 30, 2021, resulting in a change that is not comparable.

During Fiscal 2021, the Company recognized $7,123,182 of expenses associated with derivative liabilities related to the issuance of convertible

debentures and warrants in October 2020 and January 2021.

During Fiscal 2022, the Company recognized a benefit of $1,042,129 as a decrease

in the Company’s stock price caused the derivative liability to decrease.

Amounts related to derivatives comprised 85% of the net

expense recognized in Fiscal 2021 and 79% of the net benefit recognized in Fiscal 2022.

Net Loss for the year ended April 30, 2022, totaled

$11,689,128 compared to $13,236,175 for the year ended April 30, 2021 resulting in a decrease of $1,547,047, or 12%.

Higher operating

expenses in Fiscal 2022, primarily related to the 2 acquisitions and a 288% percent increase in headcount, resulted in an operating loss

of $13,002,286 in Fiscal 2022 compared to $4,876,610 in Fiscal 2021, representing an increase of $8,125,676, or 167%.

This increase was

partially offset by a change in the impact of derivative accounting which resulted in a net benefit of $1,042,129 in Fiscal 2022 compared

to a net expense of $7,123,182 in Fiscal 2021 resulting in a net difference of $8,165,401.

Operating Activities

Net cash used in operating activities was $16,019,320

during the year ended April 30, 2022 compared to net cash used in operating activities of $1,399,001 during the year ended April 30, 2021

representing an increase of $14,620,319, or greater than 100%.

Net cash used in operations, net of non-cash expenses, totaled $8,924,419

in the year ended April 30, 2022 compared to $1,587,946 in the year ended April 30, 2021, resulting an increase of $7,336,473, or greater

The increase primarily related to higher operating costs associated with the acquisitions of Teal Drones and Skypersonic.

cash used related to changes in operating assets and liabilities totaled $7,094,901 during the year ended April 30, 2022 compared to net

cash provided by changes in operating assets and liabilities of $188,945 during the year ended April 30, 2021, representing a net increase

in cash used of $7,283,846, or greater than 100%.

Changes in operating assets and liabilities can fluctuate significantly from year to

year depending upon the timing and level of multiple factors, including inventory purchases and vendor payments.

During Fiscal 2022, the

Company spent almost $4 million to increase inventory levels, including pre-payments, to minimize the impact of global supply chain issues,

including a shortage of computer chips, on the Company’s operations.

Investing Activities

Net cash used in investing activities was $46,603,486

during the year ended April 30, 2022 compared to net cash provided by investing activities of $48,368 during the year ended April 30,

The increase in net cash used in investing activities primarily related to the purchase of marketable securities, partially offset

by proceeds from maturities during the year ended April 30, 2022.

The Company received proceeds of approximately $70 million from the

issuance of common stock in Fiscal 2022, with a portion of those proceeds invested in a portfolio of marketable securities.

Financing Activities

Net cash provided by financing activities totaled

$66,430,274 during the year ended April 30, 2022 compared to $1,488,048 during the year ended April 30, 2021, representing an increase

of $64,942,226, or greater than 100%.

Financing activities can vary, in nature and amount, from period to period.

During the year ended

April 30, 2022, net proceeds of $70,065,203 were received through the issuance of common stock compared to zero during the year ended

April 30, 2021.

Liquidity and Capital Resources

At April 30, 2022, the Company reported current assets

totaling $55,653,297, current liabilities totaling $5,439,421 and net working capital of $50,213,876.

Cash and marketable securities totaled

$48,875,184 at April 30, 2022 and related to issuances of common stock in 2022 which generated net proceeds of more than $70 million.

As of April 30, 2022, we had inventory related balances, including pre-paid inventory, totaling $5,602,955.

The higher-than-normal inventory

balances related to actions taken to address the global supply chain issues, including a chip shortage.

At April 30, 2022, the Company

was in a strong liquidity and capital position relative to its recent annual operating results.

We have only recently begun generating revenues

and have reported net losses since our inception.

Through fiscal year 2022, we have funded our operations through private and public

offerings of common stock.

In May 2021, we completed an offering of common stock which

raised gross proceeds of $16 million.

In July 2021, we completed an offering of common stock which raised gross proceeds of $60

2020 Convertible Note Offering

In October 2020, the Company closed a private offering

of convertible promissory notes (the "2020 Notes") in the aggregate principal amount of $600,000.

The 2020 Notes accrued interest

at 12% annually, had a two-year term, and were convertible into common stock at the lower of $1.00 or a 25% discount of the price per

share of Common Stock offered in a future, qualified offering.

The financing also included the issuance of warrants to purchase 399,998

shares of common stock.

The Warrants are exercisable for a period of five years at a price equal to the lower of (1) $1.50 per share,

or (2) at a price equal to 75% of the price per share of the common stock offered in a future, qualified offering.

As of April 30, 2022, (a) the 2020 Notes were fully

converted into common stock and the related derivative liability eliminated, and (b) 266,666 of the warrants were outstanding with a derivative

liability of $529,383.

2021 Convertible Note Offering

In January 2021, the Company closed a private offering

of convertible promissory notes (the "2021 Notes") in the aggregate principal amount of $500,000.

The 2021 Notes accrued interest

at 12% annually, had a two-year term, and were convertible into shares of the Company's common stock at the lower of $1.00 or a 25% discount

of the price per share of Common Stock offered in a future, qualified offering.

The financing also included the issuance of warrants to

purchase 675,000 shares of common stock.

The Warrants are exercisable for a period of five years at a price equal to the lower of (i)

$1.50 per share, or (ii) a 25% discount to the price per share of common stock offered in a future qualified offering.

As of April 30, 2022, (a) the 2021 Notes were fully

converted into common stock and the related derivative liability eliminated, and (b) 540,000 of the warrants were outstanding with a derivative

liability of $1,078,113.

Underwritten Public

On May 4, 2021, the Company

closed a firm commitment underwritten public offering (the "S-1 Offering") in which it sold 4,000,000 shares of common stock,

at a public offering price of $4.00 per share, to ThinkEquity, a division of Fordham Financial Management, Inc., as representative of

the underwriters ("ThinkEquity"), pursuant an underwriting agreement dated April 29, 2021.

These shares of common stock

were offered to and sold by the Company pursuant to a registration statement on Form S-1, as amended (File No.

filed with the SEC, which was declared effective by the Commission on April 29, 2021 (the "S-1 Registration Statement").

net proceeds to the Company, after deducting the underwriting discount, the underwriters’ fees and expenses and the Company’s

estimated expenses, were approximately $14.6 million.

On July 21, 2021, the Company

closed on a firm commitment underwritten public offering (the "S-3 Offering") in which it sold an aggregate of 13,333,334 shares

of Common Stock at a purchase price of $4.50 per share to ThinkEquity, pursuant to an underwriting agreement dated July 18, 2021.

shares of common stock were offered and sold by the Company pursuant to a registration statement on Form S-3, as amended (File No.

filed with the SEC, which was declared effective by the SEC on June 14, 2021 and a Supplement to the Prospectus contained in this registration

statement filed with the SEC on July 19, 2021.

The net proceeds to the Company, after deducting the underwriting discount, the underwriters’

fees and expenses, and the Company’s estimated expenses were approximately $55.5 million.

Until we are able to sustain

operations through the sale of products and services, we will continue to fund operations through equity and/or debt transactions.

can provide no assurance that the financings described above will be sufficient to fund our operations until we are able to sustain operations

through the sale of products and services.

In addition, there can be no assurance that such additional financing, if required, will be

available to us on acceptable terms, or at all.

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

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

In general, management’s estimates are based on historical experience, on 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, and (iii) accounting for derivatives

Goodwill – Goodwill represents

the excess of the purchase price of an acquisition over the estimated fair value of identifiable net assets acquired.

The measurement

periods for the valuation of assets acquired and liabilities assumed ends as soon as information on the facts and circumstances that

existed as of the acquisition date becomes known, not to exceed 12 months.

Adjustments in a purchase price allocation may require a change

in the amounts allocated to goodwill during the periods in which the adjustments are determined.

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

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

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:

Operating Loss

and Analysis of Fiscal 2023 compared to Fiscal 2022

Consolidated revenues totaled

$9,911,780 during the year ended April 30, 2023 ("Fiscal 2023") compared to $6,428,963 during the year ended April 30, 2022

("Fiscal 2022") representing an increase of $3,482,817, or 54%.

Revenue growth for Teal and Rotor Riot represented $2,854,413

and $1,345,972 of the dollar increase, or 82% and 39%, of the percentage increase, respectively, which was partially offset by Fat Shark’s

decrease of $606,006 or 17%.

Revenue growth for Teal benefitted from a full year of operations in Fiscal 2023 compared to only eight

months in Fiscal 2023.

Higher revenues for Rotor Riot were generated by a significant increase in digital marketing spending.

Lower revenues

for Fat Shark related to its newest product, the Dominator, which was launched at the beginning of Fiscal 2023, and while it generated

strong initial sales in the first quarter, sales declined significantly over the remaining quarters in Fiscal 2023.

Revenues for the Enterprise

Segment totaled $4,620,834 in Fiscal 2023 compared to $1,877,983 for Fiscal 2022, representing an increase of $2,742,851, or greater than

This revenue growth was entirely attributable to Teal which recognized product sales of $3,051,348 in Fiscal 2023 and $904,600 of

revenue under the SRR Tranche II program.

Revenues for the Consumer Segment totaled $5,290,946 in Fiscal 2023 compared to $4,550,980 for

Fiscal 2022, representing an increase of $739,966, or 16%.

This revenue growth was entirely attributable to Rotor Riot whose revenues

increased by $1,345,972, more than offsetting a $606,006 decrease for Fat Shark.

gross margin totaled negative $336,795 during Fiscal 2023 compared to $925,515 during Fiscal 2022 representing a decrease of $1,262,310,

Gross margin dollar contribution for Teal, Rotor Riot, and Fat Shark totaled negative $857,721, positive $431,751, and positive

$158,285, respectively.

The reported gross margin of negative 19% for Teal was adversely impacted by a charge of $1,405,807 related to

the write off of obsolete inventory related to its legacy drone, the Golden Eagle.

Excluding this charge, core gross margin for Teal

was 12% in Fiscal 2023 compared to 19% in Fiscal 2022.

The lower core gross margin in Fiscal 2023 reflects a significant investment by

the Company to build and scale a new manufacturing facility in Salt Lake City, Utah.

Our manufacturing facility is presently producing

drones at a lower level than it is designed for, and these lower production levels, combined with higher labor and overhead costs, are

adversely impacting core gross margins at Teal.

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.

The core operating margin

for Fat Shark was 15% in Fiscal 2023 compared to 2% in Fiscal 2022.

The lower gross margin in Fiscal 2022 related to price reductions

of the prior digital goggle as the Company prepared for the launch of the Dominator in early Fiscal 2023.

Separately, Fat Shark recorded

a charge of $182,845 related to the write-off of excess quantities of Dominator inventory based on sales volumes during the second half

of Fiscal 2023.

This charge reduced gross margin from 15% to 7%.

The core operating margin for Rotor Riot was 13% in Fiscal 2023 compared

to 21% in Fiscal 2022.

The decrease related to higher product and shipping costs.

expenses totaled $4,411,685 during the 2023 period compared to $1,353,904 during the 2022 period, resulting in an increase of $3,057,781,

or greater than 100%.

Higher costs for Teal represented $2,934,250 or 96% of the percentage increase.

Since its acquisition, we have

more than tripled Teal's headcount and doubled the size of its facilities.

Approximately 49% of Teal's costs related to payroll, 21%

to employee-related office expenses, and 9% to overhead expenses with the balance spread ratably across numerous categories including

information technology, facilities, professional fees, and travel.

and development expenses totaled $5,248,336 during the year ended April 30, 2023 compared to $2,606,141 during the year ended April 30,

2022, representing an increase of $2,642,195, or approximately 100%.

The entire increase can be attributed to Teal, with approximately

43% of its expenses related to payroll, 33% related to office, 21% related to professional fees, and 3% related to information technology.

and marketing costs totaled $4,028,007 during the 2023 period compared to $1,127,532 during the 2022 period, resulting in an increase

of $2,900,475 or more than 100%.

Higher costs for Teal and Rotor Riot represented $2,487,331 and $572,891 of the dollar increase and

86% and 20% of the percentage increase.

Payroll costs, related to hiring at Teal, totaled $887,891 in the 2023 period compared to $24,428

during the 2022 period, resulting in an increase of $863,463 which represented 30% of the total increase in sales and marketing costs.

Travel and related costs totaled $567,307 in the 2023 period compared to $22,539 in the 2022 period resulting in an increase of $544,768

which represented 19% of the total increase.

In addition, higher advertising and show production costs represented 27% of the increase

while professional fees accounted for 15% of the increase.

and administrative expenses totaled $6,618,596 during the year ended April 30, 2023 compared to $5,548,589 during the year ended April

30, 2022, representing an increase of $1,070,007 or 19%.

Higher costs at the Corporate level essentially represented 100% of the increase.

Corporate 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.

Specific increases in costs included payroll

which totaled $2,283,639 in the 2023 period compared to $1,536,125 in the 2022 period resulting in an increase of $747,514 or 70% of

the total increase in general and administrative expenses.

Legal and lobbying services costs totaled $928,621 in Fiscal 2023 compared

to $312,367, representing an increase of $616,254, or 58% of the total increase.

These higher costs were partially offset by decreases

in facilities costs of $140,634 and travel costs of $139,778.

the year ended April 30, 2023, we incurred stock-based compensation costs of $3,656,724 compared to $3,291,635 in the 2022 period, resulting

in an increase of $365,089 or 11%.

During the 2023 period, the Company issued 1,503,500 additional options which resulted in incremental

stock-based compensation costs of $322,215.

income totaled $39,324 during the 2023 period compared to $1,313,158 during the 2022 period, representing a decrease of $1,273,834.

decrease in other income was principally related to higher depreciation and amortization expense which totaled $966,072 during the 2023

period compared to $264,803 during the 2022 period resulting in an increase of $701,269 and representing 55% of the total decrease in

other income.

Higher depreciation expense related to approximately $2.5 million in capital expenditures in Fiscal 2023, primarily related

to the construction of the new manufacturing facility in Salt Lake City, Utah.

Higher amortization expense related to a full year of

amortization of intangible assets acquired through acquisitions, especially Teal.

Loss totaled $27,087,737 during the year ended April 30, 2023, compared to $11,689,128 during the year ended April 30, 2022, representing

an increase of $15,398,609, or greater than 100%.

Net Loss for Teal, Rotor Riot and Fat Shark totaled $12,554,652, $1,204,175, and $526,211,

or 46%, 4%, and 2% of the consolidated net loss.

The acquisition of Teal Drones in August 2021 accounted for most of the increase.

acquiring Teal, we have more than tripled its headcount and significantly expanded its facilities.

Net loss for Teal during the 2023

period totaled $12,554,652 compared to $2,198,232 for the 2022 period, representing an increase of $10,356,420, or almost 5 times.

higher net loss for Teal represented 67% of the increase in the consolidated net loss.

Corporate costs totaled $11,747,049 in the

2023 period compared to $6,978,663 in the 2022 period resulting in an increase of $4,768,386 or 68%.

The increase represented 31%

of the increase in the consolidated loss.

cash used in operating activities was $29,199,420 during the year ended April 30, 2023, compared to net cash used in operating activities

of $16,019,320 during the year ended April 30, 2022, representing an increase of $13,180,100 or 82%.

Net cash used in operations, net

of non-cash expenses, totaled $20,322,665 during the year ended April 30, 2023, compared to 8,924,419 during the year ended April 30,

2022, resulting in an increase of $11,398,246, or greater than 100%.

The higher use of cash primarily related to the acquisition of Teal

Drones in August 2021, and the subsequent expansion of its operations, as well the inclusion of a full year of operations in the 2023

period compared to eight months of operations in the 2022 period.

Net cash used related to changes in operating assets and liabilities

totaled $8,876,755 during the year ended April 30, 2023, compared to $7,094,901 during the year ended April 30, 2022, representing an

increase of $1,781,854 or 25%.

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 and vendor payments.

Net inventory purchases, including

deposits, totaled $8,805,110 and $3,457,633 in fiscal 2023 and fiscal 2022, respectively.

cash provided by investing activities was $29,590,235 during the year ended April 30, 2023, compared to net cash used in investing activities

of $46,603,486 during the year ended April 30, 2022 resulting in a decrease of $76,193,721 or greater than 100%.

During the 2023 period,

net proceeds of $32,290,448 from the maturities of marketable securities were used to fund operations, and $2,450,213 was used to purchase

property and equipment, primarily related to the expansion of the manufacturing facilities for Teal.

During the 2022 period, purchases

of marketable securities, net of proceeds from sales of marketable securities, totaled $46,264,663.

During Fiscal 2023, the Company was

spending the proceeds from the Fiscal 2022 stock offerings to support operations for the full year, whereas in Fiscal 2022 the proceeds

from the stock offerings were invested in marketable securities and also used to support operations for the second half of Fiscal 2022.

cash used in financing activities totaled $1,215,325 during the year ended April 30, 2023, compared to net cash provided by financing

activities of $66,430,274 during the year ended April 30, 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 2022 period, the Company received net proceeds of approximately

$70 million in connection with two offerings of common stock and made payments under debt obligations totaling $2,900,709.

Debt payments

totaled $646,954 during the 2023 period.

and Capital Resources

April 30, 2023, the Company reported current assets totaling $32,175,012, current liabilities totaling $4,760,616 and net working capital

of $27,414,396.

Cash and marketable securities totaled $16,074,343 at April 30, 2023.

Inventory related balances, including pre-paid

inventory, totaled $14,408,065.

We continue to maintain higher-than-normal inventory balances related to the global supply chain issues,

including chip shortages, which continue to impact the timing of our purchase decisions.

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 year ended April 30, 2023, the Company incurred a net loss of $27,087,737 and used cash

in operating activities of $29,199,420.

As of April 30, 2023, the Company has working capital of $27,414,396.

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.

The Company is evaluating strategies to obtain

the required funding and exploring opportunities to reduce expenses.

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.

Accounting Policies and Estimates

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.

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.

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.

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

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.

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.

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.

guidance establishes three levels of the fair value hierarchy as follows:

Inputs are unadjusted, quoted prices in active markets for identical assets or liabilities at the measurement date;

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;

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 cash, receivables, current

assets, accounts payable, accrued expenses and current debt approximates fair value due to the short-term nature of these instruments.

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.

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 derivative 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.

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 that values the derivative liability based on a probability weighted discounted cash flow

The resulting liability is valued at each reporting date and the change in the liability is reflected as 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.

QUANTITATIVE AND QUALITATIVE DISCLOSURES

ABOUT MARKET RISK

As a smaller reporting company, we are not required

to provide this information.

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;

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.

Company's financial instruments mainly consist of cash, receivables, current assets, accounts payable, accrued expenses and debt.

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.

Company has financial instruments that are considered derivatives or contain embedded features subject to derivative accounting.

derivatives are valued separately from the host instrument and are recognized as liabilities on the Company's balance sheet.

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.

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.

Sheet Arrangements

have no off-balance sheet arrangements.

Issued Accounting Pronouncements

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.

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

a smaller reporting company, we are not required to provide this information.

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-K

Item 7. Management’s Discussion and Analysis