CEA Industries Inc. quarterly report, Q2 FY2015

Business context and reporting period

This is Surna, Inc.’s unaudited Form 10-Q for the quarter and six months ended June 30, 2015, filed August 14, 2015. The filing describes a company designing, manufacturing, and distributing climate-control systems and related products for controlled-environment agriculture, with sales largely to state-regulated cannabis cultivation facilities. The request identifies CEA Industries Inc.; the filing itself identifies the registrant as Surna, Inc. (ticker SRNA), so the entity should be verified.

Key financial metrics

MetricThree months ended June 30Six months ended June 30
Revenue, 2015$1.678 million$2.549 million
Revenue, 2014$0.347 million$0.347 million
Gross profit / margin, 2015$0.351 million / 20.9%$0.539 million / 21.2%
Gross profit / margin, 2014$0.064 million / 18.5%$0.064 million / 18.5%
Operating loss, 2015$(0.691) million$(1.570) million
Net loss, 2015$(0.977) million$(2.395) million
Net loss, 2014$(2.122) million$(2.175) million
Loss per common share, 2015$(0.01)$(0.02)

For the first half of 2015, operating cash used was $1.230 million, investing cash used was $0.150 million, and financing cash provided was $0.835 million. Cash declined by $0.544 million to $145,502. At June 30, current assets were $2.098 million and current liabilities were $3.301 million, a $1.203 million working-capital deficit; total liabilities were $5.141 million against assets of $2.898 million. Convertible promissory notes, net, were $1.266 million on the balance sheet; the filing lists $3.713 million of future convertible-loan principal payments in 2016. The filing also reports $427,355 due to related parties.

Changes versus the prior comparable period

  • Reported revenue rose substantially: 384% for the quarter and 635% for the six months. The comparison is affected by the acquisition of Hydro Innovations in July 2014; the filing’s unaudited six-month 2014 pro forma revenue including Hydro was $996,484.
  • Gross margin improved to 20.9% for the quarter and 21.2% for the half-year, from 18.5% in the reported 2014 periods.
  • Quarterly net loss narrowed versus 2014, mainly alongside a much smaller derivative-related loss/gain swing. For the six months, net loss increased to $2.395 million from $2.175 million, despite higher revenue.
  • Operating cash use increased from $450,099 to $1.230 million for the first half. Management attributed the increase primarily to higher sales activity, related working-capital needs, and infrastructure to support sales.
  • General and administrative expense and product-development expense increased materially. First-half G&A rose to $1.625 million from $326,549; product development rose to $309,443 from $7,768.

Outlook, risks, and unusual items

  • Going concern and financing: The filing states that cash was insufficient for the next 12 months, substantial doubt existed about the company’s ability to continue as a going concern, and additional debt or equity financing would be needed. Financing availability and terms were not assured; further equity issuance could dilute shareholders.
  • Noncash financing-related charges: First-half debt-discount amortization was $1.011 million. A $474,873 gain from changes in derivative-liability fair value partially offset expenses; these fair-value changes are noncash and use Level 3 valuation inputs. Convertible-note conversion terms and derivative accounting create potential dilution and earnings volatility.
  • Product and sales outlook: The company completed design, prototype, and testing of a next-generation water-cooled light reflector and began accepting pre-orders after quarter-end. Management said revenue was not yet sufficient to meet operating requirements and anticipated needing capital for research and development.
  • Customer and supplier concentration: Three customers represented 65% of accounts receivable at June 30; two customers generated 22% of first-half revenue. Three vendors supplied 58% of second-quarter purchases and four supplied 62% of first-half purchases.
  • Business and legal risks: The filing highlights risks related to the limited operating history, profitability, growth, related-party transactions, financing markets, cannabis-related federal enforcement and civil claims, and the 2014 Trebor spin-off. It reports no material pending litigation known to management.
  • Internal controls: Management concluded disclosure controls and procedures were not effective. Reported material weaknesses included inadequate segregation of duties and no comprehensive formal accounting and procedures manual; management said it was hiring staff and formalizing processes.
  • Subsequent events: After quarter-end, the former CEO’s $194,958 non-interest-bearing advance balance was settled for $100. The company also reported additional Series 1 note-conversion requests and issuances, and the return and planned cancellation of 21,428,023 common shares by the former CEO.

Most important facts to verify

  • Confirm the registrant’s identity: the supplied request names CEA Industries Inc., while this filing is for Surna, Inc.
  • Assess near-term liquidity, financing access, debt maturities, and the assumptions behind management’s going-concern assessment.
  • Reconcile convertible-note principal, debt discounts, derivative-liability balances, and potential share issuance; the filing presents material noncash charges and variable conversion terms.
  • Verify post-quarter share counts and the status of the reported conversions and share cancellation, including the filing’s August 13 outstanding-share figure of 130,292,515.
  • Evaluate customer and supplier concentration, working-capital requirements, and whether reflector pre-orders translate into recognized revenue and cash receipts.
  • Track remediation of the disclosed internal-control weaknesses and confirm whether controls improve in subsequent filings.