Business context and reporting period
This is Surna Inc.’s unaudited Form 10-Q for the quarter and six months ended June 30, 2019. The filing describes a Boulder-based designer, engineer and supplier of environmental-control systems and services for regulated indoor cannabis cultivation facilities in the U.S. and Canada; it states that Surna does not produce or sell cannabis. The request identifies CEA Industries Inc., but the filing identifies the registrant as Surna Inc. (ticker SRNA); verify the company identity.
Financial results and position
| Metric | Three months ended June 30, 2019 | Six months ended June 30, 2019 |
|---|---|---|
| Revenue | $4.210 million, up 110% year over year | $5.982 million, up 47% |
| Gross profit / margin | $1.448 million / 34%, versus $0.523 million / 26% | $1.938 million / 32%, versus $0.905 million / 22% |
| Operating income (loss) | $136,000, versus $(1.417) million | $(786,000), versus $(3.322) million |
| Net income (loss) | $140,000, versus $(1.401) million | $(761,000), versus $(3.284) million |
| Cash from (used in) operations | $1.672 million for the six months, versus $(1.511) million |
At June 30, cash was $1.926 million; current assets were $3.836 million and current liabilities $5.019 million, a working-capital deficit of $1.183 million. Total liabilities were $5.534 million and shareholders’ equity was negative $3,234. The company reported no indebtedness, but had operating lease liabilities totaling approximately $725,000. Six-month operating cash flow benefited materially from $1.964 million of increased deferred revenue and other working-capital movements; it should not be read as equivalent to recurring profitability.
Material changes and operating developments
- Second-quarter revenue included $2.430 million from retrofit and expansion projects with one multi-facility operator. One customer represented 58% of quarterly revenue and 44% for the first half.
- Management attributed improved gross margin primarily to lower fixed costs after January personnel reductions and better cost absorption at higher sales volumes. Quarterly operating expenses fell 32% year over year, including lower share-based compensation and personnel costs.
- Backlog reached $13.023 million at quarter-end, up 13% from March 31. Net bookings were $5.690 million in the quarter after $3.040 million of contract cancellations. Management estimated about 57% of backlog, or roughly $7.3 million, would be recognized in 2019, while emphasizing substantial timing and realization uncertainty.
- Half of backlog related to contracts with only an initial engineering-services advance; the other half related to contracts with partial equipment payments. The filing warns that backlog may be delayed, renegotiated, abandoned or canceled and does not assure revenue or profitability.
- The company launched its SentryIQ controls platform in April and reported three contracts totaling approximately $225,000. Custom-designed ducted air-handling systems contributed $1.1 million, or 27% of second-quarter revenue.
Outlook, risks and unusual items
- Going concern: Management said cash and operating cash flow were expected to be insufficient for the next 12 months and that substantial doubt existed about the company’s ability to continue as a going concern. It said financing might be needed as soon as the fourth quarter of 2019; no assurance was given that funding could be obtained on acceptable terms or at all.
- Management’s strategy includes increasing retrofit and expansion work, targeting multi-facility operators, expanding products and services, and pursuing acquisitions. It described a goal of adding $10–$20 million in annual run-rate revenue through acquisitions by the end of 2020; this is an objective, not assured guidance. Management also said longer-term financial sustainability would require organic growth to $20–$40 million in annual revenue.
- Revenue timing depends on customers securing financing, real estate, licenses and permits and completing construction. Cannabis-market uncertainty, wholesale-price declines, customer concentration, competition, supplier/customer relationships and access to capital are stated risks.
- Disclosure controls and procedures were deemed ineffective at June 30 because of a previously identified material weakness, including limited accounting staffing, inadequate segregation of duties and insufficient controls over spreadsheets. Management said remediation may be constrained by company size and resources.
- The company was litigating to cancel 6.75 million unsettled restricted stock units after the recipient failed to pay required withholding taxes. The filing also reports $203,621 of obsolete finished-goods inventory disposed of during the quarter; it had been fully reserved previously.
Most important facts for investors to verify
- Whether this Surna Inc. filing is the intended filing for the CEA Industries Inc. request.
- Whether the company can secure funding or achieve sustainable operating cash flow before liquidity becomes inadequate; assess the going-concern disclosure alongside cash and working-capital trends.
- How much of the $13.023 million backlog converts to revenue and cash, particularly engineering-only-paid contracts and amounts dependent on customer financing, licensing and construction.
- The durability of second-quarter profitability and margin improvement, given the large contribution from one customer and the company’s history of inconsistent quarterly revenue.
- Progress in remediating ineffective disclosure controls and the status and potential outcome of the restricted-stock-unit litigation.