CEA Industries 10Q 2022 Q2 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2022

☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File Number: 000-54286

CEA INDUSTRIES INC.

(formerly known as Surna Inc.)

(Exact name of registrant as specified in its charter)

Nevada

27-3911608

(State or other jurisdiction of

incorporation or organization)

(I.R.S. Employer

Identification No.)

385 South Pierce Avenue, Suite C

Louisville, Colorado 80027

80027

(Address of principal executive offices)

(Zip code)

(303) 993-5271

(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Exchange Act:

Title of each class	Trading Symbol(s)	Name of each exchange on which registered
Common Stock, $0.00001 par value	CEAD	Nasdaq Capital Markets
Warrants to purchase common stock	CEADW	Nasdaq Capital Markets

Securities registered pursuant to Section 12(g) of the Act:

None

Indicate by check mark whether the issuer (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the last 90 days. YES ☒ NO ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). YES ☒ NO ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “non-accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

Large Accelerated Filer	☐	Accelerated Filer	☐
Non-accelerated Filer	☒	Smaller Reporting Company	☒
		Emerging Growth Company	☐

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES ☐ NO ☒

As of August 10, 2022, the number of outstanding shares of common stock of the registrant was 7,953,974.

CEA Industries Inc.

Quarterly Report on Form 10-Q

For the Quarterly Period Ended June 30, 2022

Table of Contents

	Page
Cautionary Statement	ii

PART I — FINANCIAL INFORMATION

Item 1. Financial Statements (Unaudited)

Condensed Consolidated Balance Sheets as of June 30, 2022 and December 31, 2021	1

Condensed Consolidated Statements of Operations for the Three and Six Months Ended June 30, 2022 and June 30, 2021	2

Condensed Consolidated Statements of Changes in Shareholders’ Equity (Deficit) for the Three and Six Months Ended June 30, 2022 and June 30, 2021	3

Condensed Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2022 and June 30, 2021	4

Notes to the Condensed Consolidated Financial Statements	5

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations	26

Item 3. Quantitative and Qualitative Disclosures About Market Risk	36

Item 4. Controls and Procedures	36

PART II — OTHER INFORMATION

Item 1. Legal Proceedings	37

Item 1A. Risk Factors	37

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds	37

Item 3. Defaults Upon Senior Securities	37

Item 4. Mine Safety Disclosures	37

Item 5. Other Information	37

Item 6. Exhibits	37

SIGNATURES	38

EXHIBIT INDEX	39

In this Quarterly Report on Form 10-Q, unless otherwise indicated, the “Company”, “we”, “us” or “our” refer to CEA Industries Inc. and, where appropriate, its wholly owned subsidiary.

CAUTIONARY STATEMENT

This Quarterly Report on Form 10-Q, including “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Item 2, contains forward-looking statements that involve substantial risks and uncertainties. These forward-looking statements are not historical fact but are based on current management expectations that involve substantial risks, uncertainties, and other factors, some of which are beyond our control and difficult to predict and could cause actual results to differ materially from those expressed in, or implied by, these forward-looking statements. Forward-looking statements relate to future events or our future financial performance. We generally identify forward-looking statements by terminology such as “may,” “will,” “should,” “expects,” “plans,” “anticipates,” “could,” “intends,” “target,” “projects,” “contemplates,” “believes,” “estimates,” “predicts,” “potential,” or “continue” or the negative of these terms or other similar words. All statements, other than statements of historical fact, are statements that could be deemed forward-looking statements including, but not limited to, any projections of revenue, gross profit, earnings or loss, tax provisions, cash flows or other financial items; any statements of the plans, strategies or objectives of management for future operations; any statements regarding current or future macroeconomic or industry-specific trends or events and the impact of those trends and events on us or our financial performance; any statements regarding pending investigations, legal claims or tax disputes; any statements of expectation or belief; and any statements of assumptions underlying any of the foregoing.

These forward-looking statements are subject to known and unknown risks, uncertainties, assumptions and other factors that could cause our actual results of operations, financial condition, liquidity, performance, prospects, opportunities, achievements or industry results, as well as those of the markets we serve or intend to serve, to differ materially from those expressed in, or suggested by, these forward-looking statements. These forward-looking statements are based on assumptions regarding our present and future business strategies and the environment in which we operate. Important factors that could cause those differences include, but are not limited to:

	●	our business prospects and the prospects of our existing and prospective customers;

	●	the impact on our business and that of our customers of the current and future response by the government and business to the COVID-19 pandemic and other health crises, including what is necessary to protect our staff and the staff of our customers in the conduct of our business;

	●	our overall financial condition, including the impact of higher interest rates and inflation, business disruption due to the COVID-19 pandemic, the Ukraine war, and the supply chains on which we depend;

	●	the inherent uncertainty of product development;

	●	regulatory, legislative and judicial developments, especially those related to changes in, and the enforcement of, cannabis laws;

	●	increasing competitive pressures in the CEA (Controlled Environment Agriculture) industry;

	●	the ability to effectively operate our business, including servicing our existing customers and obtaining new business;

	●	our relationships with our customers and suppliers;

	●	the continuation of normal payment terms and conditions with our customers and suppliers, including our ability to obtain advance payments from our customers;

	●	general economic conditions, our customers’ operations and access to capital, and market and business disruptions including severe weather conditions, natural disasters, health hazards, terrorist activities, financial crises, political crises or other major events, or the prospect of these events, adversely affecting demand for the products and services offered by us in the markets in which we operate;

	●	the supply of products from our suppliers and our ability to complete contracts, some of which depend on other actors for a comprehensive project completion;

	●	changes in our business strategy or development plans, including our expected level of capital expenses and working capital;

	●	our ability to attract and retain qualified personnel;

	●	our ability to raise equity and debt capital, as needed from time to time, to fund our operations and growth strategy, including possible acquisitions;

	●	our ability to identify, complete and integrate potential strategic acquisitions;

	●	future revenue being lower than expected;

	●	our ability to convert our backlog into revenue in a timely manner, or at all; and

	●	our intention not to pay dividends.

Although we believe that we use reasonable assumptions for these forward-looking statements, any of those assumptions could prove to be inaccurate, and as a result, the forward-looking statements based on those assumptions also could be inaccurate. In light of these and other uncertainties, the inclusion of a projection or forward-looking statement in this Quarterly Report on Form 10-Q should not be regarded as a representation by us that our plans and objectives will be achieved. These risks and uncertainties include those described or identified in “Item 1A – Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2021, as updated from time to time in the Company’s filings with the U.S. Securities and Exchange Commission (the “SEC”). You should not place undue reliance on these forward-looking statements, which apply only as of the date of this Quarterly Report on Form 10-Q. Except as required by the federal securities laws, we undertake no obligation to revise or update any forward-looking statements, whether as a result of new information, future events or otherwise, to reflect events or circumstances occurring after the date of this Quarterly Report on Form 10-Q. The forward-looking statements and projections contained in this Quarterly Report on Form 10-Q are intended to be within the meaning of “forward-looking statements” in Section 27A of the Securities Act of 1933, as amended (the “Securities Act”).

iii

PART I — FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

CEA Industries Inc.

Condensed Consolidated Balance Sheets

(in US Dollars except share numbers)

	June 30,			December 31,
	2022			2021
	(Unaudited)
ASSETS
Current Assets
Cash and cash equivalents	$	20,611,388		$	2,159,608
Accounts receivable (net of allowance for doubtful accounts of $172,760 and $181,942, respectively)		140,473			179,444
Other receivables		78,943			-
Inventory, net		401,757			378,326
Prepaid expenses and other		2,887,593			1,273,720
Total Current Assets		24,120,154			3,991,098
Noncurrent Assets
Property and equipment, net		84,687			77,346
Goodwill		-			631,064
Intangible assets, net		1,830			1,830
Deposits		14,747			14,747
Operating lease right-of-use asset		514,816			565,877
Total Noncurrent Assets		616,080			1,290,864

TOTAL ASSETS	$	24,736,234		$	5,281,962

LIABILITIES AND SHAREHOLDERS’ EQUITY (DEFICIT)

CURRENT LIABILITIES
Accounts payable and accrued liabilities	$	1,044,536		$	1,345,589
Deferred revenue		5,935,270			2,839,838
Accrued equity compensation		46,373			83,625
Other liabilities		37,078			37,078
Current portion of operating lease liability		113,999			100,139
Total Current Liabilities		7,177,256			4,406,269

NONCURRENT LIABILITIES
Operating lease liability, net of current portion		432,496			486,226
Total Noncurrent Liabilities		432,496			486,226

TOTAL LIABILITIES		7,609,752			4,892,495

Commitments and Contingencies (Note 7)		-			-

TEMPORARY EQUITY
Series B Redeemable Convertible Preferred Stock, $0.00001 par value; 0 and 3,300 issued and outstanding, respectively		-			3,960,000
Total Temporary Equity		-			3,960,000

SHAREHOLDERS’ EQUITY (DEFICIT)
Common stock, $0.00001 par value; 200,000,000 and 850,000,000 shares authorized, respectively; 7,953,974 and 1,600,835 shares issued and outstanding, respectively		80			16
Additional paid in capital		49,091,496			25,211,017
Accumulated deficit		(31,965,094	)		(28,781,566	)
Total Shareholders’ Equity (Deficit)		17,126,482			(3,570,533	)

TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY (DEFICIT)	$	24,736,234		$	5,281,962

The accompanying notes are an integral part of these condensed consolidated financial statements.

CEA Industries Inc.

Condensed Consolidated Statements of Operations

(in US Dollars except share numbers)

(Unaudited)

	2022			2021			2022			2021
	For the Three Months Ended June 30,						For the Six Months Ended June 30,
	2022			2021			2022			2021
Revenue, net	$	3,014,885		$	4,509,505		$	4,759,312		$	6,876,034

Cost of revenue		2,708,646			3,227,181			4,362,565			5,249,104

Gross profit		306,239			1,282,324			396,747			1,626,930

Operating expenses:
Advertising and marketing expenses		309,690			168,042			560,705			345,187
Product development costs		56,577			111,546			195,495			224,184
Selling, general and administrative expenses		1,080,094			886,758			2,391,871			1,627,231
Goodwill impairment charges		631,064			-			631,064			-
Total operating expenses		2,077,425			1,166,346			3,779,135			2,196,602

Operating income (loss)		(1,771,186	)		115,978			(3,382,388	)		(569,672	)

Other income (expense):
Other income (expense), net		-			150,518			185,000		$	43,518
Interest income (expense),net		10,600			(1,254	)		13,860		$	(1,972	)
Total other income (expense)		10,600			149,264			198,860			41,546

Income (Loss) before provision for income taxes		(1,760,586	)		265,242			(3,183,528	)		(528,126	)

Income taxes		-			-			-			-

Net income (loss)	$	(1,760,586	)	$	265,242		$	(3,183,528	)	$	(528,126	)

Convertible preferred series B stock dividends		-			-			(35,984	)		-
Deemed dividend on convertible preferred series B stock on down round		-			-			(439,999	)		-

Net income (loss) available to common shareholders	$	(1,760,586	)	$	265,242		$	(3,659,511	)	$	(528,126	)

Income (loss) per common share – basic	$	(0.23	)	$	0.17		$	(0.59	)	$	(0.33	)

Income/(loss) per common share – diluted	$	(0.23	)	$	0.17		$	(0.59	)	$	(0.33	)

Weighted average number of common shares outstanding, basic		7,801,211			1,582,998			6,220,600			1,579,938

Weighted average number of common shares outstanding, diluted		7,801,211			1,605,526			6,220,600			1,579,938

The accompanying notes are an integral part of these condensed consolidated financial statements.

CEA Industries Inc.

Condensed Consolidated Statements of Changes in Shareholders’ Equity (Deficit)

For the Three and Six Months Ended June 30, 2022 and June 30, 2021

(in US Dollars except share numbers)

(Unaudited)


		Common Stock
		Number of Shares		Amount			Additional Paid in Capital			Accumulated Deficit			Shareholders’ Deficit
Balance March 31, 2022	-		7,784,444	$	78	-	$	48,958,618		$	(30,204,508	)	$	18,754,188
Fair value of vested stock options granted to employees	-		-		-	-		126,635			-			126,635
Fair value of restricted stock units issued to directors			-		-			6,245			-			6,245
Cashless exercise of prefunded warrants			169,530		2			(2	)		-			-
Net loss			-		-			-			(1,760,586	)		(1,760,586	)
Balance June 30, 2022	-		7,953,974	$	80	-	$	49,091,496		$	(31,965,094	)	$	17,126,482

		Common Stock
		Number of Shares		Amount			Additional Paid in Capital			Accumulated Deficit			Shareholders’ Deficit
Balance December 31, 2021	-		1,600,835	$	16	-	$	25,211,017		$	(28,781,566	)	$	(3,570,533	)
Fair value of vested stock options granted to employees	-		-		-	-		159,573			-			159,573
Fair value of vested stock options granted to directors			-		-			29,656			-			29,656
Common shares issued in settlement of restricted stock units issued to directors			3,367		0			24,994			-			24,994
Fair value of restricted stock units issued to directors			-		-			11,173			-			11,173
Issuance of common shares to round up partial shares following reverse split			6,798		0			0						0
Common shares and warrants issued for cash			5,811,138		58			21,711,073			-			21,711,131
Common shares and warrants issued on conversion of series B preferred stock			362,306		4			1,979,996			-			1,980,000
Dividends on series B preferred stock			-		-			(35,984	)		-			(35,984	)
Cashless exercise of prefunded warrants			169,530		2			(2	)		-			-
Net loss			-		-			-			(3,183,528	)		(3,183,528	)
Balance June 30, 2022	-		7,953,974	$	80	-	$	49,091,496		$	(31,965,094	)	$	17,126,482

	Number of Shares		Amount		Number of Shares		Amount		Number of Shares to be Issued			Amount			Additional Paid in Capital		Accumulated Deficit			Shareholders’ Deficit
	Preferred Stock				Common Stock
	Number of Shares		Amount		Number of Shares		Amount		Number of Shares to be Issued			Amount			Additional Paid in Capital		Accumulated Deficit			Shareholders’ Deficit
Balance March 31, 2021		280,202	$	420		1,576,844	$	2,366		6,667		$	67,000		$	26,241,935	$	(28,237,011	)	$	(1,925,290	)
Common shares issued in settlement of legal dispute		-		-		6,667		10		(6,667	)		(67,000	)		66,990		-			-
Fair value of vested stock options granted to employees		-		-		-				-			-			15,336		-			15,336
Fair value of vested stock options granted to directors		-		-		-				-			-			70		-			70
Net income		-		-		-				-			-			-		265,242			265,242
Balance June 30, 2021		280,202	$	420		1,583,511	$	2,376		-		$	-		$	26,324,331	$	(27,971,769	)	$	(1,644,642	)

	Preferred Stock				Common Stock
	Number of Shares		Amount		Number of Shares		Amount		Number of Shares to be Issued		Amount		Additional Paid in Capital		Accumulated Deficit			Shareholders’ Deficit
Balance December 31, 2020		280,202	$	420		1,576,844	$	2,366		-	$	-	$	26,107,159	$	(27,443,643	)	$	(1,333,698	)
Common shares issued in settlement of legal dispute		-		-		6,667		10						66,990		-			67,000
Fair value of vested stock options granted to employees		-		-		-				-		-		143,770		-			143,770
Fair value of vested stock options granted to directors		-		-		-				-		-		6,412		-			6,412
Net loss		-		-		-				-		-		-		(528,126	)		(528,126	)
Net Income loss		-		-		-				-		-		-		(528,126	)		(528,126	)
Balance June 30, 2021		280,202	$	420		1,583,511	$	2,376		-	$	-	$	26,324,331	$	(27,971,769	)	$	(1,644,642	)

The accompanying notes are an integral part of these condensed consolidated financial statements.

CEA Industries Inc.

Condensed Consolidated Statements of Cash Flows

(in US Dollars except share numbers)

(Unaudited)

	2022			2021
	For the Six Months Ended June 30,
	2022			2021
Cash Flows From Operating Activities:
Net loss	$	(3,183,528	)	$	(528,126	)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
Depreciation and intangible asset amortization expense		16,697			37,180
Share-based compensation		225,396			21,748
Common stock issued for other expense		-			67,000
Provision for doubtful accounts		(9,182	)		23,213
Provision for excess and obsolete inventory		(34,417	)		(10,945	)
Loss on disposal of assets		4,060			8,042
Amortization of ROU asset		51,061			98,913
Goodwill impairment charges		631,064			-

Changes in operating assets and liabilities:
Accounts receivable		48,153			(224,183	)
Inventory		10,986			(106,299	)
Prepaid expenses and other		(1,692,816	)		(949,152	)
Accounts payable and accrued liabilities		(317,453	)		124,583
Deferred revenue		3,095,431			331,585
Accrued interest		-			1,972
Deposits		-			(16,122	)
Operating lease liability, net		(39,870	)		(130,156	)
Accrued equity compensation		(37,251	)		108,945
Net cash used in operating activities		(1,231,669	)		(1,141,802	)

Cash Flows From Investing Activities
Purchases of property and equipment		(13,948	)		(15,316	)
Proceeds from the sale of property and equipment		2,250			1,500
Net cash used in investing activities		(11,698	)		(13,816	)

Cash Flows From Financing Activities
Payment of dividends on series B preferred stock		(35,984	)		-
Redemption of series B preferred stock		(1,980,000	)		-
Cash proceeds on sale of common stock and warrants, net of expenses		21,711,131			-
Proceeds from issuance of note payable		-			514,200
Net cash provided by financing activities		19,695,147			514,200

Net change in cash and cash equivalents		18,451,780			(641,418	)
Cash and cash equivalents, beginning of period		2,159,608			2,284,881
Cash and cash equivalents, end of period	$	20,611,388		$	1,643,463

Supplemental cash flow information:
Interest paid	$	-		$	-
Income taxes paid	$	-		$	-

Non-cash investing and financing activities:
Unpaid purchases of equipment and other assets	$	16,400		$	-
Conversion of series B preferred stock	$	1,980,000		$	-
Deemed dividend on series B preferred stock arising on down round	$	439,999		$	-
Cashless exercise of prefunded warrants	$	2		$	-

The accompanying notes are an integral part of these condensed consolidated financial statements.

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

Note 1 – General

Description of Business

CEA Industries Inc., formerly Surna Inc. (the “Company”), was incorporated in Nevada on October 15, 2009. We design, engineer and sell environmental control and other technologies for the Controlled Environment Agriculture (“CEA”) industry. The CEA industry is one of the fastest-growing sectors of the United States’ economy. From leafy greens (kale, Swiss chard, mustard, cress), microgreens (leafy greens harvested at the first true leaf stage), ethnic vegetables, ornamentals, and small fruits (such as strawberries, blackberries and raspberries) to bell peppers, cucumbers, tomatoes and cannabis and hemp, more and more producers consider or act to grow crops indoors in response to market dynamics or as part of their preferred farming practice. In service of the CEA industry, we provide: (i) architectural design and licensed engineering of commercial scale thermodynamic systems specific to cultivation facilities, (ii) liquid-based process cooling systems and other climate control systems, (iii) air handling equipment and systems, (iv) air sanitation products, (v) LED lighting, (vi) benching and racking solutions for indoor cultivation, (vii) proprietary controls systems and technologies used for environmental, lighting, and climate control, and (viii) preventive maintenance services, through our partnership with a certified service contractor network, for CEA facilities. Our customers include commercial, state- and provincial-regulated CEA growers in the U.S. and Canada as well as other international locations. Customers are those growers building new facilities and those expanding or retrofitting existing facilities. Currently, our revenue stream is derived primarily from supplying our products, services, and technologies to commercial indoor facilities ranging from several thousand to more than 100,000 square feet. Headquartered in Louisville, Colorado, we leverage our experience in this space to bring value-added climate control solutions to our customers that help improve their overall crop quality and yield, optimize energy and water efficiency, and satisfy the evolving state and local codes, permitting and regulatory requirements. Although most of our customers do, we neither produce nor sell cannabis or its related products.

Impact of the COVID-19 Pandemic on Our Business

The impact of the government and the business economic response to the COVID-19 pandemic has affected demand across the majority of our markets and disrupted workflow and completion schedules on projects. The COVID-19 pandemic is expected to have continued adverse effects on our sales, project implementation, supply chain infrastructure, operating margins, and working capital.

The resulting effects and uncertainties from the COVID-19 pandemic, including the depth and duration of the disruptions to customers and suppliers, its future effect on our business, on our results of operations, and on our financial condition, cannot be predicted. We expect that the economic disruptions will continue to have an effect on our business over the longer term. Despite this uncertainty, we continue to monitor costs and continue to take actions to reduce costs in order to mitigate the impact of the COVID-19 pandemic to the best of our ability. However, these actions may not be sufficient in the long run to avoid reduced sales, increased losses, and reduced operating cash flows in our business. During the six months ended June 30, 2022, the Company experienced significant delays in the receipt of equipment it had ordered to meet its customer orders due to disruption and delays in its supply chain arising from the long-term effects of the COVID-19 pandemic. Consequently, our revenue recognition of these customer sales has been delayed until future periods when the shipment of these orders can be completed.

Impact of Ukrainian Conflict

Currently, we believe that the conflict between Ukraine and Russia does not have any direct impact on our operations, financial condition, or financial reporting. We believe the conflict will have only a general impact on our operations in the same manner as it is having a general impact on all businesses that have their operations limited to North America resulting from international sanction and embargo regulations, possible shortages of goods and goods incorporating parts that may be supplied from the Ukraine or Russia, supply chain challenges, and the international and US domestic inflationary results of the conflict and government spending for and funding of our country’s response. As our operations are related only to the North American controlled environment agricultural industry, largely within the cannabis space, we do not believe we will be targeted for cyber-attacks related to this conflict. We have no operations in the countries directly involved in the conflict or are specifically impacted by any of the sanctions and embargoes, as we principally operate in the United States and Canada. We do not believe that the conflict will have any impact on our internal control over financial reporting. Other than general securities market trends, we do not have reason to believe that investors will evaluate the company as having special risks or exposures related to the Ukrainian conflict.

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

Inflation

We anticipate that our business and financial position will be impacted by the current inflationary environment. To the extent that we use borrowed funds, we believe our costs will increase. Access to capital for our business and our business plan will also be impacted by increased interest rates and may affect our ability to obtain capital. Inflation will also have an impact on the cost of supplies of goods and services that we use to complete our contracts for our customers. Depending on the terms of our contracts currently executed and in execution, we may not be able to pass on our increased costs, with the consequence of an adverse impact on our operating profit and overall margin.

Financial Statement Presentation

The preparation of the consolidated financial statements in conformity with accounting principles generally accepted in the United States of America (“GAAP”) requires management to make estimates and assumptions that affect reported amounts and related disclosures.

The accompanying consolidated financial statements have been prepared on a going concern basis, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business within one year after the date the consolidated financial statements are available to be issued. The Company continues to experience recurring losses since its inception. As a result, in order to continue as a going concern, the Company has been reliant on the ability to obtain additional sources of financing to fund growth. As indicated in Note 8 – Shareholders Equity (Deficit) below, on February 15, 2022, the Company received approximately $22,000,000 in proceeds from completion of an equity offering. Based on management’s evaluation, the proceeds from the Offering will be more than sufficient to fund any deficiencies in working capital or cash flow from operations, and the Company is confident that it will be able to meet its obligations as they come due, and fund operations for at least 12 months after the issuance of these consolidated financial statements. Accordingly, the conditions around liquidity and limited working capital necessary to fund operations have been addressed.

Interim Financial Statements

The accompanying unaudited condensed consolidated financial statements of the Company have been prepared in conformity with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Pursuant to these rules and regulations, certain information and note disclosures, normally included in financial statements prepared in accordance with GAAP, have been condensed or omitted. In the opinion of management, all adjustments (consisting of normal recurring items) considered necessary for a fair presentation have been included. Operating results for the six months ended June 30, 2022 are not necessarily indicative of the results that may be expected for the fiscal year ending December 31, 2022. The balance sheet as of December 31, 2021 has been derived from the audited financial statements at that date but does not include all the information and footnotes required by GAAP for complete financial statements. For further information, refer to the consolidated financial statements and notes thereto contained in the Annual Report on Form 10-K for the year ended December 31, 2021.

Principles of Consolidation

The condensed consolidated financial statements include the accounts of the Company and its controlled and wholly owned subsidiaries, Hydro Innovations, LLC (“Hydro”) and Surna Cultivation Technologies LLC (“SCT”). Intercompany transactions, profit, and balances are eliminated in consolidation.

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

Reverse Stock Split

On January 17, 2022, the Company’s Board of Directors approved a reverse stock split at a ratio of one-for-one hundred and fifty. Such reverse stock split was implemented effective January 27, 2022. The par value for the Common Stock was not affected.

As a result of this reverse stock split, the number of the Company’s shares of common stock issued and outstanding as of December 31, 2021, was reduced from 240,125,224 to 1,600,835.

All Common Stock, warrants, options and per share amounts set forth herein are presented to give retroactive effect to the Reverse Split for all periods presented.

Use of Estimates

Management makes estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and that affect the reported amounts of revenue and expenses during the reporting period. The Company bases its estimates on historical experience and on various other assumptions that it believes to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results could differ from those estimates. Key estimates include: allocation of transaction prices to performance obligations under contracts with customers, standalone selling prices, timing of expected revenue recognition on remaining performance obligations under contracts with customers, valuation of intangible assets and goodwill, valuation of equity-based compensation, valuation of deferred tax assets and liabilities, warranty accruals, accounts receivable and inventory allowances, and legal contingencies.

Cash, Cash Equivalents, and Restricted Cash

All highly liquid investments with original maturities of three months or less at the date of purchase are considered to be cash equivalents. The Company may, from time to time, have deposits in financial institutions that exceed the federally insured amount of $250,000. As of June 30, 2022, the balance in the Company’s account was approximately $20,611,000, consequently $20,361,000 of this balance was not insured by the FDIC. The Company has not experienced any losses to date on depository accounts.

Income (Loss) Per Common Share

Basic income (loss) per common share is computed by dividing net income (loss) attributable to common stockholders by the weighted-average number of common shares outstanding during the period without consideration of common stock equivalents. Diluted net income (loss) per common share is computed by dividing net income (loss) by the weighted-average number of common shares outstanding and potentially dilutive common stock equivalents, including stock options, warrants and restricted stock units and other equity-based awards, except in cases where the effect of the common stock equivalents would be antidilutive. Potential common stock equivalents consist of common stock issuable upon exercise of stock options and warrants and the vesting of restricted stock units using the treasury method.

During the six months ended June 30, 2022 and 2021, there were warrants and options outstanding to purchase Company common stock and restricted stock units that were convertible into shares of the Company’s common stock. During the three-months period ended June 30, 2020 and the six-months periods ended June 30, 2021 and 2020, the Company incurred a net loss and consequently the common share equivalents of these potentially dilutive equity instruments have not been included in the calculations of loss per share because such inclusion would have been anti-dilutive. However, during the three-month period ended June 30, 2021, we realized a net profit and therefore included 22,528 potential common stock equivalents in respect of our outstanding stock options using the treasury method.

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

As of June 30, 2022, and 2021, there were respectively, 7,882,061 and 164,579, potentially dilutive equity instruments outstanding in respect of options outstanding to purchase Company common stock and restricted stock units that were convertible into shares of the Company’s common stock.

Goodwill

The Company recorded goodwill in connection with its acquisition of Hydro Innovations, LLC in July 2014. Goodwill is reviewed for impairment annually or more frequently when events or changes in circumstances indicate that fair value of the reporting unit has been reduced to less than its carrying value. The Company performs a quantitative impairment test annually on December 31 by comparing the fair value of the reporting unit with its carrying amount, including goodwill. The Company’s fair value is calculated using a market valuation technique whereby an appropriate control premium is applied to the Company’s market capitalization as calculated by applying its publicly quoted share price to the number of its common shares issued and outstanding. If the fair value of the reporting unit exceeds its carrying amount, goodwill is considered not impaired. An impairment charge would be recognized for the amount by which the carrying amount exceeds the reporting unit’s fair value. The Company determined that it has one reporting unit.

As of June 30, 2022, the Company experienced a triggering event due to a drop in its stock price and performed a quantitative analysis for potential impairment of its goodwill. As of June 30, 2022, the Company performed a quantitative analysis for potential impairment of its goodwill, by comparing the Company’s fair value to its carrying value as of June 30, 2022. Based on this analysis, the Company determined that its carrying value exceeded its fair value. As a result, the Company recorded a non-cash goodwill impairment charge of $631,064 at June 30, 2022. No income tax benefit related to this goodwill impairment charge was recorded at June 30, 2022.

Temporary Equity

Shares of preferred stock that are redeemable for cash or other assets are classified as temporary equity if they are redeemable, at the option of the holder, at a fixed or determinable price on a fixed or determinable date or upon the occurrence of an event that is not solely within the control of the Company. Redeemable equity instruments are initially carried at the fair value of the equity instrument at the issuance date, net of issuance costs, which is subsequently adjusted to redemption value (including the amount for dividends earned but not yet declared or paid) at each balance sheet date if the instrument is currently redeemable or if it is probable that the instrument will become redeemable.

Revenue Recognition

On January 1, 2018, the Company adopted Accounting Standards Update (“ASU”) 2014-09 (Topic 606), Revenue from Contracts with Customers and all the related amendments (“ASC 606” or the “revenue standard”) to all contracts and elected the modified retrospective method.

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

The following table sets forth the Company’s revenue by source:

Schedule of Revenue by Source

	2022		2021		2022		2021
	For the Three Months Ended June,				For the Six Months Ended June 30,
	2022		2021		2022		2021
Equipment and systems sales	$	2,791,141	$	4,245,897	$	4,433,713	$	6,409,365
Engineering and other services		192,076		172,648		278,125		353,731
Shipping and handling		31,668		90,960		47,474		112,938
Total revenue	$	3,014,885	$	4,509,505	$	4,759,312	$	6,876,034

Revenue Recognition Accounting Policy Summary

The Company accounts for revenue in accordance with ASC 606. Under the revenue standard, a performance obligation is a promise in a contract with a customer to transfer a distinct good or service to the customer. Most of the Company’s contracts contain multiple performance obligations that include engineering and technical services as well as the delivery of a diverse range of climate control system equipment and components, which can span multiple phases of a customer’s project life cycle from facility design and construction to equipment delivery and system installation and start-up. The Company does not provide construction services or system installation services. Some of the Company’s contracts with customers contain a single performance obligation, typically engineering only services contracts.

A contract’s transaction price is allocated to each distinct performance obligation and recognized as revenue when, or as, the performance obligation is satisfied. When there are multiple performance obligations within a contract, the Company allocates the transaction price to each performance obligation based on standalone selling price. When estimating the selling price, the Company uses various observable inputs. The best observable input is the Company’s actual selling price for the same good or service, however, this input is generally not available for the Company’s contracts containing multiple performance obligations. For engineering services, the Company estimates the standalone selling price by reference to certain physical characteristics of the project, such as facility size and mechanical systems involved, which are indicative of the scope and complexity of the mechanical engineering services to be provided. For equipment sales, the standalone selling price is determined by forecasting the expected costs of the equipment and components and then adding an appropriate margin, based on a range of acceptable margins established by management. Depending on the nature of the performance obligations, the Company may use a combination of different methods and observable inputs if certain performance obligations have highly variable or uncertain standalone selling prices. Once the selling prices are determined, the Company applies the relative values to the total contract consideration and estimates the amount of the transaction price to be recognized as each promise is fulfilled.

Generally, satisfaction occurs when control of the promised goods is transferred to the customer or as services are rendered or completed in exchange for consideration in an amount for which the Company expects to be entitled. The Company recognizes revenue for the sale of goods when control transfers to the customer, which primarily occurs at the time of shipment. The Company’s historical rates of return are insignificant as a percentage of sales and, as a result, the Company does not record a reserve for returns at the time the Company recognizes revenue. The Company has elected to exclude from the measurement of the transaction price all taxes (e.g., sales, use, value added, and certain excise taxes) that are assessed by a governmental authority in connection with a specific revenue-producing transaction and collected by the Company from the customer. Accordingly, the Company recognizes revenue net of sales taxes. The revenue and cost for freight and shipping is recorded when control over the sale of goods passes to the Company’s customers.

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

The Company also has performance obligations to perform certain engineering services that are satisfied over a period of time. Revenue is recognized from this type of performance obligation as services are rendered based on the percentage completion towards certain specified milestones.

The Company offers assurance-type warranties for its products and products manufactured by others to meet specifications defined by the contracts with customers and does not have any material separate performance obligations related to these warranties. The Company maintains a warranty reserve based on historical warranty costs.

Other Judgments and Assumptions

The Company typically receives customer payments in advance of its performance of services or transfers of goods. Applying the practical expedient in ASC 606-10-32-18, which the Company has elected, the Company does not adjust the promised amount of consideration for the effects of a significant financing component since the Company expects, at contract inception, that the period between when the Company transfers a promised good or service to a customer and when the customer pays for that good or service will be one year or less. Accordingly, the remaining performance obligations related to customer contracts does not consider the effects of the time value of money.

Applying the practical expedient in ASC 340-40-25-4, the Company recognizes the incremental costs of obtaining contracts as an expense when incurred since the amortization period of the assets that the Company otherwise would have recognized is one year or less. These costs include certain sales commissions and incentives, which are included in selling, general and administrative expenses, and are payable only when associated revenue has been collected and earned by the Company.

Contract Assets and Contract Liabilities

Contract assets reflect revenue recognized and performance obligations satisfied in advance of customer billing. Contract liabilities relate to payments received in advance of the satisfaction of performance under the contract. The Company receives payments from customers based on the terms established in its contracts.

Contract assets include unbilled amounts where revenue recognized exceeds the amount billed to the customer and the right of payment is conditional, subject to completing a milestone, such as a phase of a project. The Company typically does not have material amounts of contract assets since revenue is recognized as control of goods are transferred or as services are performed. As of June 30, 2022, and 2021, the Company had no contract assets.

Contract liabilities consist of advance payments in excess of revenue recognized. The Company’s contract liabilities are recorded as a current liability in deferred revenue in the consolidated balance sheets since the timing of when the Company expects to recognize revenue is generally less than one year. As of June 30, 2022, and December 31, 2021, deferred revenue, which was classified as a current liability, was $5,935,270 and $2,839,838, respectively.

For the three and six months ended June 30, 2022, the Company recognized revenue of $1,030,830 and $2,193,204, respectively, related to the deferred revenue at January 1, 2022. For the three and six months ended June 30, 2021, the Company recognized revenue of $1,193,251 and $3,073,616, respectively, related to the deferred revenue at January 1, 2021.

Remaining Performance Obligations

Remaining performance obligations, or backlog, represents the aggregate amount of the transaction price allocated to the remaining obligations that the Company has not performed under its customer contracts. The Company has elected not to use the optional exemption in ASC 606-10-50-14, which exempts an entity from such disclosures if a performance obligation is part of a contract with an original expected duration of one year or less. Accordingly, the information disclosed about remaining performance obligations includes all customer contracts, including those with an expected duration of one year or less.

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

The Company and its customers face various industry dynamics that make the timing and recognition of the Company’s revenue challenging. The Company’s ability to recognize revenue is driven by a customer’s ability to take possession of the sold equipment, which is predicated on completion of a customer’s cultivation facility. The Company’s customers are often first-time participants who face challenges associated with maintaining project funding, securing state and local licenses, and designing and installing complex equipment for the facility. Coordination of these efforts introduces uncertainty to the timing and completion of cultivation facilities, and all of these challenges are enhanced by the current economic environment. Global supply-chain delays and growing backlog challenges extend the duration, cost and timing uncertainty of many cultivation facility projects. In addition, as inflation-related cost increases affect the project returns that investors expect, many customers face funding uncertainty from initial investors. As a result of these challenges, the Company may experience contract cancellations, project scope reductions, and project delays from its customers, and there is no assurance that the Company will be able to fulfill its backlog.

As of June 30, 2022, the Company’s remaining performance obligations, or backlog, was approximately $9,698,000. There is significant uncertainty regarding the timing of the Company’s recognition of revenue on its remaining performance obligations, and there is no certainty that these will result in actual revenues. The backlog at June 30, 2022, includes booked sales orders of $776,000 from several customers that the Company does not expect to be realized until 2023. Our backlog also contains booked sales orders of $155,000 (2% of the total backlog) from two customers that we believe are at risk of cancellation based on conversations with these customers. Given the current supply chain and bottleneck issues that are still being worked through by the Company’s supply chain partners, the Company believes that several of its current contracts may be delayed.

The remaining performance obligations expected to be recognized through 2023 are as follows:

Schedule of Remaining Performance Obligations Expected to be Recognized

	2022		2023		Total
Remaining performance obligations related to engineering only paid contracts	$	-	$	-	$	-
Remaining performance obligations related to partial equipment paid contracts		8,767,000		931,000		9,698,000
Total remaining performance obligations	$	8,767,000	$	931,000	$	9,698,000

Product Warranty

The Company warrants the products that it manufactures for a warranty period equal to the lesser of 12 months from start-up or 18 months from shipment. The Company’s warranty provides for the repair, rework, or replacement of products (at the Company’s option) that fail to perform within stated specification. The Company’s third-party suppliers also warrant their products under similar terms, which are passed through to the Company’s customers.

The Company assesses the historical warranty claims on its manufactured products and, since 2016, warranty claims have been approximately 1% of annual revenue generated on these products. Based on the Company’s warranty policy, an accrual is established at 1% of the trailing 18 months revenue. The Company continues to assess the need to record a warranty reserve at the time of sale based on historical claims and other factors. As of June 30, 2022, and December 31, 2021, the Company had an accrued warranty reserve amount of $183,979 and $186,605, respectively, which are included in accounts payable and accrued liabilities on the Company’s consolidated balance sheets.

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

Accounting for Share-Based Compensation

The Company recognizes the cost resulting from all share-based compensation arrangements, including stock options, restricted stock awards and restricted stock units that the Company grants under its equity incentive plan in its condensed consolidated financial statements based on their grant date fair value. The expense is recognized over the requisite service period or performance period of the award. Awards with a graded vesting period based on service are expensed on a straight-line basis for the entire award. Awards with performance-based vesting conditions, which require the achievement of a specific company financial performance goal at the end of the performance period and required service period, are recognized over the performance period. Each reporting period, the Company reassesses the probability of achieving the respective performance goal. If the goals are not expected to be met, no compensation cost is recognized and any previously recognized amount recorded is reversed. If the award contains market-based vesting conditions, the compensation cost is based on the grant date fair value and expected achievement of market condition and is not subsequently reversed if it is later determined that the condition is not likely to be met or is expected to be lower than initially expected.

The grant date fair value of stock options is based on the Black-Scholes Option Pricing Model (the “Black-Scholes Model”). The Black-Scholes Model requires judgmental assumptions including volatility and expected term, both based on historical experience. The risk-free interest rate is based on U.S. Treasury interest rates whose term is consistent with the expected term of the option. The Company determines the assumptions used in the valuation of option awards as of the date of grant. Differences in the expected stock price volatility, expected term or risk-free interest rate may necessitate distinct valuation assumptions at those grant dates. As such, the Company may use different assumptions for options granted throughout the year. During the six months ended June 30, 2022, the valuation assumptions used to determine the fair value of each option award on the date of grant were: expected stock price volatility ranged from 158.21% to 158.70%; expected term in years 10 and risk-free interest rate ranged from 1.52% to 2.32%.

The grant date fair value of restricted stock and restricted stock units is based on the closing price of the underlying stock on the date of the grant.

The Company has elected to reduce share-based compensation expense for forfeitures as the forfeitures occur since the Company does not have historical data or other factors to appropriately estimate the expected employee terminations and to evaluate whether particular groups of employees have significantly different forfeiture expectations.

The following is a summary of share-based compensation expenses included in the condensed consolidated statements of operations for the three and six months ended June 30, 2022 and June 30, 2021:

Schedule of Share-based Compensation Costs

	2022		2021		2022		2021
	For the Three Months Ended June 30,				For the Six Months Ended June 30,
	2022		2021		2022		2021
Share-based compensation expense included in:
Cost of revenue	$	5,104	$	15,809	$	5,895	$	29,944
Advertising and marketing expenses		4,080		6,818		6,842		13,292
Product development costs		4,961		7,335		4,961		14,029
Selling, general and administrative expenses		81,482		41,595		170,446		73,428
Total share-based compensation expense included in consolidated statement of operations	$	95,627	$	71,557	$	188,144	$	130,693

Included in the expense for the three and six months ended June 30, 2022, is an accrual for $46,374 and $46,374, respectively, for the 2022 Annual Employee Incentive Compensation Plan. Included in the expense for the three and six months ended June 30, 2021, is an accrual for $56,151 and $108,945, respectively, for the 2021 Annual Employee Incentive Compensation Plan.

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

Concentrations

Two customers accounted for 53% and 12% of the Company’s revenue for the three months ended June 30, 2022 and one customer accounted for 47% of the Company’s revenue for the six months ended June 30, 2022. Three customers accounted for 28%, 27%, and 11% of the Company’s revenue for the three months ended June 30, 2021 and three customers accounted for 18%, 18% and 13% of the Company’s revenue for the six months ended June 30, 2021.

Three customers accounted for 60%, 25% and 10% of the Company’s accounts receivable as of June 30, 2022. Two customers accounted for 68%, and 23% of the Company’s accounts receivable as of December 31, 2021.

Recently Issued Accounting Pronouncements

In October 2021, the FASB issued ASU 2021-08, “Business Combinations (Topic 805): Accounting for Contract Assets and Contract Liabilities from Contracts with Customers”, which requires companies to apply ASC 606, “Revenue from Contracts with Customers” to recognize and measure contract assets and contract liabilities from contracts with customers acquired in a business combination. This creates an exception to the general recognition and measurement principle in ASC 805, which uses fair value. The guidance is effective for fiscal years beginning after December 15, 2022 and interim periods within those fiscal years. Early adoption is permitted, and the guidance should be applied prospectively. The impact of the standard on Company’s consolidated financial statements is dependent on the size and frequency of any future acquisitions the Company may complete.

In May 2021, the FASB issued ASU 2021-04, Issuer’s Accounting for Certain Modifications or Exchanges of Freestanding Equity-Classified Written Call Options. This guidance clarifies and reduces diversity in an issuer’s accounting for modifications or exchanges of freestanding equity-classified written call options due to a lack of explicit guidance in the FASB Codification. The guidance is effective for interim and annual periods beginning after December 15, 2021. Early adoption is permitted. The guidance is to be applied prospectively to modifications or exchanges occurring on or after the effective date. The adoption of this guidance has not had a material impact on the Company’s consolidated financial statements.

In March 2020, the FAS issued ASU No. 2020-04 “Reference Reform (Topic 848) Facilitation of the Effects of Reference Rate Reform on Financial Reporting” (“ASU 2020-04”). ASU 2020-04 provides optional guidance for a limited period of time to ease the potential burden in accounting for (or recognizing the effects of) reference rate reform on financial reporting. The amendments are effective for the Company as of March 12, 2020 through December 31, 2022. The Company does not expect this ASU to have a material impact on its consolidated results of operations, cash flows and financial position.

Other accounting standards that have been issued or proposed by FASB that do not require adoption until a future date are not expected to have a material impact on the financial statements upon adoption. The Company does not discuss recent pronouncements that are not anticipated to have an impact on or are unrelated to its financial condition, results of operations, cash flows or disclosures.

Note 2 – Leases

In February 2016 the FASB issued ASU 2016-02, Leases (Topic 842) (“ASC 842” or the “new lease standard”). The Company adopted ASC 842 as of January 1, 2019, using the effective date method.

The new standard provides a number of optional practical expedients in transition. The Company has elected to apply the “package of practical expedients” which allow the Company to not reassess: (i) whether existing or expired arrangements contain a lease, (ii) the lease classification of existing or expired leases, or (iii) whether previous initial direct costs would qualify for capitalization under the new lease standard. The Company has also elected to apply the short-term lease exemption for all leases with an original term of less than 12 months, for purposes of applying the recognition and measurements requirements in the new lease standard.

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

On July 28, 2021, the Company entered into an agreement to lease 11,491 square feet of office and manufacturing space (the “New Facility Lease”), in Louisville, CO. The New Facility Lease commenced on November 1, 2021 and continues through January 31, 2027. From November 2021 through January 2022, the monthly rent was abated. Beginning February 2022, the monthly rent is $10,055 and will increase by 3% annually every November through the end of the New Facility Lease term. Pursuant to the New Facility Lease, the Company made a security deposit of $14,747. The Company has the option to renew the New Facility Lease for an additional five years. Additionally, the Company pays the actual amounts for property taxes, insurance, and common area maintenance. The New Facility Lease agreement contains customary events of default, representations, warranties, and covenants.

Upon commencement of the New Facility Lease, the Company recognized on the balance sheet an operating lease right-of-use asset and lease liability in the amount of $582,838. The lease liability was initially measured as the present value of the unpaid lease payments at commencement and the ROU asset was initially measured at cost, which comprises the initial amount of the lease liability adjusted for lease payments made at or before the lease commencement date, plus any initial direct costs incurred less any lease incentives received. The renewal option to extend the New Facility Lease is not included in the right-of-use asset or lease liability, as the option is not reasonably certain to be exercised. The Company regularly evaluates the renewal option and when it is reasonably certain of exercise, the Company will include the renewal period in its lease term.

The lease cost, cash flows and other information related to the New Facility Lease were as follows:

Schedule of Lease Cost

	As of June 30, 2022
Operating lease right-of-use asset	$	514,816
Operating lease liability, current	$	113,999
Operating lease liability, long-term	$	432,496

Remaining lease term		4.6 years
Discount rate		3.63	%

For the

Six Months Ended

June 30, 2022

Operating cash outflow from operating lease

50,273

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

Future annual minimum lease payments on the New Facility Lease as of June 30, 2022 are as follows:

Schedule of Future Annual Minimum Lease Payments

Years ended December 31,
2022 (excluding the six months ended June 30, 2022)	$	60,931
2023		124,897
2024		128,643
2025		132,503
2026		136,473
Thereafter		11,654
Total minimum lease payments		595,101
Less imputed interest		(48,606	)
Present value of minimum lease payments	$	546,495

Note 3 – Inventory

Inventory consisted of the following:

Schedule of Inventory

	June 30,			December 31,
	2022			2021
Finished goods	$	228,378		$	272,199
Work in progress		195			1,050
Raw materials		230,145			196,456
Allowance for excess & obsolete inventory		(56,961	)		(91,379	)
Inventory, net	$	401,757		$	378,326

Overhead expenses of $14,997 and $13,589 were included in the inventory balance as of June 30, 2022, and December 31, 2021, respectively.

The inventory balance at June 30, 2022 includes $47,735 for inventory in transit from one of our suppliers that was delivered to our warehouse in July of 2022.

Advance payments on inventory purchases are recorded in prepaid expenses until title for such inventory passes to the Company. Prepaid expenses included approximately $2,720,000 and $1,069,000 in advance payments for inventory for the periods ended June 30, 2022, and December 31, 2021, respectively.

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

Note 4 – Property and Equipment

Property and equipment consisted of the following:

Schedule of Property and Equipment

	June 30,			December 31,
	2022			2021
Furniture and equipment	$	282,748		$	274,472
Vehicles		15,000			15,000
Leasehold improvements		-			-
Property and equipment, gross		297,748			289,472
Accumulated depreciation		(213,061	)		(212,126	)
Property and equipment, net	$	84,687		$	77,346

Depreciation expense was $16,697 for the six months ended June 30, 2022. For the six months ended June 30, 2022, $2,428 was allocated to cost of sales, $607 was allocated to inventory with the remainder recorded as selling, general, and administrative expense.

Note 5 – Accounts Payable and Accrued Liabilities

Accounts payable and accrued liabilities consisted of the following:

Schedule of Accounts Payable and Accrued Liabilities

	June 30,		December 31,
	2022		2021
Accounts payable	$	207,640	$	616,056
Sales commissions payable		21,613		27,592
Accrued payroll liabilities		325,372		322,873
Product warranty accrual		183,979		186,605
Other accrued expenses		305,932		192,463
Total	$	1,044,536	$	1,345,589

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

Note 6 – Commitments and Contingencies

Litigation

From time to time, in the normal course of its operations, the Company is subject to litigation matters and claims. Litigation can be expensive and disruptive to normal business operations. Moreover, the results of complex legal proceedings are difficult to predict, and the Company’s view of these matters may change in the future as the litigation and events related thereto unfold. The Company expenses legal fees as incurred. The Company records a liability for contingent losses when it is both probable that a liability has been incurred and the amount of the loss is known. An unfavorable outcome to any legal matter, if material, could have an adverse effect on the Company’s operations or its financial position, liquidity or results of operations.

Leases

The Company has a lease agreement for its manufacturing and office space. Refer to Note 2 Leases above.

Other Commitments

In the ordinary course of business, the Company enters into commitments to purchase inventory and may also provide indemnifications of varying scope and terms to customers, vendors, lessors, business partners, and other parties with respect to certain matters, including, but not limited to, losses arising out of the Company’s breach of such agreements, services to be provided by the Company, or from intellectual property infringement claims made by third parties. In addition, the Company has entered into indemnification agreements with its directors and certain of its officers and employees that will require the Company to, among other things, indemnify them against certain liabilities that may arise by reason of their status or service as directors, officers, or employees. The Company maintains director and officer insurance, which may cover certain liabilities arising from its obligation to indemnify its directors and certain of its officers and employees, and former officers, directors, and employees of acquired companies, in certain circumstances.

Note 7 – Temporary Equity

On September 28, 2021, the Company sold to an institutional investor (the “Investor”), 3,300 shares of Series B Convertible Preferred Stock (“Series B Preferred Stock”), stated value $1,000 per share, convertible into shares of common stock, for an aggregate purchase price of $3,000,000 (“Consideration”). The Company received net proceeds of approximately $1,260,000 on September 28, 2021, and the balance of approximately $1,365,000 on November 4, 2021.

The Series B Preferred Stock had an annual dividend of 8% and an initial common stock conversion price of $8.55. The conversion rate was subject to adjustment in various circumstances, including stock splits, stock dividends, pro rata distributions, fundamental transactions and upon a triggering event and subject to reset if the common stock of the Company sold in any subsequent equity transaction, including a qualified offering, was sold at a price below the then conversion price.

The Series B Preferred Stock was mandatorily convertible on the third anniversary of its issuance. All conversions of the Series B Preferred Stock were subject to a blocker provision of 4.99%.

Probability of Redemption: As it was considered probable the Series B Preferred stock would become redeemable outside of the Company’s control, the Series B Preferred stock was disclosed as temporary equity and was initially adjusted as of September 30, 2021 to its redemption value of 120% of the stated value of $1,000 per share, or $3,960,000. As a result, the Company recorded a $2,262,847 non-cash redemption value adjustment during 2021. This redemption value adjustment is treated as similar to a dividend on the preferred stock for GAAP purposes; accordingly, the redemption value adjustment is therefore added to the “Net Loss” to arrive at “Net Loss Attributable to Common Shareholders” on the Company’s Consolidated Statements of Operations. In addition, since the Company did not have a balance of retained earnings, the redemption value adjustment was recorded against additional paid-in capital.

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

On February 16, 2022, the Company redeemed 1,650 shares of its Series B Preferred Stock for payment of $2.016 million in cash, which included both principal and accrued dividends of approximately $36,000.

On February 16, 2022, the remaining 1,650 shares of the Company’s Series B Preferred Stock were converted into 362,306 shares of common stock and 703,069 warrants; 170,382 of the warrants vested immediately, have an indefinite term and an exercise price of $0.01 (“pre-funded conversion warrants”), the balance of 532,688 warrants also vested immediately, have a term of 5 years and have an exercise price of $5.00. The initial common stock conversion price for the shares of Series B Preferred Stock was $8.55. However, the terms of the Series B preferred stock were such that the stock conversion price was to be reduced to 75% of the offering price in any subsequent qualified public offering of Company equity instruments, if lower than the common stock conversion price of $8.55. The Company’s public offering that closed on February 15, 2022, was completed at an offering price of $4.13. Accordingly, the initial common stock conversion price for the shares of Series B Preferred Stock was reduced from $8.55 to $3.0975, representing 75% of the offering price of $4.13. As a result, the Company recognized a deemed dividend of $439,999 to Series B Shareholders in respect of the additional shares of common stock and warrants they received on the conversion of their shares of Series B Preferred stock. As the Company does not have a balance of retained earnings, the deemed dividend was recorded against additional paid-in capital.

The Company has no remaining Preferred Shares outstanding as of June 30, 2022.

Note 8 – Stockholders’ Equity (Deficit)

As of June 30, 2022, the Company had 200,000,000 shares of common stock and 25,000,000 shares of preferred stock authorized at a $.00001 par value. Effective June 30, 2022, 7,953,974 shares of common stock were issued and outstanding and no shares of preferred stock are issued and outstanding.

Directors Remuneration

On January 3, 2022, the Company issued 3,125 non-qualified stock options under the 2021 Equity Incentive Plan to each of two existing directors. The options had an exercise price of $4.80, vested immediately and had a term ending at the earlier of five years after the date on which the optionee’s continuous service ends, or the tenth anniversary on which the option was granted.

On January 17, 2022, the Company issued an RSU grant of 3,367 shares of common stock 2021 Equity Incentive Plan to each of two new directors, 1,684 shares of common stock vested immediately on grant date and the remaining 1,683 shares of common stock will vest on January 17, 2023, if the recipient remains in service as an independent director. 1,684 shares of common stock were issued on January 17, 2022 to each of the two new directors in settlement of the RSUs that vested immediately.

Revised Compensation Plan

On August 20, 2021, the Board of Directors revised the previously adopted equity-based compensation plan and adopted a new compensation plan for independent directors (the “Plan”). The Plan is effective retroactively for the current independent directors and for independent directors elected or appointed after the Effective Date of the Plan.

The Company will pay its independent directors an annual cash fee of $15,000, payable quarterly in advance on the first business day of each calendar quarter, retroactive commencing July 1, 2021, as consideration for their participation in: (i) any regular and special meetings of the Board and any committee participation and meetings thereof that are attended in person, (ii) any telephonic and other forms of electronic meetings of the Board or of any committee thereof in which the director is a member, (iii) any non-meeting consultations with the Company’s management, and (iv) any other services provided by them in their capacities as directors. In addition, on the first business day of January each year after the Effective Date, each independent director will receive a grant of Non-Qualified Stock Options valued at $15,000. As part of the retroactive compensation, each independent director on the Board as of the Effective Date will receive an additional grant of Non-Qualified Stock Options valued at $7,500 for service in 2021.

On January 17, 2022, the Board of Directors revised the previously adopted compensation plan. This plan supersedes the plan adopted on August 20, 2021. The Plan is effective retroactively for the current independent directors and for independent directors elected or appointed after the Effective Date.

The plan is divided into two phases: from the Effective Date of the Plan until February 9, 2022, the day prior to the uplisting of the Company to Nasdaq. (“Pre-uplist”) and from February 10, 2022, the uplist date forward (“Post-uplist”).

Pre-uplist phase: The Company paid its independent directors an annual cash fee of $15,000, payable quarterly in advance on the first business day of each quarter, as consideration for their participation in: (i) any regular or special meetings of the Board or any committee thereof attended in person, (ii) any telephonic meeting of the Board or any committee thereof in which the director is a member, (iii) any non-meeting consultations with the Company’s management, and (iv) any other services provided by them in their capacities as directors (other than services as the Chairman of the Board, the Chairman of the Company’s Audit Committee, and the Committee Chairman).

At the time of initial election or appointment, each independent director received an equity retention award in the form of restricted stock units (“RSUs”). The aggregate value of the RSUs at the time of grant was to be $25,000, with the number of shares underlying the RSUs to be determined based on the closing price of the Company’s common stock on the date immediately prior to the date of grant. Vesting of the RSUs was as follows: (i) 50% at the time of grant, and (ii) 50% on the first anniversary of the grant date.

In addition, on the first business day of January each year, each independent director will also receive an equity retention award in the form of RSUs. The aggregate value of the RSUs at the time of grant will be $25,000, with the number of shares underlying the RSUs to be determined based on the closing price of the Company’s common stock on the date immediately prior to the date of grant. These RSUs will be fully vested at date of grant.

The Company pays the Audit Committee Chairman an additional annual fee of $10,000, payable quarterly in advance, for services as the Audit Committee Chairman.

The Company pays the Chairmen of any other committees of the Board an additional annual fee of $5,000, payable quarterly in advance, for services as a Committee Chairman.

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

There is no additional compensation paid to members of any committee of the Board. Interested (i.e. Executive directors) serving on the Board do not receive compensation for their Board service.

Post-uplist phase: The Company will pay its independent directors an annual cash fee of $25,000, payable quarterly in advance on the first business day of each quarter. All other terms remain the same.

Each director is responsible for the payment of any and all income taxes arising with respect to the issuance of common stock and the vesting and settlement of RSUs.

The Company reimburses independent directors for out-of-pocket expenses incurred in attending Board and committee meetings and undertaking certain matters on the Company’s behalf.

All independent directors, Messrs. Shipley, Etten, Reisner, and Mariathasan are subject to the Plan.

Each independent director is responsible for the payment of any and all income taxes arising with respect to the issuance of any equity awarded under the plan, including the exercise of any non-qualified stock options.

Employee directors do not receive separate fees for their services as directors.

Reverse Stock Split

On January 17, 2022, the Company’s Board of Directors approved a reverse stock split at a ratio of one-for-one hundred and fifty. The reverse stock split was implemented effective January 27, 2022. The par value for the Common Stock was not affected.

An additional 6,798 shares of common stock were issued to round up partial shares following the reverse spilt.

As a result of this reverse stock split, the number of the Company’s shares of common stock issued and outstanding at December 31, 2021 was reduced from 240,125,244 to 1,600,835. All Common Stock, warrants, options and per share amounts set forth herein are presented to give retroactive effect to the Reverse Split for all periods presented.

Change in Authorized Share Capital

In connection with the aforementioned reverse stock split, the Company’s Board of Directors approved the reduction of the authorized capital of the Company to 200,000,000 shares of common stock and 25,000,000 shares of preferred stock.

Equity Raise

On February 10, 2022, the Company signed a firm commitment underwriting agreement for the public offering of shares of common stock and warrants, which closed on February 15, 2022. The Company received net proceeds of approximately $22 million for the sale of 5,811,138 shares of common stock and 6,572,808 warrants, each warrant to purchase one share of common stock for five years, exercisable immediately, at an exercise price of $5.00. The Company also issued to the representative of the underwriters 290,557 warrants, each warrant to purchase one share of common stock at an exercise price of $5.1625, during the period commencing August 9, 2022, and expiring on February 10, 2027.

Warrant Exercise

On June 21, 2022, the Company issued 169,530 shares of its common stock in connection with the cashless exercise of 170,382 prefunded conversion warrants.

Note 9 – Equity Incentive Plans

2017 Equity Incentive Plan

Under the Company’s 2017 Equity Incentive Plan, as may be modified and amended by the Company from time to time (the “2017 Equity Plan”), the Board of Directors (the “Board”) (or the compensation committee of the Board, if one is established) may award stock options, stock appreciation rights (“SARs”), restricted stock awards (“RSAs”), restricted stock unit awards (“RSUs”), shares granted as a bonus or in lieu of another award, and other stock-based performance awards. The 2017 Equity Plan allocates 333,333 shares of the Company’s common stock (“Plan Shares”) for issuance of equity awards under the 2017 Equity Plan. If any shares subject to an award are forfeited, expire, or otherwise terminate without issuance of such shares, the shares will, to the extent of such forfeiture, expiration, or termination, again be available for awards under the 2017 Equity Plan.

During the six months ended June 30, 2022, no shares or options were issued, and 13,333 options were cancelled under the 2017 Plan.

As of June 30, 2022, of the 333,333 shares authorized under the 2017 Plan for equity awards, 163,692 shares have been issued, awards related to 148,905 options remain outstanding, and 20,736 shares remain available for future equity awards.

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

2021 Equity Incentive Plan

On March 22, 2021, the Board approved the 2021 Equity Incentive Plan (the “2021 Equity Plan”), which was approved by the stockholders on July 22, 2021. The 2021 Equity Plan permits the Board to grant awards of up to 666,667 shares of common stock. The 2021 Equity Plan provides for the grant of incentive stock options intended to qualify under Section 422 of the Internal Revenue Code of 1986, as amended (the “Code”), non-qualified stock options, stock appreciation rights (“SARs”), restricted stock awards and restricted stock unit awards and other equity linked awards to our employees, consultants, and directors. If an equity award (i) expires or otherwise terminates without having been exercised in full or (ii) is settled in cash (i.e., the holder of the award receives cash rather than stock), such expiration, termination or settlement will not reduce (or otherwise offset) the number of shares of common stock that may be issued pursuant to this Plan.

During the six months ended June 30, 2022, the Company issued 3,367 shares of its common stock to two new independent directors under the 2021 Equity Incentive Plan, pursuant to the Director Compensation plan adopted in January 2022.

During the six months ended June 30, 2022, the Company granted awards for 21,167 non-qualified stock options to newly hired employees under the 2021 Equity Incentive Plan as described below.

During the six months ended June 30, 2022, the Company granted awards for 6,250 non-qualified stock options to directors under the 2021 Equity Incentive Plan, pursuant to the Director Compensation plan adopted in August of 2021.

On April 1, 2022, 31,793 non-qualified stock options were issued to 21 employees in respect of the Company’s 2021 Equity Incentive Plan. The options vested immediately, have a term of 10 years and an exercise price of $2.51. The expense in respect of this issuance had been fully accrued in 2021.

As of June 30, 2022, of the 666,667 shares authorized under the 2021 Equity Plan, 10,170 relate to restricted shares issued, 65,201 relate to outstanding non-qualified stock options, 40,816 relate to outstanding incentive stock options, 3,367 relate to outstanding restricted stock units and 547,113 shares remain available for future equity awards.

There was $168,766 in unrecognized compensation expense for unvested non-qualified stock options, incentive stock options and restricted stock units at June 30, 2022 which will be recognized over approximately 3 years.

Non-Qualified and Incentive Stock Options

A summary of the non-qualified stock options and incentive stock options granted to employees and consultants under the 2017 and 2021 Equity Plans during the six months ended June 30, 2022, are presented in the table below:

Schedule of Stock Option Activity

	Number of Options			Weighted Average Exercise Price		Weighted Average Remaining Contractual Term		Aggregate Intrinsic Value

Outstanding, December 31, 2021		158,174		$	10.99		7.60	$	-
Granted		52,960		$	2.92		9.70	$	-
Exercised		-		$	-		-	$	-
Forfeited		(13,333	)	$	9.15		9.50	$	-
Expired		-		$	-		-	$	-
Outstanding, June 30, 2022		197,800		$	8.95		8.20	$	-
Exercisable, June 30, 2022		150,621		$	9.91		7.80	$	-

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

During the six months ended June 30, 2022, we issued a total of 52,960 stock options to employees as follows:

	●	6,167 stock options were issued to three new employees. The vesting of these options ranges from immediate to three years, have a term of 10 years and exercise prices ranging from $4.80 to $6.90.
	●	15,000 stock options were issued to our newly appointed Chief Financial Officer. The options vest as follows: 2,000 vested immediately, 3,000 on March 11, 2023, 5,000 on March 11, 2024, and 5,000 on March 11, 2025. The options have a term of 10 years and an exercise price of $2.20.
	●	31,793 stock options were issued to 21 employees in respect of the Company’s 2021 Annual Incentive Awards which vested immediately. The options have a term of 10 years and an exercise price of $2.51.
	●	During the six months ended June 30, 2022, 1,667 fully vested stock options and 11,667 unvested stock options were forfeited following the departure of one former employee.

A summary of non-vested non-qualified stock options activity for employees and consultants under the 2017 and 2021 Equity Plans for the six months ended June 30, 2022, are presented in the table below:

Summary of Non-vested Non-qualified Stock Option Activity

	Number of Options			Weighted Average Grant-Date Fair Value		Aggregate Intrinsic Value		Grant-Date Fair Value

Nonvested, December 31, 2021		41,846		$	7.65	$	-	$	320,122
Granted		52,960		$	2.89	$	-	$	153,151
Vested		(35,960	)	$	2.72	$	-	$	97,674
Forfeited		(11,667	)	$	9.01	$	-	$	(105,118	)
Expired		-		$	-	$	-	$	-
Nonvested, June 30, 2022		47,179		$	5.73	$	-	$	270,481

For the six months ended June 30, 2022 and June 30, 2021, the Company recorded $75,947 and $15,336 as compensation expense related to vested options issued to employees and consultants, net of forfeitures, respectively.

A summary of the non-qualified stock options granted to directors under the 2017 Equity Plan and the 2021 Equity Plan, during the six months ended June 30, 2022, are presented in the table below:

Schedule of Stock Option Activity

	Number of Options		Weighted Average Exercise Price		Weighted Average Remaining Contractual Term		Aggregate Intrinsic Value ($000)

Outstanding, December 31, 2021		50,872	$	10.02		6.6	$	-
Granted		6,250	$	4.80		9.5	$	-
Exercised		-	$	-		-	$	-
Forfeited/Cancelled		-	$	-		-	$	-
Expired		-	$	-		-	$	-
Outstanding, June 30, 2022		57,122	$	9.44		6.5	$	-
Exerciseable, June 30, 2022		57,122	$	9.44		6.5	$	-

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

A summary of non-vested non-qualified stock options activity for directors under the 2017 Equity Plan and the 2021 Equity Plan, for the six months ended June 30, 2022, are presented in the table below:

Summary of Non-vested Non-qualified Stock Option Activity

	Number of Options			Weighted Average Grant-Date Fair Value		Aggregate Intrinsic Value		Grant-Date Fair Value

Nonvested, December 31, 2021		-		$	-	$	-	$	-
Granted		6,250		$	4.80	$	-	$	29,656
Vested		(6,250	)	$	4.80	$	-	$	(29,656	)
Forfeited		-		$	-	$	-	$	-
Expired		-		$	-	$	-	$	-
Nonvested, June 30, 2022		-				$	-	$	-

During the six months ended June 30, 2022 and June 30, 2021, the Company incurred $29,656 and $6,412 respectively, as compensation expense related to 6,250 and 3,333 vested options, respectively, issued to directors.

Effective January 3, 2022, the Company issued 6,250 non-qualified stock options under the 2021 Equity Plan to its then current directors. The options vested upon grant. The options have a term of 10 years and an exercise price equal to the closing price of the Company’s common stock on The OTC Markets on the day immediately preceding the grant date.

Restricted Stock Units

Effective January 17, 2022, the Company issued 6,734 restricted stock units (RSUs) under the 2021 Equity Plan to newly appointed directors. 3,367 of these RSUs vested upon grant and the remining 3,367 will vest on January 17, 2023.

The Company recorded $36,168 during the six months ended June 30, 2022, as compensation expense related to vested RSUs issued to directors.

Schedule of Restricted Stock Units Activity

	Number of Units			Weighted Average Grant-Date Fair Value		Aggregate Intrinsic Value

Outstanding, December 31, 2021		-		$	-	$	-
Granted		6,734		$	7.42	$	-
Vested and settled with share issuance		(3,367	)	$	7.42	$	-
Forfeited/canceled		-		$	-	$	-
Outstanding, June 30, 2022		3,367		$	7.42	$	-

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

Note 10 - Warrants

The following table summarizes information with respect to outstanding warrants to purchase common stock during the six months ended June 30, 2022:

Schedule of Outstanding Warrants to Purchase Common Stock

						Weighted
				Weighted Average		Average Remaining			Aggregate
	Number			Exercise		Life			Intrinsic
	Outstanding			Price		In Months			Value

Outstanding at December 31, 2021		227,719		$	9.59		33		$	0

Granted		7,566,435		$	4.89		55		$	212,978

Exercised		(170,382	)	$	0.01		-	*	$	212,978

Expired		-			-		-			-

Outstanding at June 30, 2022		7,623,772		$	5.14		55	*	$	0

*	Excludes 170,382 warrants with an indefinite life.

The following table summarizes information about warrants outstanding at June 30, 2022:

Schedule of Warrants Outstanding

		Warrants		Weighted Average
Exercise price		Outstanding		Months Outstanding

	9.45		192,982		27

	10.40		34,737		28

	5.00		7,105,496		56

	5.16		290,557		56

			7,623,772		55

Q3 2021 Warrants Issued to Series B Preferred Stockholder

On September 28, 2021, the Company entered into a Securities Purchase Agreement with an institutional investor, pursuant to which the investor purchased from the Company 3,300 shares of convertible Series B Preferred Stock with a stated value of $1,000 per share, or $3,300,000 of stated value in the aggregate, and a warrant to purchase up to 192,982 shares of common stock of the Company for an aggregate purchase price of $3,000,000. The warrant is exercisable until September 28, 2024, at an exercise price of $9.45, subject to adjustment for stock splits, stock dividends and other typical adjustments and changes in capitalization, including mergers and acquisitions and distribution of rights.

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

Q3 2021 Warrants Issued to Series B Preferred Placement Agent

In connection with the sale of the shares of convertible Series B Preferred Stock described above, the Company issued 34,737 warrants to the placement agent and its designees. Half of the warrants were issued on September 28, 2021, and the second half were issued on November 3, 2021, and are exercisable commencing February 28, 2022 and May 3, 2022, respectively, until September 28, 2024 and November 3, 2024, respectively. The exercise price per share of the warrants is $10.40, subject to adjustment for stock splits, stock dividends and other typical adjustments and changes in capitalization, including mergers and acquisitions and distribution of rights.

Q1 2022 Investor Warrants

On February 15, 2022, the Company issued 5,811,138 investment units for aggregate gross proceeds of $24,000,000, or $4.13 per unit. Each unit consisted of one share of the Company’s common stock and one warrant for the purchase of one share of the Company’s common stock. The warrants vested immediately, had a term of 5 years and an exercise price of $5.00.

Q1 2022 Overallotment Warrants

Further on February 15, 2022, in connection the Company’s issuance of 5,811,138 investment units for aggregate gross proceeds of $24,000,000, or $4.13 per unit as described above, a further 761,670 warrants were issued in connection with the subscription for substantially all of the available 15% overallotment warrants. The warrants were acquired for consideration of $0.01 per warrant, vested immediately, had a term of 5 years and an exercise price of $5.00.

Q1 2022 Underwriter Warrants

Further on February 15, 2022, in connection the Company’s issuance of 5,811,138 investment units for aggregate gross proceeds of $24,000,000, or $4.13 per unit described above, the Company also issued representatives of the underwriters 290,557 warrants. Each warrant entitled the holder to purchase one share of common stock at an exercise price of $5.1625, during the period commencing August 9, 2022, and expiring on February 10, 2027.

Q1 2022 Series B Preferred Shares Pre-Funded Conversion Warrants

On February 16, 2022, in connection with the conversion of 1,650 shares of Series B Preferred Stock into 362,306 shares of the Company’s common stock, the Series B Preferred Shareholder was issued with 170,382 pre-funded conversion warrants. Each warrant entitled the holder to purchase one share of common stock at an exercise price of $0.01, vested immediately and had an indefinite life.

On June 21, 2022, the holder of all 170,382 pre-funded conversion warrants exercised all of their warrants on a cashless basis and received 169,530 shares of the Company’s common stock as a result of the exercise.

No pre-funded conversion warrants remained outstanding at June 30, 2022.

Q1 2022 Series B Preferred Shares Conversion Warrants

Further on February 16, 2022, in connection with the conversion of 1,650 shares of Series B Preferred Stock into 362,306 shares of the Company’s common stock, the Series B Preferred Shareholder was also issued with 532,688 Series B Preferred shares conversion warrants. Each warrant entitled the holder to purchase one share of common stock at an exercise price of $5.00, vested immediately and had a term of 5 years.

CEA Industries Inc.

Notes to Condensed Consolidated Financial Statements

June 30, 2022

(in US Dollars except share numbers)

(Unaudited)

Note 11 – Income Taxes

As of June 30, 2022, the Company has U.S. federal and state net operating losses (“NOLs”) of approximately $24,275,000, of which $11,196,000 will expire, if not utilized, in the years 2034 through 2037, however, NOLs generated subsequent to December 31, 2017 do not expire but may only be used against taxable income to 80%. In response to the novel coronavirus COVID-19, the Coronavirus Aid, Relief, and Economic Security Act temporarily repealed the 80% limitation for NOLs arising in 2018, 2019 and 2020.

In addition, pursuant to Section 382 of the Internal Revenue Code of 1986, as amended, use of the Company’s NOLs carryforwards may be limited in the event of cumulative changes in ownership of more than 50% within a three-year period. In addition, under Section 382 of the Internal Revenue Code of 1986, as amended (the “Code”), and corresponding provisions of state law, if a corporation undergoes an “ownership change,” which is generally defined as a greater than 50% change, by value, in its equity ownership over a three-year period, the corporation’s ability to use its pre-change net operating loss carryforwards and other pre-change tax attributes to offset its post-change income or taxes may be limited. Our sale of securities, both in September 2021 and February 2022, will need to be considered for determination of any “ownership change” that we have undergone during a determination period. If an ownership change occurs and our ability to use our net operating loss carryforwards is materially limited, it would harm our future bottom-line operating results by effectively increasing our future tax obligations

The Company must assess the likelihood that its net deferred tax assets will be recovered from future taxable income, and to the extent the Company believes that recovery is not likely, the Company establishes a valuation allowance. Management’s judgment is required in determining the Company’s provision for income taxes, deferred tax assets and liabilities, and any valuation allowance recorded against the net deferred tax assets. The Company recorded a full valuation allowance as of June 30, 2022 and December 31, 2021. Based on the available evidence, the Company believes it is more likely than not that it will not be able to utilize its net deferred tax assets in the foreseeable future. The Company intends to maintain valuation allowances until sufficient evidence exists to support the reversal of such valuation allowances. The Company makes estimates and judgments about its future taxable income that are based on assumptions that are consistent with the Company’s plans. Should the actual amounts differ from the Company’s estimates, the carrying value of the Company’s deferred tax assets could be materially impacted.

Note 12 – Related Party Transactions

The Company entered into a manufacturer representative agreement with RSX Enterprises (“RSX”) in March 2021 to become a non-exclusive representative for the Company to assist in marketing and soliciting orders. James R. Shipley, a current director of the Company, has a significant ownership interest in RSX.

Under the manufacturer representative agreement, RSX will act as a non-exclusive representative for the Company within the United States, Canada and Mexico and may receive a commission for qualified customer leads. The agreement had an initial term through December 31, 2021 with automatic one-year renewal terms unless notice is given 90 days prior to each annual expiration. During the six months ended June 30, 2022, the Company paid $9,884 in commissions under this agreement.

Note 13 – Subsequent Events

In accordance with ASC 855, Subsequent Events, the Company has evaluated all subsequent events through the date of issuance of these financial statements issued and determined no material subsequent events occurred after June 30, 2022 for which disclosure was required.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion should be read in conjunction with our unaudited condensed consolidated financial statements and related notes included elsewhere in this Quarterly Report, which include additional information about our accounting policies, practices, and the transactions underlying our financial results, as well as with our audited consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2021, as filed with the SEC. In addition to historical information, the following discussion and other parts of this Quarterly Report contain forward-looking information that involves risks and uncertainties. Our actual results could differ materially from those anticipated by such forward-looking information due to the factors discussed under “Cautionary Statements” appearing elsewhere herein and the risks and uncertainties described or identified in “Item 1A – Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2021, as updated from time to time in the Company’s filings with the SEC, and Part II, Item 1A of this Quarterly Report entitled “Risk Factors.”

Non-GAAP Financial Measures

To supplement our financial results on U.S. generally accepted accounting principles (“GAAP”) basis, we use non-GAAP measures including net bookings, backlog, as well as adjusted net income (loss) which reflects adjustments for certain non-cash expenses such as stock-based compensation, certain debt-related items and depreciation expense. We believe these non-GAAP measures are helpful in understanding our past performance and are intended to aid in evaluating our potential future results. The presentation of these non-GAAP measures should be considered in addition to our GAAP results and are not intended to be considered in isolation or as a substitute for financial information prepared or presented in accordance with GAAP. We believe these non-GAAP financial measures reflect an additional way to view aspects of our operations that, when viewed with our GAAP results, provide a more complete understanding of factors and trends affecting our business. For purposes of this Quarterly Report, (i) “adjusted net income (loss)” and “adjusted operating income (loss)” mean GAAP net income (loss) and operating income (loss), respectively, after adjustment for non-cash equity compensation expense, debt-related items and depreciation expense, and (ii) “net bookings” means new sales contracts executed during the quarter for which we received an initial deposit, net of any adjustments including cancellations and change orders during the quarter.

Our backlog, remaining performance obligations and net bookings may not be indicative of future operating results, and our customers may attempt to renegotiate or terminate their contracts for a number of reasons, including delays in or inability to obtain project financing or licensing or abandonment of the project entirely. Accordingly, there can be no assurance that contracts included in the backlog or remaining performance obligations will actually generate revenues or when the actual revenues will be generated.

Overview

CEA Industries is an engineering and design company focused on selling environmental control and other technologies and services to the Controlled Environment Agriculture (“CEA”) industry. The CEA industry uses technology-based methods to grow crops in a way that provides protection from the outdoor elements; these methods have traditionally included indoor agriculture and vertical farming. The CEA industry aims to optimize the use of horticultural resources such as water, energy, space, capital, and labor, to create an agriculture business that is more efficient and more productive than traditional farming methods.

Headquartered in Colorado, we leverage our experience in the CEA industry to bring our customers a variety of value-added technology solutions that help improve their overall crop quality and yield, optimize energy and water efficiency, and satisfy the evolving state and local codes, permitting and regulatory requirements. We do this by offering our customers a variety of principal service and product offerings that include: (i) architectural design and licensed engineering of commercial scale thermodynamic systems specific to cultivation facilities, (ii) liquid-based process cooling systems and other climate control systems, (iii) air handling equipment and systems, (iv) air sanitation products, (v) LED lighting, (vi) benching and racking solutions for indoor cultivation, (vii) proprietary controls systems and technologies used for environmental, lighting and climate control, and (viii) preventive maintenance services, through our partnership with a certified service contractor network, for CEA facilities.

Currently, our revenue stream is derived primarily from supplying our products, services and technologies to commercial indoor facilities operating in the cannabis industry. Our customers include state and provincial-regulated CEA growers located in the U.S., Canada, and other international locations. They are focused on building new CEA facilities and expanding or retrofitting existing CEA facilities. Our customers operate CEA facilities that range in size from several thousand square feet to more than 100,000 square feet.

CEA growers currently face a challenging business environment that includes high energy costs, water usage and conservation issues, and continuously evolving waste removal regulations. In addition to these issues, our cannabis growing customers face increasingly rigorous quality standards and declining cannabis prices in a growing industry whose standards are constantly evolving. A primary challenge for our customers involves finding innovative ways to reduce energy costs. On average, 50% of our customers’ energy costs are driven by HVACD systems and another 40% by lighting systems.

We support our clients by providing integrated mechanical, electrical, and plumbing (“MEP”) engineering design, proprietary and curated environmental control equipment, and automation offerings that serve the CEA industry. In addition, we believe we are among the leading experts in engineering environmental control systems for CEA facilities, which is commonly viewed as the most challenging component of a CEA facility’s technical infrastructure. Over our 16 years in business, we have served over 200 commercial indoor CEA facilities. While a professional engineer (“PE”) license is not required in any other design component of a CEA facility, such a license is required for the design of a CEA facility’s environmental control equipment, and our senior engineers hold PE licenses.

We believe our customers partner with us because we have the reputation and experience to help them make cost-conscious and effective decisions on the design and engineering of their indoor cultivation facilities. Our clients are focused on their crops and rely on us to partner with them on ways to optimize their CEA facility. We are also mindful of the evolving and substantial environmental sustainability standards and concerns raised by governments, consumers and other stakeholders. CEA facilities are resource intensive, and a growing list of states have implemented building code changes that limit energy consumption in cultivation facilities. Energy and resource efficiency is a high priority to us as engineers, and the senior engineers on our team hold the Leadership in Energy and Environmental Design (“LEED”) credential. In addition, our CEO helped build a cleantech company, and is a published author in the energy efficient technologies space. We believe this sustainability-focused technical experience is a unique advantage that our customers value when working with us.

While the Company historically focused on HVACD systems, in May of 2021, we announced an initiative to expand our product and service offerings to include most of the technical product and service infrastructure requirements associated with building and retrofitting CEA facilities, as well as post-build recurring maintenance services. Our engineering design services and consulting expertise facilitates early engagement with our customers at the pre-build and construction phases, and this enables us to better understand our customers’ goals at the beginning of a project, and provide the associated infrastructure products and services to reach those goals. Through our prior engagements with customers, we have built long-term relationships with our existing customers, which we plan to leverage and build on in the future.

We have three core assets that we believe will support us as we pursue our business strategy. First, we enjoy strong relationships with relevant stakeholders in the CEA industry. Largely focused in the cannabis segment, our partnerships include relationships with new and existing growers, capital providers, consultants, independent contractors, and numerous others. Second, our experience in this industry over time has built up specialized engineering know-how and experience. We have been serving indoor cultivators since 2006 and designing CEA cultivation facilities since 2016. Since then, we have tested and solidified best practices from designing environmental control systems for CEA cultivation facilities. Finally, we have a line of proprietary environmental control products that support the specific growing environments that our customers want. We believe these products offer significant benefits to our customers and we are in the process of expanding our product slate.

Shares of our common stock and warrants are traded on the Nasdaq Capital Markets under the ticker symbol “CEAD” and “CEADW”, respectively.

Impact of the COVID-19 Pandemic on Our Business

The COVID-19 pandemic has prompted national, regional, and local governments, including those in the markets that the Company operates in, to implement preventative or protective measures to control its spread. As a result, there have been disruptions in business operations around the world, with an impact on our business.

In response to the COVID-19 pandemic and the associated government and business response, the Company took and continues to take measures to adjust its operations as necessary. This included cost cutting efforts beginning in 2020, that were subsequently reversed as orders picked up and the overall business climate improved. However, because the effects of the pandemic continue in different parts of the world and in different ways in the United States, the Company continues to actively monitor its operations.

We are experiencing uncontrollable delays with our international supply of products and shipments from vendors due to a significant increase in shipments to U.S. ports, compounded by a reduction in cargo being shipped by air, a general shortage of containers, and a shortage of domestic truck driver availability. While these delays have moderately improved in recent months, we, along with many other importers of goods across all industries, continue to experience severe congestion and extensive wait times for carriers at ports across the United States. In addition, restrictions imposed by local, state, and federal agencies due to the COVID-19 pandemic have led to reduced personnel of importers, government staff, and others in our supply chain. We have been working diligently with our network of freight partners and suppliers to expedite delivery dates and provide solutions to reduce further impact and delays. However, we are unable to determine the full impact of these delays and how long they will continue as they are out of our control.

While the Company is continuing to navigate the financial, operational, and personnel challenges presented by the COVID-19 pandemic, the full extent of the impact of COVID-19 on our operational and financial performance will depend on future developments, including the duration and spread of the pandemic, the potential uncertainty related to (and proliferation of) new strains, and related actions taken by federal, state, local, and international government officials, to prevent and manage the spread of COVID-19. All of these efforts are uncertain, out of our control, and cannot be predicted at this time.

Impact of Ukrainian Conflict

Currently, we believe that the conflict between Ukraine and Russia does not have any direct impact on our operations, financial condition, or financial reporting. We believe the conflict will have only a general impact on our operations in the same manner as it is having a general impact on all businesses that have their operations limited to North America resulting from international sanction and embargo regulations, possible shortages of goods and goods incorporating parts that may be supplied from the Ukraine or Russia, supply chain challenges, and the international and US domestic inflationary results of the conflict and government spending for and funding of our country’s response. As our operations are related only to the North American controlled agricultural industry, largely within the cannabis space, we do not believe we will be targeted for cyber-attacks related to this conflict. We have no operations in the countries directly involved in the conflict or are specifically impacted by any of the sanctions and embargoes, as we principally operate in the United States and Canada. We do not believe that the conflict will have any impact on our internal control over financial reporting. Other than general securities market trends, we do not have reason to believe that investors will evaluate the company as having special risks or exposures related to the Ukrainian conflict.

Our Bookings, Backlog and Revenue

During the three months ended June 30, 2022, we executed new sales contracts with a total contract value of $3,869,000. During this same period, we had negative change orders of $46,000 and cancellations of $2,288,000. The cancellations were based on discussions with customers who were unable to attain or maintain funding, and subsequently abandoned their projects. After adjustments for these change orders and cancellations, our net bookings in the three months ended June 30, 2022 were $1,534,000, representing a decrease of $571,000 (or 27%) from net bookings of $2,105,000 in the first quarter of 2022.

Our backlog at June 30, 2022 was $9,698,000, a decrease of $1,480,000, or 13%, from March 31, 2022. The decrease in backlog is the result of lower net bookings and higher revenue in the second quarter. Our backlog at June 30, 2022 includes booked sales orders of $776,000 (8% of the total backlog) from several customers that we do not expect to be realized until 2023. Our backlog also contains booked sales orders of $155,000 (2% of the total backlog) from two customers that we believe are at risk of cancellation based on conversations with these customers. We believe the sales orders in these portions of our backlog have an elevated level of risk and may, ultimately, be delayed or cancelled by our customers. Therefore, investors should not view backlog as earned revenue.

The following table sets forth: (i) our beginning backlog (the remaining contract value of outstanding sales contracts for which we have received an initial deposit as of the previous period), (ii) our net bookings for the period (new sales contracts executed during the period for which we received an initial deposit, net of any adjustments including cancelations and change orders during the period), (iii) our recognized revenue for the period, and (iv) our ending backlog for the period (the sum of the beginning backlog and net bookings, less recognized revenue).

	For the quarter ended
	June 30, 2021		September 30, 2021		December 31, 2021		March 31, 2022		June 30, 2022
Backlog, beginning balance	$	11,578,000	$	7,987,000	$	9,881,000	$	10,818,000	$	11,179,000
Net bookings, current period	$	919,000	$	5,600,000	$	3,993,000	$	2,105,000	$	1,534,000
Recognized revenue, current period	$	4,510,000	$	3,706,000	$	3,056,000	$	1,744,000	$	3,015,000
Backlog, ending balance	$	7,987,000	$	9,881,000	$	10,818,000	$	11,179,000	$	9,698,000

As has historically been the case for the Company at each quarter-end, there remains significant uncertainty regarding the timing of revenue recognition of our backlog as of June 30, 2022.

We have provided an estimate in our condensed consolidated financial statements for when we expect to recognize revenue on our remaining performance obligations (i.e., our Q2 2022 backlog), using separate time bands, with respect to engineering only paid contracts and partial equipment paid contracts. There continues to be significant uncertainty regarding the timing of our recognition of revenue on our Q2 2022 backlog. Refer to the Revenue Recognition section of Note 1 in our condensed consolidated financial statements, included as part of this Quarterly Report for additional information on our estimate of future revenue recognition on our remaining performance obligations.

Our backlog, remaining performance obligations, and net bookings may not be indicative of future operating results, and our customers may attempt to renegotiate or terminate their contracts for a number of reasons, including delays in or inability to obtain project financing or licensing or abandonment of the project entirely. Accordingly, there can be no assurance that contracts included in backlog or remaining performance obligations will generate revenues or when the revenues will be generated. Net bookings and backlog are considered non-GAAP financial measures, and therefore, they should be considered in addition to, rather than as a substitute for, our GAAP measures for recognized revenue, deferred revenue, and remaining performance obligations. Further, we can provide no assurance as to the profitability of our contracts reflected in remaining performance obligations, backlog and net bookings.

Results of Operations

Comparison of Three Months Ended June 30, 2022 and June 30, 2021

Revenues and Cost of Goods Sold

Revenue for the three months ended June 30, 2022 was $3,015,000, compared to $4,510,000 for the three months ended June 30, 2021, representing a decrease of $1,495,000, or 33%. The decrease was primarily due to delays with our international supply of products and shipments from vendors which delayed contract fulfillment and revenue recognition on existing contracts. As a result of this along with higher bookings, our ending backlog increased by 21% as compared to the three months ended June 30, 2021. The supply chain impact was largely due to delays at U.S. ports, compounded by a reduction in cargo shipped by air, a shortage of containers, and a shortage of domestic truck delivery availability.

Cost of revenue decreased by $519,000, or 16%, from $3,227,000 for the three months ended June 30, 2021 to $2,709,000 for the three months ended June 30, 2022. The decrease was primarily due to a decrease in revenue, partially offset by an increase in fixed costs and an increase in variable costs as a percent of revenue as discussed below.

The gross profit for the three months ended June 30, 2022 was $306,000 compared to $1,282,000 for the three months ended June 30, 2021, a decrease of 76%. Gross profit margin decreased by 18 percentage points from 28.4% for the three months ended June 30, 2021 to 10.2% for the three months ended June 30, 2022 primarily due to lower revenue, an increase in fixed costs, and an increase in variable costs as a percent of revenue, as described below.

Our fixed costs (which include engineering, service, manufacturing and project management salaries and benefits and manufacturing overhead) totaled $450,000, or 15% of total revenue, for the three months ended June 30, 2022 as compared to $357,000, or 8% of total revenue, for the three months ended June 30, 2021. The increase of $92,000 was primarily due to an increase in salaries and benefits (including stock-based compensation) of $73,000, and an increase in overhead of $19,000, both as a result of investing in future growth.

Our variable costs (which include the cost of equipment, outside engineering costs, shipping and handling, travel and warranty costs) totaled $2,259,000, or 75% of total revenue, in the three months ended June 30, 2022 as compared to $2,870,000, or 64% of total revenue, in the three months ended June 30, 2021. The decrease in variable costs was primarily due to: (i) a decrease in equipment costs of $734,000 driven by lower revenue and lower equipment margins, partially offset by, (ii) an increase in travel expense of $51,000, (iii) an increase in warranty expenses of $45,000, and (iv) an increase in excess and obsolete inventory expense of $24,000.

We continue to focus on gross margin improvement through a combination of efforts, including more disciplined pricing, better absorption of our fixed costs as we convert our bookings into revenue, and the implementation over time of lower-cost supplier alternatives.

Operating Expenses

Operating expenses increased to $2,077,000 for the three months ended June 30, 2022, from $1,166,000 for the three months ended June 30, 2021, an increase of $911,000, or 78%. The operating expense increase consisted of: (i) an increase in selling, general and administrative expenses (“SG&A expenses”) of $193,000, in support of our growth initiatives, (ii) an increase in advertising and marketing expenses of $142,000, (iii) a decrease in product development of $55,000, and (iv) a non-cash goodwill impairment charge of $631,000.

The increase in SG&A expenses for the three months ended June 30, 2022 compared to the three months ended June 30, 2021, was primarily due to: (i) an increase of $154,000 in salaries and benefits (including stock-based compensation) and other employee related costs, (ii) an increase in insurance costs of $75,000, (iii) an increase in accounting fees of $30,000, (iv) an increase of $30,000 for board fees, (v) an increase in travel expenses of $25,000, offset by (vi) lower commissions of $57,000, (vii) a decrease in depreciation and loss on asset disposals of $19,000, (viii) a decrease of $16,000 for business taxes and licenses, (ix) a decrease of $15,000 for investor relations and, (x) a decrease in bad debt expense of $10,000.

The increase in marketing expenses was primarily due to (i) an increase in advertising, outside services, and other promotional marketing expenses of $70,000 (ii) an increase in salaries and benefits (including stock-based compensation) of $42,000, and (iii) an increase in trade show expenses of $30,000.

The decrease in product development costs was due to (i) a decrease in salaries and benefits (including stock-based compensation) of $50,000, (ii) a decrease in other R&D expense of $8,000, offset by, (iii) an increase in travel of $3,000.

As further discussed in Note 1, on June 30, 2022, we performed a quantitative analysis for potential impairment of our goodwill, by comparing the Company’s fair value to its carrying value as of June 30, 2022. Based on this analysis, the Company determined that its carrying value exceeded its fair value. As a result, the Company recorded a non-cash goodwill impairment charge of $631,000 at June 30, 2022. No income tax benefit related to this goodwill impairment charge was recorded at June 30, 2022.

Operating Income (Loss)

We recognized an operating loss of $1,771,000 for the three months ended June 30, 2022, as compared to operating income of $116,000 for the three months ended June 30, 2021, a loss increase of $1,887,000. The operating loss for the three months ended June 30, 2022 included $96,000 of non-cash, stock-based compensation, $7,000 of depreciation expense, and $631,000 for a non-cash goodwill impairment charge, compared to $72,000 of non-cash, stock-based compensation and $17,000 of depreciation and amortization expense for the three months ended June 30, 2021. Excluding these non-cash items, our operating loss increased by $1,242,000.

Other Income (Expense)

We recognized other income (net) of $11,000 for the three months ended June 30, 2022, compared to other income (net) of $149,000 for the three months ended June 30, 2021. Other income for the three months ended June 30, 2022 consisted of interest income on a money market account. Other income for the three months ended June 30, 2021 primarily consisted of $138,000 related to the Employee Retention Credit as part of the CARES act and $12,000 for rental income from the sub-lease of a portion of our facility.

Net Income (Loss)

Overall, we recognized a net loss of $1,761,000 for the three months ended June 30, 2022, as compared to net income of $265,000 for the three months ended June 30, 2021, a loss increase of $2,026,000. The net loss for the three months ended June 30, 2022 included $96,000 of non-cash, stock-based compensation, $7,000 of depreciation, and $631,000 for a non-cash goodwill impairment charge, compared to $72,000 of non-cash, stock-based compensation and $17,000 of depreciation and amortization expense for the three months ended June 30, 2021. Excluding these non-cash items, our net loss increased by $1,381,000.

Comparison of Six Months Ended June 30, 2022 and June 30, 2021

Revenues and Cost of Goods Sold

Revenue for the six months ended June 30, 2022 was $4,759,000, compared to $6,876,000 for the six months ended June 30, 2021, representing a decrease of $2,117,000, or 31%. The decrease was primarily due to delays with our international supply of products and shipments from vendors which delayed contract fulfillment and revenue recognition on existing contracts. As a result, even though our bookings were down, our ending backlog increased. The supply chain impact was largely due to delays at U.S. ports, compounded by a reduction in cargo shipped by air, a shortage of containers, and a shortage of domestic truck delivery availability.

Cost of revenue decreased by $887,000, or 17%, from $5,249,000 for the six months ended June 30, 2021 to $4,363,000 for the six months ended June 30, 2022. The decrease was primarily due to a decrease in revenue, offset by an increase in fixed costs and an increase in variable costs as a percent of revenue as discussed below.

The gross profit for the six months ended June 30, 2022 was $397,000 compared to $1,627,000 for the six months ended June 30, 2021, a decrease of 76%. Gross profit margin decreased by 15 percentage points from 23.7% for the six months ended June 30, 2021 to 8.3% for the six months ended June 30, 2022 primarily due to lower revenue, higher fixed costs, and an increase in variable costs as a percent of revenue, as described below.

Our fixed costs (which include engineering, service, manufacturing and project management salaries and benefits and manufacturing overhead) totaled $808,000, or 17% of total revenue, for the six months ended June 30, 2022 as compared to $694,000, or 10% of total revenue, for the six months ended June 30, 2021. The increase of $114,000 was primarily due to an increase in salaries and benefits (including stock-based compensation) of $106,000, and an increase in overhead of $8,000, both as a result of investing in future growth.

Our variable costs (which include the cost of equipment, outside engineering costs, shipping and handling, travel and warranty costs) totaled $3,554,000, or 75% of total revenue, in the six months ended June 30, 2022 as compared to $4,555,000, or 66% of total revenue, in the six months ended June 30, 2021. The decrease in variable costs was primarily due to: (i) a decrease in equipment costs of $1,110,000 driven by lower revenue and lower equipment margins, (ii) a decrease in shipping and handling expense of $23,000, offset by (iii) an increase in travel of $96,000, and (iv) and increase in excess and obsolete inventory expense of $33,000.

Operating Expenses

Operating expenses increased to $3,779,000 for the six months ended June 30, 2022, from $2,197,000 for the six months ended June 30, 2021, an increase of $1,583,000, or 72%. The operating expense increase consisted of: (i) an increase in selling, general and administrative expenses (“SG&A expenses”) of $765,000, in support of our growth initiatives, (ii) an increase in advertising and marketing expenses of $216,000, (iii) a decrease in product development of $29,000, and (iv) a goodwill impairment charge of $631,000.

The increase in SG&A expenses for the six months ended June 30, 2022 compared to the six months ended June 30, 2021, was primarily due to: (i) an increase of $538,000 in salaries and benefits (including stock-based compensation) and other employee related costs, (ii) an increase in insurance costs of $120,000, (iii) an increase in accounting and other professional fees of $107,000, and (iv) an increase of $53,000 for travel costs, (v) an increase of $50,000 for board fees, (vi) an increase of $16,000 for facility and office expenses, (vii) an increase of $15,000 for investor relations, offset by (viii) a decrease in commissions of $47,000, (ix) a decrease in bad debt of $32,000, (x) a decrease in business taxes and licenses of $31,000, and (xi) a decrease in depreciation and loss on asset disposal of $24,000.

The increase in marketing expenses was primarily due to (i) an increase in salaries and benefits (including stock-based compensation) of $93,000, (ii) an increase in advertising, outside services, and other promotional marketing expenses of $83,000, and (iii) an increase in trade show expenses of $39,000.

The decrease in product development costs was due to (i) a decrease in R&D materials and service expenses of $72,000, (ii) a decrease in salaries and benefits (including stock-based compensation) of $24,000, offset by (iii) an increase in R&D consulting services of $56,000, and (iv) an increase in travel costs of $11,000.

Operating Income (Loss)

We recognized an operating loss of $3,382,000 for the six months ended June 30, 2022, as compared to an operating loss of $570,000 for the six months ended June 30, 2021, an increase of $2,813,000, or 494%. The operating loss for the six months ended June 30, 2022 included $188,000 of non-cash, stock-based compensation, $14,000 of depreciation expense, and $631,000 for a non-cash goodwill impairment charge, compared to $131,000 of non-cash, stock-based compensation and $33,000 of depreciation and amortization expense for the six months ended June 30, 2021. Excluding these non-cash items, our operating loss increased by $2,144,000, or 529%.

Other Income (Expense)

We recognized other income (net) of $199,000 for the six months ended June 30, 2022, compared to other income (net) of $42,000 for the six months ended June 30, 2021. Other income for the six months ended June 30, 2022 consisted of income from an insurance settlement of $185,000 and interest income of $14,000. Other income for the six months ended June 30, 2021 primarily consisted of income of $138,000 related to the Employee Retention Credit as part of the CARES act, $12,000 for rental income from the sub-lease of a portion of our facility, offset by $107,000 in expense related to the settlement of litigation with a former employee.

Net Income (Loss)

Overall, we recognized a net loss of $3,184,000 for the six months ended June 30, 2022, as compared to a net loss of $528,000 for the six months ended June 30, 2021, an increase of $2,655,000, or 503%. The net loss for the six months ended June 30, 2022 included $188,000 of non-cash, stock-based compensation, $14,000 of depreciation expense, and $631,000 for a non-cash goodwill impairment charge, compared to $198,000 of non-cash, stock-based compensation and $33,000 of depreciation and amortization expense for the six months ended June 30, 2021. Excluding these non-cash items, our net loss increased by $2,054,000, or 692%.

Financial Condition, Liquidity and Capital Resources

Cash, Cash Equivalents

As of June 30, 2022, we had cash and cash equivalents of $20,611,000, compared to cash and cash equivalents of $2,160,000 as of December 31, 2021. The $18,452,000 increase in cash and cash equivalents during the six months ended June 30, 2022, was primarily the result of cash proceeds from the sale of common stock and warrants of $21,711,000, offset by the redemption of series B preferred stock and interest of $2,016,000, and cash used in operations of $1,232,000. Our cash is held in bank depository accounts in certain financial institutions. During the six months ended June 30, 2022, we held deposits in financial institutions that exceeded the federally insured amount.

As of June 30, 2022, we had accounts receivable (net of allowance for doubtful accounts) of $140,000, inventory (net of excess and obsolete allowance) of $402,000, and prepaid expenses of $2,888,000 (including $2,720,000 in advance payments on inventory purchases). While we typically require advance payment before we commence engineering services or ship equipment to our customers, we have made exceptions requiring us to record accounts receivable, which carry a risk of non-collectability especially since most of our customers are funded on an as-needed basis to complete facility construction. We expect our exposure to accounts receivable risk to increase as we continue to pursue larger projects.

As of June 30, 2022, we had total accounts payable and accrued expenses of $1,045,000, deferred revenue of $5,935,000, accrued equity compensation of $47,000, other current liabilities of $37,000 and the current portion of operating lease liability of $114,000. As of June 30, 2022, we had working capital of $16,943,000, compared to a working capital deficit of $415,000 as of December 31, 2021. The increase in our working capital was primarily related to (i) an increase in cash of $18,452,000, (ii) an increase in prepaid expenses and other assets of $1,614,000, (iii) a decrease in accounts payable and accrued liabilities of $301,000, offset by (iv) an increase in deferred revenue of $3,095,000.

We have never declared or paid any cash dividends on our common stock. We currently intend to retain all available funds and any future earnings for use in the operation and expansion of our business and do not anticipate paying any cash dividends in the foreseeable future.

Summary of Cash Flows

The following summarizes our approximate cash flows for the six months ended June 30, 2022 and June 30, 2021:

	For the Six Months Ended June 30,
	2022			2021
Net cash used in operating activities	$	(1,232,000	)	$	(1,141,000	)
Net cash used in investing activities		(11,000	)		(14,000	)
Net cash provided by financing activities		19,695,000			514,000
Net increase in cash	$	18,452,000		$	(641,000	)

Operating Activities

We incurred a net loss for the six months ended June 30, 2022 of $3,184,000 and have an accumulated deficit of $31,965,000 as of June 30, 2022.

Cash used in operations for the six months ended June 30, 2022 was $1,232,000 compared to $1,142,000 for the six months ended June 30, 2021, an increase of $90,000.

The increase in cash used in operating activities during the six months ended June 30, 2022 as compared to the six months ended June 30, 2021, was primarily attributable to: (i) an increase in net loss of $2,655,000, (ii) a decrease in cash used to fund working capital of $1,926,000, and (iii) an increase in non-cash operating charges of $640,000.

The increase in our working capital was primarily related to (i) an increase in cash of $18,452,000, (ii) an increase in prepaid expenses and other assets of $1,614,000, (iii) a decrease in accounts payable and accrued liabilities of $301,000, offset by (iv) an increase in deferred revenue of $3,095,000.

The increase in non-cash operating charges was primarily due to goodwill impairment charges of $631,000.

Investing Activities

The $12,000 cash used in investing activities during the six months ended June 30, 2022 was related to the purchase of property and equipment of $14,000, offset by proceeds from the sale of property and equipment of $2,000. Cash used in investing activities during the six months ended June 30, 2021 of $14,000 was related to the purchase of property and equipment of $15,000, offset by proceeds from the sale of property and equipment of $1,000.

Financing Activities

Cash flows from financing activities during the six months ended June 30, 2022, was the result of cash proceeds from the sale of common stock and warrants (net of issuance costs) of $21,711,000, offset by a cash payment of $2,016,000 for the redemption of series B preferred stock, including related interest.

During the six months ended June 30, 2021, the Company entered into a note payable with its current bank in the principal amount of $514,200, for working capital purposes.

Common Stock Equity Offering

On February 10, 2022, the Company signed a firm commitment underwriting agreement for the public offering of shares of common stock and warrants, which closed on February 15, 2022. The Company received net proceeds of approximately $21,711,000 for the sale of 5,811,138 shares of common stock and 6,572,808 warrants, each warrant to purchase one share of common stock for five years, exercisable immediately, at an exercise price of $5.00. The Company also issued to the representative of the underwriters 290,557 warrants, each warrant to purchase one share of common stock at an exercise price of $5.16, during the period commencing August 9, 2022, and expiring on February 10, 2027.

The net proceeds from the offering will be used to advance the Company’s organic growth and new product initiatives, to pursue select acquisitions, and for general corporate and working capital purposes. In connection with this offering, we received approval to list our common stock on the Nasdaq Capital Market under the symbol “CEAD” and our warrants under the symbol “CEADW”. As a result, effective February 10, 2022, trading of both shares of the Company’s common stock and certain of the Company’s warrants commenced on the Nasdaq.

Inflation

To date, we have experienced and are likely to continue to face inflationary increases on the cost of products, which may adversely affect our margins and financial results, and the pricing of our service and product supply contracts. The inflationary pressures are in both the larger economy and in the industries related to building renovations, retrofitting and new build facilities in which we operate. This inflation is reflected in higher wages, increased pricing of equipment and other products that we have contracted to provide to our customers, and generally higher prices across all sectors of the economy. As we move forward, we plan to continuously monitor our various contract terms and may decide to add clauses that will permit us to adjust pricing if inflation and price increase pressures on us will impact our ability to perform our contracts and maintain our margins.

Contractual Payment Obligations

As of June 30, 2022, our contractual payment obligations consisted of a building lease. Refer to Note 2 – Leases of the notes to the condensed consolidated financial statements, included as part of this Quarterly Report for a discussion of building lease.

Commitments and Contingencies

Refer to Note 6 – Commitments and Contingencies of the notes to the condensed consolidated financial statements, included as part of this Quarterly Report for a discussion of commitments and contingencies.

Off-Balance Sheet Arrangements

We are required to disclose any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures, or capital resources that are material to investors. As of June 30, 2022, we had no off-balance sheet arrangements. During the six months ended June 30, 2022, we did not engage in any off-balance sheet financing activities other than those included in the “Contractual Payment Obligations” discussed above and those reflected in Note 6 of our condensed consolidated financial statements.

Recent Developments

Refer to Note 13 - Subsequent Events of the notes to condensed consolidated financial statements, included as part of this Quarterly Report for certain significant events occurring since June 30, 2022.

Critical Accounting Estimates

This discussion and analysis of our financial condition and results of operations is based upon our condensed consolidated financial statements, which have been prepared in conformity with accounting principles generally accepted in the United States of America. Certain accounting policies are particularly important to the understanding of our financial position and results of operations and require the application of significant judgment by our management or can be materially affected by changes from period to period in economic factors or conditions that are outside of our control. As a result, they are subject to an inherent degree of uncertainty. In applying these policies, management uses their judgment to determine the appropriate assumptions to be used in the determination of certain estimates. Those estimates are based on our historical operations, our future business plans and projected financial results, the terms of existing contracts, observance of trends in the industry, information provided by our customers, and information available from other outside sources, as appropriate. Actual results could materially differ from those estimates. Key estimates include: allocation of transaction prices to performance obligations under contracts with customers, standalone selling prices, timing of expected revenue recognition on remaining performance obligations under contracts with customers, valuation of intangible assets, valuation of equity-based compensation, valuation of deferred tax assets and liabilities, warranty accruals, accounts receivable and inventory allowances, and legal contingencies.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We are a smaller reporting company, as defined by Rule 12b-2 of the Exchange Act, therefore are not required to provide the information under this item.

ITEM 4. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

Our management, with the participation of our Chief Executive Officer and our Principal Financial and Accounting Officer, has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act), as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on this evaluation, our Chief Executive Officer and Principal Financial and Accounting Officer concluded that as a result of material weakness in our internal control over financial reporting as described in Item 9A of our Annual Report on Form 10-K for the year ended December 31, 2021 filed with the SEC, our disclosure controls and procedures were not effective as of June 30, 2022.

We did not maintain effective controls over certain aspects of the financial reporting process because: (i) we lack a sufficient complement of personnel with a level of accounting expertise and an adequate supervisory review structure that is commensurate with our financial reporting requirements, (ii) there is inadequate segregation of duties due to our limited number of accounting personnel, and (iii) we have insufficient controls and processes in place to adequately verify the accuracy and completeness of spreadsheets that we use for a variety of purposes including revenue, taxes, stock-based compensation and other areas, and place significant reliance on, for our financial reporting.

We intend to take appropriate and reasonable steps to make the necessary improvements to remediate these deficiencies. We are committed to continuing to improve our financial organization including, without limitation, expanding our accounting staff and improving our systems and controls to reduce our reliance on the manual nature of our existing systems. However, due to our size and our financial resources, remediating the several identified weaknesses has not been possible and may not be economically feasible now or in the future.

Changes in Internal Control over Financial Reporting

There were no changes identified in connection with our internal control over financial reporting during the three months ended June 30, 2022, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II — OTHER INFORMATION

Item 1. Legal Proceedings

We are not currently a party to any material legal proceedings, nor are we aware of any pending or threatened litigation that would have a material adverse effect on our business, operating results, cash flows, or financial condition should such litigation be resolved unfavorably. We have and will continue to have commercial disputes arising in the ordinary course of our business.

Item 1A. Risk Factors

In addition to the information set forth in this Form 10-Q, you should also carefully review and consider the risk factors contained in our other reports and periodic filings with the SEC, including, without limitation, the risk factors and uncertainties contained under the caption “Item 1A—Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2021 that could materially and adversely affect our business, financial condition, and results of operations. The risk factors discussed in that Form 10-K do not identify all risks that we face because our business operations could also be affected by additional factors that are not known to us or that we currently consider to be immaterial to our operations.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

On February 16, 2022, the Company agreed to convert 1,650 shares of the Series B Preferred Stock into 362,306 shares of common stock and 703,069 warrants. Of the warrants,170,382 are pre-funded warrants that vested immediately, have an indefinite term and an exercise price of $0.01, and the balance of 532,688 warrants also vested immediately, have a term of 5 years and have an exercise price of $5.00. Each warrant entitles the holder to purchase one share of common stock. The issuances were to an accredited investor pursuant to an exemption from registration of the Securities Act under Section 4(a)(2).

On June 21, 2022, the 170,382 pre-funded warrants described above were exercised on cashless basis and received 169,530 shares of the Company’s common stock upon exercise.

Item 3. Defaults upon Senior Securities

None.

Item 4. Mine Safety Disclosures

Not applicable.

Item 5. Other Information

None.

Item 6. Exhibits

The documents listed in the Exhibit Index of this Form 10-Q are incorporated by reference or are filed with this Form 10-Q, in each case as indicated therein (numbered in accordance with Item 601 of Regulation S-K).

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

	CEA INDUSTRIES INC.
	(the “Registrant”)

Dated: August 11, 2022	By:	/s/ Anthony K. McDonald
		Anthony K. McDonald
		Chief Executive Officer and President
		(Principal Executive Officer)

Dated: August 11, 2022	By:	/s/ Ian K. Patel
		Ian K. Patel
		Chief Financial Officer
		(Principal Financial and Accounting Officer)

EXHIBIT INDEX

Exhibit
Number		Description of Exhibit

31.1 *		Certification of Principal Executive Officer, pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.2 *		Certification of Principal Financial and Accounting Officer, pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32.1**		Certification of Principal Executive Officer, pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

32.2**		Certification of Principal Financial and Accounting, pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

101.INS*		Inline XBRL Instance Document

101.SCH*		Inline XBRL Taxonomy Schema

101.CAL*		Inline XBRL Taxonomy Calculation Linkbase

101.DEF*		Inline XBRL Taxonomy Definition Linkbase

101.LAB*		Inline XBRL Taxonomy Label Linkbase

101.PRE*		Inline XBRL Taxonomy Presentation Linkbase

104		Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101).

*	Filed herewith.
**	Furnished herewith.

Positive
Negative
Uncertain
Constraining
Legalese
Litigous
Readability	H.S. junior Avg

CEA Industries (CEAD) 10-Q2022 Q2 Quarterly report

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