# Red Cat Holdings, Inc. (RCAT) FY 2021 MD&A

Verbatim Item 7 Management's Discussion and Analysis from Red Cat Holdings, Inc.'s 10-K for fiscal year 2021.

SEC filing source: https://www.sec.gov/Archives/edgar/data/748268/000155479521000273/rcat0716form10k.htm
Accession: 0001554795-21-000273
Filing date: 2021-08-12
Report date: 2021-04-30
Extracted structurally from real Item 7 body heading to real Item 7A/8 boundary.
Confidence: high

Company profile: /company/RCAT/
All MD&A years: /company/RCAT/mda/
Next year: /company/RCAT/mda/fy2022/ (FY 2022)

ITEM 7.  MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The Management's Discussion and Analysis contains
forward-looking statements that involve risks and uncertainties, such as statements relating to our liquidity, and our plans for our
business focusing on cloud-based analytics, storage, and services for drones. Any statements that are not statements of historical fact
are forward-looking statements. When used, the words “believe,” “plan,” “intend,” “anticipate,”
“target,” “estimate,” “expect,” and the like, and/or future-tense or conditional constructions (“will,”
“may,” “could,” “should,” etc.), or similar expressions, identify certain of these forward-looking
statements. These forward-looking statements are subject to risks and uncertainties that could cause actual results or events to differ
materially from those expressed or implied by the forward-looking statements in this Annual Report on Form 10-K. The Company’s
actual results and the timing of events could differ materially from those anticipated in these forward-looking statements as a result
of many factors.

All forward-looking statements speak only as of the
date on which they are made. The Company does not undertake any obligation to update such forward-looking statements to reflect events
that occur or circumstances that exist after the date of this Annual Report on Form 10-K except as required by federal securities law.

Recent Developments

Merger Agreement with Rotor Riot, LLC

In January 2020, pursuant to the terms of a merger
agreement, we acquired Rotor Riot, LLC (“Rotor Riot”), in which our subsidiary merged with and into Rotor Riot, resulting
in Rotor Riot being the surviving entity in a merger and a wholly-owned subsidiary of the Company.

Acquisition of Fat Shark

On November 2, 2020, the Company acquired 100% of
Fat Shark’s outstanding equity and issued to the Fat Shark’s sole shareholder consideration totaling (i) 5,227,223 shares
of our common stock, (ii) a cash payment of $250,000, and (iii) a promissory note for $1,753,000. The promissory note bears interest
at 3%, and the entire principal and accrued interest is due on November 1, 2023.

Underwritten Firm Commitment Underwritten Public
Offering.

S-1 Offering

On May 4, 2021, the Company closed its firm commitment
underwritten public offering (the “S-1 Offering”) in which it sold 4,000,000 shares of its common stock, at a public offering
price of $4.00 per share, to ThinkEquity, a division of Fordham Financial Management, Inc., as representative of the underwriters (“ThinkEquity”),
pursuant into an underwriting agreement with Think Equity dated April 29, 2021. The Company also granted the underwriters a 45-day option
to purchase up to an additional 600,000 shares of its common stock to cover over-allotments in the initial public offering price, less
the underwriting discount. These shares of common stock in the S-1 Offering were offered and sold by the Company pursuant to a registration
statement on Form S-1, as amended (File No. 333-253491), filed with the SEC, which was declared effective by the Commission
on April 29, 2021 (the “S-1 Registration Statement”).

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S-3 Offering

On July 21, 2021 the Company closed on a firm commitment
underwritten public offering (the “S-3 Offering”) in which it sold an aggregate of 13,333,334 shares of its Common Stock
at a purchase price of $4.50 per share to ThinkEquity, pursuant to an underwriting agreement dated July 18, 2021. The Company has
also granted the underwriters a 45-day option to purchase up to an additional 2,000,000 shares of its common stock to cover over-allotments,
if any.  These shares of common stock in the S-3 Offering were offered and sold by the Company pursuant to a registration statement
on Form S-3, as amended (File No. 333-256216), filed with the SEC, which was declared effective by the SEC on June 14, 2021
and a Supplement to the Prospectus contained in this registration statement filed with the SEC on July 19, 2021.

Plan of Operations

Following the acquisition of
Rotor Riot and Fat Shark, we remain focused on providing products and solutions to the drone industry. We believe that Rotor Riot’s
visibility and presence in the drone marketplace will foster growth in sales through its e*commerce platform and provide an initial target
base of customers for the launch of “Dronebox”. Dronebox is being designed to provide distributed data storage, analytics
and related services to the drone industry. The Company plans to utilize blockchain based technologies and offer its solutions as a Software-as-a-Service
platform. Potential customers include regulators to track and review flight data, insurance companies for coverage and claims administration,
and pilots to maintain compliance with regulations. The operations of Fat Shark are expected to constitute a significant majority of
our revenue and results of operations and will position us to become a fully-integrated drone business with a strong supply chain while
we continue to develop and promote industry standards through our blockchain-based distributed network that provides secure data storage,
operational analytics, reporting, and SaaS solutions for the drone industry. We are also developing the means to accurately track, report
and review flight data, which we believe will be the mainstay of future regulatory specifications and insurability.

Results of Operations

Year Ended April 30, 2021 and April 30, 2020

Revenue

During the year ended April 30, 2021 (or the “2021
period”), we generated revenues totaling $4,999,517 compared to revenues totaling $403,940 during the year ended April 30, 2020
(or the “2020 period”). During calendar 2020, we acquired two drone technology companies, Rotor Riot and Fat Shark. Prior
to these transactions, we did not have any revenue generating activities. During the 2021 period, Rotor Riot and Fat Shark generated
approximately 44% and 56% of our revenues, respectively.

Cost of Goods Sold

During the year ended April 30, 2021, we incurred
cost of goods sold of $3,929,832 compared to $325,379 during the year ended April 30, 2020. The periods presented are not comparable
as the 2020 period included one quarter of revenues for Rotor Riot as compared to the 2021 period which included a full year of revenues
for Rotor Riot and two quarters of revenues for Fat Shark.

Gross Margin

During the year ended April 30, 2021, gross margin was $1,069,685 compared to $78,561 during the year ended April 30, 2020. The periods
presented are not comparable as the 2020 period included one quarter of revenues for Rotor Riot as compared to the 2021 period which
included a full year of revenues for Rotor Riot and two quarters of revenues for Fat Shark.

Operating Expenses

During the year ended April 30, 2021, we incurred
operating expense of $590,342 compared to zero during the year ended April 30, 2020. The increase is directly related to the acquisitions
of Rotor Riot in January 2020 and Fat Shark in November 2020.

During the year ended April 30, 2021, we incurred
research and development expenses totaling $516,084 compared to $488,990 for the year ended April 30, 2020 resulting in an increase of
$27,094, or 6%. The increase relates to payroll associated with employees hired from Rotor Riot and Fat Shark who are working on the
research and development of new drone technologies.

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During the year ended April 30, 2021, we incurred
sales and marketing expenses of $172,182 compared to zero during the year ended April 30, 2020. Costs incurred in the year ended April
30, 2021 relate to employees hired from Rotor Riot and Fat Shark, and also include sales commissions for referrals.

During the year ended April 30, 2021, we incurred
general and administrative expenses totaling $1,279,471 compared to $949,636 for the year ended April 30, 2020 resulting in an increase
of $329,835, or 35%. The increase primarily relates to higher general and administrative payroll costs for employees hired from Rotor
Riot and Fat Shark.

Other Expense

Other expense totaled $8,359,565 during the year
ended April 30, 2021, compared to Other Income of $28,029 during the year ended April 30, 2020. The expense incurred during the year
ended April 30, 2021 related to the Derivative Liability recorded in connection with the Company’s issuance of convertible debentures
and warrants in October 2020 and January 2021. The significance of the expense is directly correlated to an increase in the Company’s
stock price following the issuance of the convertible debentures and warrants.

Net Loss

Net Loss for the year ended April 30, 2021 totaled
$13,236,175 compared to $1,601,931 for the year ended April 30, 2020 resulting in an increase of $11,634,244, or more than 100%. Approximately
61% of the increase in Net Loss is directly related to derivative expenses incurred in connection with the issuance of convertible debentures
in October 2020 and January 2021.  These securities were not outstanding during the year ended April 30, 2020.  The remaining
39% of the increase is related to the expansion of the Company’s commercial activities including the hiring of personnel formerly
employed with Rotor Riot and Fat Shark.

Cash Flows

Operating Activities

Net cash used in operating activities was $1,399,001
during the year ended April 30, 2021 compared to net cash used in operating activities of $811,584 during the year ended April 30, 2020
representing an increase of $587,417, or 72%. Net cash used in operations, net of non-cash expenses associated with the derivative liability,
stock-based compensation, and amortization of intangible assets totaled $1,587,946 in the year ended April 30, 2021 compared to $1,128,036
in the year ended April 30, 2020, resulting an increase of $459,910, or 41%. The increase primarily related to higher net costs associated
with becoming a commercial enterprise through the merger with Rotor Riot in January 2020 and the acquisition of Fat Shark in November
2020. Net cash provided by changes in operating assets and liabilities totaled $188,945 during the year ended April 30, 2021 compared
to net cash provided by operating activities of $316,452 during the year ended April 30, 2020, representing a decrease in cash provided
of $127,507, or 40%. Changes in operating assets and liabilities can fluctuate significantly from year to year depending upon the timing
and level of multiple factors, including inventory purchases and vendor payments.

Investing Activities

Net cash used in investing activities was $48,368
during the year ended April 30, 2021 compared to net cash provided by investing activities of $46,327 during the year ended April 30,
2020. The amounts for both periods related to acquisitions which can vary from one transaction to another.

Financing Activities

Net cash provided by financing activities totaled
$1,488,048 during the year ended April 30, 2021 compared to $498,487 during the year ended April 30, 2020, representing an increase of
$989,561, or 199%. Financing activities can vary, in nature and amount, from period to period. During the year ended April 30, 2021,
net cash of $1,080,000 and $201,249 was provided through the issuance of convertible debentures and the exercise of warrants, respectively.
During the year ended April 30, 2020, net cash of $450,000 and $152,239 was provided through the sale of convertible debentures and the
exercise of a warrant, respectively.

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Liquidity and Capital Resources

As of April 30, 2021, we had current assets totaling
$1,640,010 including cash of $277,347, inventory of $362,072, and accounts receivable of $321,693. Current liabilities as of April 30,
2021 totaled $4,674,070, and included derivative liability of $2,812,767, accounts payable of $541,903, accrued expenses of $614,050,
notes payable of $269,045, amounts due to a related party of $390,209, and customer deposits of $46,096. Our net working capital as of
April 30, 2021 was negative $3,034,060.

We have only recently begun generating revenues and
have reported net losses since our inception. Through fiscal year 2021, we have funded our operations through private offerings of common
stock primarily from individual private investors. In May 2021, we completed an offering of common stock which raised gross proceeds
of $16 million. In July 2021, we completed an offering of common stock which raised gross proceeds of $60 million.

2019 Convertible Note Offering

In November 2019, we issued a convertible note in
the principal amount of $300,000 to one accredited investor and in December 2019 we issued a convertible note in the principal amount
of $125,000 to a director and a convertible note in the principal amount of $25,000 to our chief executive officer (collectively, the
“2019 Notes”). The 2019 Notes have a two-year term and bear interest at a rate of 12%. Interest on the 2019 Notes may be
paid in cash or in shares of common stock of the Company at the 2019 Note Conversion Price (as defined below). The 2019 Notes are convertible
into shares of common stock at the holder’s sole discretion as follows: (A) prior to consummating an equity financing which generates
gross proceeds of not less than $3,000,000 (in this case, a “Qualified Offering”), then at the 30-day VWAP of a share of
our common stock as listed or quoted on the market in which the shares are then traded or listed, or (B) after we have consummated a
Qualified Offering, at 40% of the price per share of common stock sold in the Qualified Offering (in this case, the “Conversion
Price”). We may, upon 10 business days prior notice, pre-pay the 2019 Notes, including all accrued interest, in whole or in part,
provided that any such prepayment prior to the one-year anniversary of the 2019 Note issuance will be at a price equal to 112% of the
then outstanding original principal amount. Upon an event of default, as described in the Notes, the outstanding principal and interest
will become immediately due and payable. Additionally, under the 2019 Note, unless waived by the holder, the holder is not be entitled
to convert the 2019 Note if such conversion would result in beneficial ownership by the holder and its affiliates of more than 9.99%
of the outstanding shares of common stock of the Company on such date.

2020 Convertible Note Offering

On October 5, 2020, the Company closed a private
offering of convertible promissory notes in the aggregate principal amount of $600,000 (the “2020 Notes”) and issued five-year
warrants to purchase an aggregate of 399,998 shares of common stock (the “2020 Warrants”). The 2020 Notes accrue interest
at the rate of 12% per annum and are payable two years from the date of issuance. The 2020 Notes are convertible into common stock at
a conversion price of $1.00 per share or, upon the consummation of an offering of common stock resulting in the listing for trading on
the NYSE American, the Nasdaq Capital Market, the Nasdaq Global Market, the Nasdaq Global Select Market or the New York Stock Exchange
at a price equal to 75% of the price of the securities sold in such offering (in this case, a “Qualified Offering”). The
2020 Notes also contain protection from dilution in the event of a lower priced issuance.

Upon an event of default, as described in the 2020
Note, the conversion price will equal the lower of (i) the thirty-day volume weighted average of the closing price of the Company’s
common stock if the conversion occurs prior to a Qualified Offering, or (ii) 65% multiplied by the lowest closing price of the common
stock during the twenty consecutive trading day period immediately prior to the conversion.

The Company may prepay all or any portion of the
2020 Note, without penalty or premium, upon at least ten business days’ prior notice to the noteholder. Upon issuance by the Company
of a security, or amendment to a security, that the noteholder reasonably believes is more favorable, such term, at noteholder’s
option, will become a part of the 2020 Note, except for certain exempt issuances. No conversions under the 2020 Note will be effected
that will result in the noteholder, together with any affiliate, beneficially owning in excess of 9.99% of the Company’s outstanding
common stock immediately after giving effect to such conversion.

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[["","33"]]
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The 2020 Warrants are exercisable at a price equal
to the lower of (i) $1.50 per share or (ii) if a Qualified Offering occurs, at a 25% discount to the price per share of the common stock
offered in such Qualified Offering. The number of shares of common stock for which the 2020 Warrant is exercisable is subject to adjustment
in the event of a stock split or dividend, and similar event or certain corporate events such reorganizations and mergers. In the event
of a reorganization or reclassification of capital stock, the consolidation or merger, or the sale or other disposition of all or substantially
all the property, assets, business, and goodwill of the Company, the warrant holder will be entitled to purchase the kind and amount
of shares of capital stock which the 2020 Warrant entitled the warrant holder to purchase immediately prior to such event. The 2020 Warrants
also include piggyback registration rights.

Until we are able to sustain operations through the
sale of products and services, we will continue to fund operations through equity and/or debt transactions. We can provide no assurance
that the financing described above will be sufficient to fund our operations until we are able to sustain operations through the sale
of products and services. In addition, there can be no assurance that such additional financing, if required, will be available to us
on acceptable terms, or at all.

2021 Convertible Note Offering

On January 27, 2021, the Company closed of a private
offering of Units consisting of convertible promissory notes in the aggregate principal amount of $500,000 (the “2021 Notes”)
and issued five-year warrants to purchase an aggregate of 675,000 shares of common stock (the “2021 Warrants”) to six accredited
investors for total offering proceeds of $500,000. The 2012 Notes accrue interest at the rate of 12% per annum and are payable two years
from the date of issuance.

The 2021 Notes are convertible into common stock
at a conversion price of $1.00 per share or, upon the consummation of an offering of common stock resulting in the listing for trading
on the NYSE American, the Nasdaq Capital Market, the Nasdaq Global Market, the Nasdaq Global Select Market or the New York Stock Exchange
at a price equal to 75% of the price of the securities sold in such offering (in this case, a “Qualified Offering”).

The 2021 Notes may be converted at any time in the
discretion of the holder prior to a Qualified Offering and automatically convert upon the consummation of a Qualified Offering, provided
the note may not convert if as a result of such conversion the holder together with its affiliates would beneficially own in excess of
9.99% of the shares of our common stock outstanding after giving effect to such conversion.

If an event of default occurs, the conversion price
will be reduced to the lower of (i) the thirty-day volume weighted average of the closing price per share of our common stock, if prior
to a Qualified Offering, or (ii) 65% of the lowest closing price of the common stock during the twenty consecutive trading day period
immediately preceding the date of the conversion.

The 2021 Notes also contain protection from dilution
in the event of a lower priced issuance and adjustments if securities are issued with more favorable terms.

The 2021 Warrants are exercisable at a price equal
to the lower of (i) $1.50, or (ii) a 25% discount to the price per share of common stock offered in the Qualified Offering and, if there
is no effective registration statement for the resale the shares subject to the warrant, the warrant may be exercised on a cashless basis.

2021 Underwritten Public Offerings

S-1 Offering

On May 4, 2021, the Company closed its firm commitment
underwritten public offering (the “S-1 Offering”) in which it sold 4,000,000 shares of its common stock, at a public offering
price of $4.00 per share, to ThinkEquity, a division of Fordham Financial Management, Inc., as representative of the underwriters (“ThinkEquity”),
pursuant into an underwriting agreement with Think Equity dated April 29, 2021. The Company also granted the underwriters a 45-day option
to purchase up to an additional 600,000 shares of its common stock to cover over-allotments in the initial public offering price, less
the underwriting discount. These shares of common stock in the S-1 Offering were offered and sold by the Company pursuant to a registration
statement on Form S-1, as amended (File No. 333-253491), filed with the SEC, which was declared effective by the Commission
on April 29, 2021 (the “S-1 Registration Statement”).

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[["","34"]]
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The net proceeds to the Company from the Offering,
after deducting the underwriting discount, the underwriters’ fees and expenses and the Company’s estimated Offering expenses,
were approximately $14.6 million . The Company anticipates using the net proceeds from the Offering to provide funding
for service, sales, and marketing efforts for its Red Cat Drone Services, strategic acquisitions and related expenses, and general working
capital.

S-3 Offering

On July 21, 2021 the Company closed on a firm commitment
underwritten public offering (the “S-3 Offering”) in which it sold an aggregate of 13,333,334 shares of its Common Stock
at a purchase price of $4.50 per share to ThinkEquity, pursuant to an underwriting agreement dated July 18, 2021. The Company has
also granted the underwriters a 45-day option to purchase up to an additional 2,000,000 shares of its common stock to cover over-allotments,
if any.  These shares of common stock in the S-3 Offering were offered and sold by the Company pursuant to a registration statement
on Form S-3, as amended (File No. 333-256216), filed with the SEC, which was declared effective by the SEC on June 14, 2021
and a Supplement to the Prospectus contained in this registration statement filed with the SEC on July 19, 2021.

The net proceeds to the Company from the S-3 Offering,
after deducting the underwriting discount, the underwriters’ fees and expenses and the Company’s estimated expenses related
to this S-3 Offering, were approximately $55.5 million,. The Company anticipates using the net proceeds from the S-3
Offering to provide funding for services, sales, and marketing efforts for its Red Cat Drone services, strategic acquisitions and related
expenses, and general working capital.

Going Concern

We only began generating revenues in January 2020
and have reported net losses since our inception. We expect to report net losses for at least the next twelve months. The success of
our business plan during the next 12 months and beyond will be contingent upon generating sufficient revenue to cover our operating costs
and/or upon obtaining additional financing. The report from our independent registered public accounting firm for the fiscal year ended
April 30, 2021 includes an explanatory paragraph stating the Company has recurring net losses from operations, negative operating cash
flows, and will need additional working capital for ongoing operations. These factors, among others, raise substantial doubt about the
Company's ability to continue as a going concern. If we are unable to obtain sufficient funding, our business, prospects, financial condition
and results of operations will be materially and adversely affected and we may be unable to continue as a going concern.

As reflected in our accompanying financial statements,
we had negative working capital of $3,034,060 at April 30, 2021 and have accumulated losses totaling approximately $15.8 million through
April 30, 2021. Management recognizes that these operating results and our financial position raise substantial doubt about our ability
to continue as a going concern.

We are presently seeking to address these going concern
doubts through a number of actions including efforts to (a) raise capital through the public markets, (b) release additional commercial
products and (c) pursue acquisitions of complementary, revenue generating companies which are accretive to our operating results. In
May 2021, we completed an offering of common stock which raised gross proceeds of $16 million. We can provide no assurance that any of
these efforts will be successful or, that even if successful, that they will alleviate doubts about our ability to continue as a going
concern form more than the next twelve months.

Critical Accounting Policies and Estimates
use theirs

Our financial statements and accompanying notes have
been prepared in accordance with GAAP applied on a consistent basis. The preparation of financial statements in conformity with GAAP
requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent
assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting
periods.

We regularly evaluate the accounting policies and
estimates that we use to prepare our financial statements. A complete summary of these policies is included in the notes to our financial
statements. In general, management’s estimates are based on historical experience, on information from third party professionals,
and on various other assumptions that are believed to be reasonable under the facts and circumstances. Actual results could differ from
those estimates made by management. 

Goodwill – Goodwill represents
the excess of the purchase price of an acquisition over the estimated fair value of identifiable net assets acquired. The measurement
periods for the valuation of assets acquired and liabilities assumed ends as soon as information on the facts and circumstances that
existed as of the acquisition date becomes known, not to exceed 12 months. Adjustments in a purchase price allocation may require a change
in the amounts allocated to goodwill during the periods in which the adjustments are determined.

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Fair Values, Inputs and Valuation Techniques
for Financial Assets and Liabilities and Related Disclosures

The fair value measurements and disclosure guidance
defines fair value and establishes a framework for measuring fair value. Fair value is defined as the price that would be received to
sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. In accordance
with this guidance, the Company has categorized its recurring basis financial assets and liabilities into a three-level fair value hierarchy
based on the priority of the inputs to the valuation technique.

The fair value hierarchy gives the highest priority
to quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level
3). The inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, the level in the
fair value hierarchy within which the fair value measurement in its entirety falls has been determined based on the lowest level input
that is significant to the fair value measurement in its entirety. The Company’s assessment of the significance of a particular
input to the fair value measurement in its entirety requires judgment and considers factors specific to the asset or liability.

The levels of the fair value hierarchy are described
below:

[[GREPCENT_TABLE]]
[["","\u25cf","Level 1 inputs utilize quoted prices (unadjusted) in active markets for identical assets or liabilities that the Company has the ability to access."]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["","\u25cf","Level 2 inputs utilize other than quoted prices included in Level 1 that are observable for the asset, either directly or indirectly, for substantially the full term of the asset. Level 2 inputs include quoted prices for similar assets in active markets, quoted prices for identical or similar assets in markets that are not active and inputs other than quoted prices that are observable in the marketplace for the asset. The observable inputs are used in valuation models to calculate the fair value for the asset."]]
[[/GREPCENT_TABLE]]

[[GREPCENT_TABLE]]
[["","\u25cf","Level 3 inputs are unobservable but are significant to the fair value measurement for the asset, and include situations where there is little, if any, market activity for the asset. These inputs reflect management\u2019s own assumptions about the assumptions a market participant would use in pricing the asset."]]
[[/GREPCENT_TABLE]]

A review of fair value hierarchy classifications
is conducted on a quarterly basis. Changes in the observability of valuation inputs may result in a reclassification of levels for certain
securities within the fair value hierarchy.

Disclosures for Non-Financial Assets Measured
at Fair Value on a Non-Recurring Basis

The Company’s financial instruments mainly
consist of cash, receivables, current assets, accounts payable and accrued expenses and debt. The carrying amounts of its cash, receivables,
current asserts, accounts payable, accrued expenses and current debt approximates fair value due to the short-term nature of these instruments.

Convertible Securities and Derivatives - When the Company
issues convertible debt or equity instruments that contain embedded derivative instruments that are to be bifurcated and accounted for
as liabilities, the total proceeds from the convertible host instruments are first allocated to the bifurcated derivative instruments.  The
remaining proceeds, if any, are then allocated to the convertible instruments themselves, resulting in those instruments being recorded
at a discount from their face value but no lower than zero. Any excess amount is recognized as a derivative expense.

Derivative Liabilities - The Company
has financial instruments that are considered derivatives or contain embedded features subject to derivative accounting. Embedded derivatives
are valued separately from the host instrument and are recognized as derivative liabilities in the Company’s balance sheet. The
Company measures these instruments at their estimated fair value and recognizes changes in their estimated fair value in results of operations
during the period of change. 

In October 2020 and January 2021, the Company entered
into convertible note agreements which included provisions under which the conversion price was equal to the lesser of an initial stated
amount or the conversion price of a future offering. This variable conversion feature was recognized as a derivative. Both financings
included the issuance of warrants which contained similar variable conversion features. The Company values these convertible notes and
warrants using the multinomial lattice method that values the derivative liability within the notes based on a probability weighted discounted
cash flow model. The resulting liability is valued at each reporting date and the change in the liability is reflected as change in derivative
liability in the statement of operations.

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Stock-Based Compensation - We use the estimated
grant-date fair value method of accounting in accordance with ASC Topic 718, Compensation – Stock Compensation. Fair value is determined
using the Black-Scholes Model using inputs reflecting our estimates of expected volatility, term and future dividends. We plan to estimate
the forfeiture rate based on our historical experience but have made no such allowance to date as our first issuances of stock based
awards occurred in October 2019 and we have not experienced any forfeitures to date. We recognize compensation costs on a straight line
basis over the service period which is generally the vesting term.

Off-Balance Sheet Arrangements

We have no off-balance sheet arrangements.

Recently Issued Accounting Pronouncements

The Company has implemented all new accounting pronouncements
that are in effect. These pronouncements did not have any material impact on the financial statements unless otherwise disclosed, and
the Company does not believe that there are any other new accounting pronouncements that have been issued that might have a material
impact on its financial position or results of operations.