Indicate by check mark
if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☐ No ☒
Indicate by check mark
if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ☐ No ☒
Indicate by check mark
whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934
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 past 90 days. Yes ☒
No ☐
Indicate by check mark
whether the registrant has submitted electronically every Interactive Data File required to be submitted and posted 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 and post 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 definition of
“large accelerated filer”, “accelerated filer”, “smaller reporting company” and “emerging growth
company’ in Rule 12b-2 of the Exchange Act:
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 has filed a report on and attestation to its management’s assessment of the effectiveness of its internal
control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting
firm that prepared or issued its audit report. ☐
If securities are registered
pursuant to Section 12(b) of the Act, indicate by check mark whether the financial statements of the registrant included in the filing
reflect the correction of an error to previously issued financial statements. ☐
Indicate by check mark
whether any of those error corrections are restatements that required a recovery analysis of incentive-based compensation received by
any of the registrant’s executive officers during the relevant recovery period pursuant to §240.10D-1(b). ☐
Indicate by check mark
whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes ☐
No ☒
The aggregate market
value of the voting and non-voting common equity held by non-affiliates of the registrant, computed by reference to the last reported
sales price at which the stock was sold on June 30, 2022 (the last day of the registrant’s most recently completed second quarter)
was approximately $396,330,458.
The number of outstanding shares of the registrant’s Common Stock,
$.001 par value, as of March 16, 2023 was 211,033,255.
ITEM 1. BUSINESS
Cautionary Note Concerning Forward-Looking Statements
Certain statements in this Form 10-K constitute forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward-looking
statements include all statements that do not relate solely to historical or current facts and can be identified by the use of forward-looking
words such as “may,” “believe,” “will,” “expect,” “project,” “anticipate,”
“estimates,” “plans,” “strategy,” “target,” “prospects” or “continue,”
and words of similar meaning. These forward-looking statements are based on the current plans and expectations of our management and are
subject to a number of uncertainties and risks that could significantly affect our current plans and expectations, as well as future results
of operations and financial condition and may cause our actual results, performances or achievements to be materially different from any
future results, performances or achievements expressed or implied by such forward-looking statements. This Form 10-K contains important
information as to risk factors under Item 1A. Although we believe that the expectations reflected in such forward-looking statements are
reasonable, there can be no assurance that such expectations will prove to have been correct. We do not assume any obligation to update
these forward-looking statements to reflect actual results, changes in assumptions, or changes in other factors affecting such forward-looking
statements.
Available Information
Applied Energetics, Inc. (“company,” “Applied Energetics,”
“AE,” “we,” “our” or “us”) makes available free of charge on its website at www.appliedenergetics.com
its Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and amendments to those reports filed or
furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, as soon as reasonably practical after
electronically filing or furnishing such material to the Securities and Exchange Commission (“SEC”).
This report may be read or
copied at the SEC’s Public Reference Room at 100 F Street, NE, Room 1580, Washington, DC 20549 or at www.sec.gov. Information on
the operation of the Public Reference Room may be obtained by calling the SEC at 1-800- SEC-0330.
General
Applied Energetics, Inc.
is a corporation organized and existing under the laws of the State of Delaware. Our headquarters are located at 9070 S. Rita Road, Suite
1500, Tucson, Arizona, 85747 and our telephone number is (520) 628-7415. Our website is located at www.appliedenergetics.com.
Applied Energetics, Inc. specializes in the development and manufacture
of advanced high-performance lasers, advanced optical systems, high voltage electronics, and integrated guided energy systems for prospective
defense, national security, industrial, biomedical, and scientific customers worldwide.
Technology, Capabilities, and Patents
Applied Energetics, Inc.
is recognized as a global leader in developing the next generation optical sources exhibiting ever-increasing output energy, peak power
and frequency agility while also providing decreased size, weight, and cost of these systems for customers. Applied Energetics utilizes
patented, dual-use technologies to advance critical industries. Leveraging our proprietary fiber-based architecture and wavelength- and
pulse-agility capability, our Ultrashort Pulse (“USP™”) technology can enable users to achieve specific effects across
different use cases with an unmatched blend of size, weight and power attributes. While initially designed to meet the emerging needs
and priorities for the national security community, our directed energy technology also has commercial applications in both the biomedical
and advanced manufacturing industries.
The Applied Energetics scientific
team is continuously innovating and expanding our patent portfolio to cover these technological breakthroughs and further enhance our
suite of solutions for threat disruption for the Department of Defense, the intelligence community, and for commercial, biomedical and space
applications with optical sources operating from the deep ultraviolet to the far infrared portions of the electromagnetic spectrum.
Applied Energetics has developed, successfully demonstrated and holds
all crucial intellectual property rights to a dynamic directed energy technology called Laser Guided Energy (“LGE®”)
and Laser Induced Plasma Channel (“LIPC ®”). LGE and LIPC are technologies that can be used in a new generation
of high-tech directed energy systems. The Department of Defense (DOD) previously recognized only two key types of Directed Energy Weapon
(“DEW”) technologies, High Energy Lasers (“HEL”), and High-Power Microwave (“HPM”). Neither the HEL
nor the HPM intellectual property portfolio is owned by a single entity. The DOD then designated a third DEW technology, LGE. Applied
Energetics’ LGE and LIPC technologies are wholly owned by Applied Energetics and protected by one or more of Applied Energetics’
27 issued patents and 11 Government Sensitive Patent Applications (“GSPA”). These GSPA’s are held under secrecy orders
of the US government, providing the company with greatly extended protection rights. The company also has seven pending patent applications
and one provisional patent application which is undergoing conversion to its non-provisional form. We continue to file patent applications
as we deem appropriate to protect our intellectual property and enhance our competitive advantage.
Applied Energetics’
Directed Energy technologies are vastly different from conventional directed energy systems, i.e. HEL, and HPM. LGE uses Ultrashort Pulse
(USP™) laser technology to combine the speed and precision of lasers with the overwhelming impact on targeted threats with high-voltage
electricity. A key element of LGE is its novel ability to offer selectable and tunable properties that can help protect non-combatants
and combat zone infrastructure. Applied Energetics’ proprietary fiber-based architecture is a key differentiator for our most recent
technology demonstrators. Compared with traditional continuous wave laser technologies with their larger footprints, AE’s architecture
enables orders of magnitude size-weight-power reductions on all deliverables, creating powerful, dual-use and agile systems that can fit
a host of platforms while delivering very high-intensity, ultrashort pulses of light to the required target. This unique directed energy
solution allows extremely high peak power and energy, with target and effects tunability, and is effective against a wide variety of potential
targets.
Applied Energetics’
unique optical fiber-based laser architectures enable unmatched wavelength agility as well as pulse duration agility. Using innovative
and highly specialized frequency shifting techniques, wavelengths can be custom tuned from the deep ultraviolet to the far infrared.
In addition, temporal outputs can be adjusted from continuous wave to sub-picoseconds. The technology enables the customer to adjust
the lasers’ operating parameters, ultimately creating more flexibility to change wavelength and pulse width. This feature allows
for optimization of laser performance for defense or commercial applications.
Our proprietary USP laser
technology provides a significantly more compact solution than current continuous wave laser platforms while still delivering high peak
power. Continuous wave laser systems are typically used to heat a target and, during continuous illumination, this heat transfer leads
to melting or charring of the material. Using continuous wave output powers that now exceed 100 kilowatts (1kW = 1000 watts), it can
take anywhere from seconds to minutes to impact a target. By contrast, Applied Energetics has delivered USP lasers to national security
users that exceed five terawatts (1 TW = 1 trillion watts) in peak power, with the difference being that this peak power from a USP laser
is delivered in a pulse that is less than a trillionth of a second. During this short pulse duration, and having such a high peak intensity,
near-instantaneous ablation of the surface of the threat takes place. The net results of our innovative USP approaches are highly effective
lasers with mountable footprints that require only a fraction of the size and weight of other directed energy technologies.
As Applied Energetics looks toward the future, our corporate strategic
roadmap builds upon the significant value of the company’s USP laser capabilities and key intellectual property, including LGE and
LIPC, to offer our prospective partners, co-developers and system integrators a variety of next-generation ultrashort pulse and frequency-agile
optical sources, from the ultraviolet to the far infrared portion of the electromagnetic spectrum, to address numerous challenges within
the national security, biomedical, and advanced manufacturing market sectors.
Recent Developments
In May 2022, Applied Energetics
was awarded a $3.89 million, two-year grant from the Department of the Navy, Office of Naval Research (ONR), to develop an optical system
capable of defeating customer-specified threats for integration onto U.S. Marine Corps (USMC) platforms. We were awarded this grant to
accelerate the development and testing of Infrared (IR) optical technology with an ultrashort pulse laser (USPL) system. The overall
objective is to advance and ruggedize optical technologies that can be fielded on a variety of USMC platforms and are able to operate
in harsh conditions.
We also executed a Phase
I Small Business Technology Transfer (STTR) contract with the U.S. Army on June 2, 2022. The objective of the contract is the
delivery of an ultra-broadband infrared (IR) source. Under this contract, Applied Energetics, was to model novel approaches for the
eye-safe delivery of ultra-broadband infrared laser pulses to electro-optic sensors. Electro-Optical/Infrared (EO/IR) sensors are
imaging systems used for military applications. The STTR program is a federally funded initiative to incorporate small business
technological innovation into government supported research and development programs. STTRs require the small business to team with
a university or non-profit and are structured in three potential phases. Applied Energetics proposed to partner with the James C.
Wyant College of Optical Sciences at the University of Arizona for Phase I. The company completed work on this first phase of the
Army STTR and filed the report on January 3, 2023. Prior to the final report filing, AE submitted the Phase II
proposal by the submission deadline of December 7, 2022. The Phase II proposals can be up to $1.15 M in contract funding over a
24-month period. Any announcement on the Phase II STTR proposals is estimated by the Army to be released no later than Q2 of
2023.
Effective August 1, 2022,
our board of directors appointed Christopher Donaghey, age 50, to serve as Chief Financial and Chief Operating Officer. The company and
Mr. Donaghey entered into an Executive Employment Agreement, pursuant to which he is serving for an initial term of four years, with
automatic renewal for additional one-year periods thereafter unless either party terminates the agreement. The agreement calls for salary
of $350,000 per year, plus standard benefits and eligibility for a bonus at the discretion of the board. The company has also granted
Mr. Donaghey additional options to purchase up to 1,000,000 shares of its common stock under its 2018 Incentive Stock Plan, which vest
over four years and have an exercise price of $2.36 per share, and Restricted Stock Units representing up to 400,000 shares of the company’s
common stock which also vest over four years. The Restricted Stock Units are issued pursuant to a Restricted Stock Unit Agreement, dated
as of July 13, 2022. Mr. Donaghey forfeited unvested options to purchase up to 950,000 shares of common stock which he had previously
received for service on the company’s Board of Advisors.
Mr. Donaghey is an experienced
financial executive with a proven track-record in delivering profitable growth, including extensive experience within the defense industry.
He joins Applied Energetics from Science Applications International Corporation (SAIC), a defense and government agency technology integrator,
where he served as the senior vice president and head of corporate development. In this role, he was responsible for executing the company’s
mergers and acquisitions (M&A) and strategic ventures strategy, working closely with the senior management team to support the development
and implementation of SAIC’s strategic plan with an emphasis on M&A and external emerging technology investments to complement
organic growth strategies and value creation. He joined SAIC in 2017, as senior vice president of finance for SAIC’s operations,
and provided strategic leadership and business guidance to the organization. Mr. Donaghey is also a Founder and Executive Board member
of the Silicon Valley Defense Group, a non-profit organization whose mission is to create the nexus of pioneering ideas, people, and
capital that will unlock new sources of innovation for national security and power the digital evolution of the defense industrial base.
Prior to joining SAIC, Donaghey
was vice president of Corporate Strategy and Development for KeyW Corporation, a national security solutions provider for the Intelligence,
Cyber and Counterterrorism Communities, where he guided the overall corporate strategy, M&A, and capital markets activities.
Mr. Donaghey was also a senior
research analyst for SunTrust Robinson Humphrey Capital Markets where he provided investment advice and insight to institutional investors
covering public defense technology, government IT services, and commercial aerospace industries. During his tenure at SunTrust, Donaghey
was ranked the number one defense analyst and number two analyst overall for stock selection by Forbes/Starmine in 2005 and was named
in the Wall Street Journal Best on the Street survey in 2005, 2008, and 2009.
Mr. Donaghey served in the
U.S. Navy Reserve where he provided scientific and technical analysis of missile guidance and control systems and advanced electronics
for the Short-Range Ballistic Missile group at the Defense Intelligence Agency’s Missile and Space Intelligence Center. Donaghey
earned his bachelor’s degree in mechanical engineering from Texas Tech University and served as an officer in the U.S. Navy.
Mr. Donaghey previously served
on Applied Energetics’ Board of Advisors since April 30, 2019, providing input into the strategic direction of the company and
assistance in building relationships in the defense markets.
Upon the successful examination, and with no opposition, the United
States Patent and Trademark Office (USPTO) officially entered the marks LGE® (Reg. No. 6,289,892) and LIPC ® (Reg. No. 6,316,069)
on March 9, 2021, and April 6, 2021, respectively, in the principal register. Applied Energetics has applications pending before the USPTO
for the marks USP TM, USPL TM, AERG TM and AE TM and anticipates allowance and/or registration within the next six months. The company
also has seven pending patent applications and one provisional patent application which is undergoing conversion to its non-provisional
form. We continue to file patent applications as we deem appropriate to protect our intellectual property and enhance our competitive
advantage.
In April 2022, we repaid
the remaining balance on the Paycheck Protection Program loan, which we took out in 2020. The original loan was in the amount of $132,760,
but our compliance with the guidelines set forth by the Small Business Administration regarding use of the proceeds of the loan qualified
us for a waiver of a portion of this amount. We had been repaying the remaining balance in monthly installments at an annual interest
rate of 1%.
Ongoing Business Development Activities
Over the past few years,
we have submitted multiple proposals to, and attended briefings with, various defense and other government agencies who have expressed
an interest in our technology and applications. Due to the closures of multiple agencies and work-from-home orders during the Covid-19
pandemic, reviews and funding decisions on these proposals were delayed longer than anticipated as resources were focused on other matters
within the government. Since the reopening of proposal reviews and processing, our team has been invited to, and completed, multiple
briefings focused on our capabilities and submissions. We intend to continue developing and submitting proposals and to be available
to attend on-site briefings to the extent possible. However, this positive action by the agencies could be reversed as Covid remains
an ongoing risk. Any changes to reinstate the closures or work-from-home orders could again hamper the ability of the AE team to schedule
on-site briefings for our proposals undergoing review.
Two significant pieces of
legislation impacted Applied Energetics that were signed by the President on September 30, 2022. The first piece, bill S. 4900, the “SBIR
and STTR Extension Act of 2022,” authorizes the Small Business Innovation Research (SBIR), Small Business Technology Transfer (STTR),
and six related pilot programs through Fiscal Year 2025; requires agencies with an SBIR or STTR program to establish a due diligence
program to assess the potential risk posed by program applicants’ foreign ties; requires certain departments and agencies to report
on national security risks within their SBIR/STTR programs; and establishes increased minimum performance standards for firms that have
won a certain number of awards during a specified period of time.
The other piece of legislation
that we have seen multiple times in the past decade is the Continuing Resolution (CR), HR 6833, which was amended three times to provide
fiscal year 2023 appropriations to federal agencies through December 30, 2022, for continuing projects and activities of the federal
government and includes supplemental appropriations to respond to the Russian military action in Ukraine. This CR provided for a continuation
of funding for currently funded programs through December 30, but no new contracts until the 2023 fiscal year appropriations was approved
by Congress. This CR allowed for current Applied Energetics programs to continue. The Consolidated Appropriations Act, 2023 was passed
by the US House of Representatives and the US Senate and signed by President Biden on December 29, 2022. A similar situation occurred
in the prior year as the US government final fiscal year 2022 appropriations bill was signed into law by President Biden on the night
of March 11, 2022 and included increases in areas of particular interest to the company.
Strategic Plan and Analysis
The core of our strategy has been to continue growing our management
and science teams with highly qualified individuals. This has driven our recruitment efforts in the areas of R&D, science, modeling
and simulation, marketing and finance. We are also contemplating adding members to our Board of Directors and our Board of Advisors. Our
board and leadership team have worked to align key innovations with our roadmap to encourage and enable internal filing for a broad, strategic
and robust intellectual property portfolio and continue surveying the literature for acquisitions of parallel intellectual property to
that end. We also intend to pursue strategic corporate acquisitions in related fields and technology. The company’s management continues
to explore any favorable equity financing opportunities.
Our goal with the Applied
Energetics Strategic Plan is to increase the energy, peak power and frequency agility of USP optical sources while decreasing the size,
weight, and cost of these systems. We are in the process of developing this breadth of very high peak power USP lasers and additional
optical sources that have a very broad range of applicability for threat disruption for the Department of Defense, commercial, and biomedical
applications, such as biophotonic illumination and imaging. Although the historical market for Applied Energetics’ LGE and USP technology
is the U.S. Government, the USP technologies are expected to provide numerous platforms for commercial additive and subtractive manufacturing
and biomedical and imaging markets, creating a substantially larger market for our products to address. Since 2020, the Applied Energetics
team was able to develop partnership and teaming arrangements with the three leading laser and optics institutes in the United States,
namely, the University of Arizona, the University of Central Florida, and the University of Rochester Laboratory for Laser Energetics.
Our desire is to work on programs jointly where the strengths of each organization can assist in escalating knowledge and delivery of
systems to the government sponsors, and to train the next generation of scientists and engineers to work in the directed energy fields.
Despite the challenges posed by COVID-19, we have continued to execute
our business development plans, further our research and development program and submit filings for intellectual property and proposals
for grants and contracts. During the past three years, we continued to submit proposals and have been engaged in meetings on a continuous
basis with various agencies and departments both remotely and in person in Washington, DC and at various other government facilities.
Having received a significant research grant and an STTR contract during the second quarter of 2022, we believe the interest in our technology
and applications remains high, and we continue to submit proposals for all appropriate opportunities and share our vision of the disruptive
capabilities of USP optical sources for both near- and far-term threats and dual-use commercial applications.
Through our analysis of the market, and in discussions
with potential customers, we remain convinced that customers are becoming more receptive and interested in directed energy technologies.
According to the US Department of Defense fiscal budgets from 2017 through 2023, its directed energy spending grew from approximately
$500 million in 2017 to over $1.695 billion in 2023, an increase of nearly 240%. Market analysis and projections have estimated that
this directed energy sector is anticipated to exceed $10.1 billion globally by 2026. We continue to be optimistic about our future and
the growing opportunities in directed energy applications, especially since this growth to nearly $1.7 B annually is being accomplished
without a recognized Program of Record (POR) for directed energy platforms. Once these technologies are funded in production for a POR,
these DOD budgets for DE will grow exponentially larger to support the technology insertion. The Applied Energetics team anticipates
a continuation of strong funding for the directed energy community. With our existing patent portfolio, and through further advancements
of our technologies, we believe we have the substantial building blocks needed to become a significant and successful developer in our
USP and LGE marketplaces.
Market for Our Technology
Directed Energy Systems
Directed energy systems involve
the use of directed energy to incapacitate, damage, or destroy enemy equipment, facilities, and assets. Previous to LGE, the only two
viable directed energy systems were High Energy Laser (HEL), which uses heat to burn targets and High Power Microwave (HPM) systems,
that use electromagnetic energy at specific microwave and radio frequencies to disable electronic systems.
HEL and HPM directed energy technologies have been under development
for decades with numerous DoD and other government contractors participating. The unique attributes of directed energy weapon systems
—the ability to create precise effects against multiple targets near-instantaneously and at a very low cost per shot—have
great potential to help the DoD in addressing future warfare requirements. The DoD invests research and development dollars into directed
energy solutions to fill gaps identified by warfighters. For example, in future conflicts with capable enemies possessing large inventories
of guided missiles, it may be operationally risky and cost-prohibitive for the U.S. military to continue to rely exclusively on a limited
number of kinetic missile interceptors. Such a “missile competition” could allow an adversary to impose costs on U.S. forces
by compelling them to intercept each incoming missile with far more expensive kinetic munitions. The DoD has made technological advances
in both performance and maturity as a result of many years of research with multiple threat-intercept technologies and has been directed
by Congress, in fiscal year 2022 and, again, in fiscal 2023, to increase funding and evaluation of pulsed laser technology in future directed
energy platforms.
Applied Energetics utilizes patented, dual-use technologies to advance
critical industries. Leveraging our proprietary fiber-based architecture and wavelength- and pulse-agility capability, our ultrashort
pulse technology enables users to achieve specific effects across different use cases, with an unmatched blend of size, weight and power
attributes. While initially designed to meet the emerging needs and priorities for the national security community, Applied Energetics’
directed energy technology also has commercial applications in both the biomedical and advanced manufacturing industries.
Fiber-Based Laser Architecture
Applied Energetics’
proprietary fiber-based architecture is a key differentiator for our technology. Compared with traditional continuous wave technology
with larger footprints, AE’s architecture enables orders of magnitude size-weight-power reductions on all deliverables, creating
powerful, dual-use and agile systems that can fit a host of platforms while delivering very high intensity, ultrashort pulses of light
to the required target. Using this unique architecture as a laser source for an integrated system can enable Applied Energetics to develop,
integrate and deliver a suite of technologies that best meet the needs and requirements of its customers.
Wavelength- and Pulse-Agility
Applied Energetics’
optical fiber-based laser architectures enable unmatched wavelength agility as well as pulse duration agility. Using innovative and highly
specialized frequency shifting techniques, wavelengths can be custom tuned from the deep ultraviolet to the far infrared. In addition,
temporal outputs can be adjusted from continuous wave to sub-picoseconds. The technology enables the customer to adjust the lasers’
operating parameters, ultimately creating more flexibility to change wavelength and pulse width. This feature allows for optimization
of laser performance for defense or commercial applications.
Competition
AE’s Ultrashort Pulse
sources, including proprietary LIPC ® based LGE® technology, are unique and can be integrated onto platforms being developed
for use by the U.S. Government. Over the past several years, a relatively small number of major defense contractors have received significant
funding for directed energy systems development, manufacturing and integration, using continuous wave high energy laser and microwave
technologies. These contractors specialize in different directed energy system platforms to respond to a variety of threats. Applied
Energetics believes that its pulsed laser systems can be a part of a layered defense solution alongside these other technologies. Although
AE competes against other directed energy systems for funding, the uniqueness of our technologies should continue to support their development
into weapon platform programs. AE believes that there is renewed U.S. Government interest in directed energy applications and believes
that continued development of its USP capabilities and growing interest from all branches of the U.S. armed forces and other government
agencies will lead to increases in government spending on directed energy in the coming years. Likewise, there are multiple new threats
that must be addressed with unique and emerging technologies, and AE is working diligently to rapidly advance development, demonstration,
testing and engineering of the Advanced Ultrashort Pulse lasers throughout the spectrum from the ultraviolet to the far infrared. We
believe that USP technologies can rapidly accelerate in magnitude, as a percentage of the federal budget, compared with other technologies
over the next several years.
AE’s primary direct
USP optical source competition are corporations and contractors supported by foreign governments who may be attempting to develop similar
technologies. AE believes that such foreign activity will create additional U.S. Government funding for both USP sources and LGE in order
to maintain our country’s lead in pulsed directed-energy systems. Other companies with directed energy capabilities, albeit in
continuous wave, microwave and other areas within directed energy, are Raytheon Technologies, Lockheed Martin, Northrup Grumman, Boeing,
BAE, nLight, General Atomics, DRS Daylight Solutions and L3Harris Technologies.
Some of AE’s biggest
commercial competitors are Trumpf (German), Coherent (US), Thales (France) and IPG (US), all of which are billion-dollar market class
companies that have substantially more resources than AE.
Employees
As of March 29, 2023, we had fourteen employees, and we retain another
six full- and part-time consultants.
Supplies and Raw Materials
We depend upon the availability of materials and major electro-optical
components and the performance of our suppliers. Some of our products require relatively scarce fabricated materials. We generally have
not experienced significant difficulties in procuring these necessary materials, components and other supplies for our products. However,
the global supply chain continues to struggle toward normalcy following the Covid-19 pandemic. Our inability to procure the necessary
optical and fabricated materials, components, electronics and other supplies for our products could negatively affect our results of operations,
financial condition and liquidity. In addition, a significant prolonged increase in inflation could negatively impact the cost of materials
and components. We continuously monitor potential supply chain issues and work with our suppliers to mitigate delays in our receipt of
necessary materials, components and other supplies, and reduce costs, particularly in light of the Covid-19 pandemic’s impact on
global supply chain. We also monitor supplier liquidity and work continuously with our supply base to ensure an adequate source of supply
and to reduce costs. We pursue cost reductions through a number of mechanisms, including consolidating or re-sourcing our purchases, entering
long-term agreements, reducing the number of suppliers, strategic global sourcing and competition among suppliers, and the opportunity
to develop and deliver scarce components that have few contracts or suppliers. In some instances, we depend upon a single source of supply,
but we are developing multiple sources to mitigate the risk. In some cases, we must comply with specific procurement requirements, which
may limit the suppliers and subcontractors we may utilize.
Regulatory Matters
Our business is subject to
extensive regulation in the industries we serve. We market our technology to numerous U.S. government agencies and entities, including
but not limited to all of the branches of the U.S. Department of Defense (DoD) and the Department of Homeland Security. Similar government
authorities exist in all of the countries in which we do business.
The U.S. government currently
represents all of our current revenues and likely a substantial portion of any projected revenues for the foreseeable future. U.S. government
contracts are subject to termination by the government, either for convenience or for default in the event of our failure to perform
under the applicable contract. In the case of a termination for convenience, we would normally be entitled to reimbursement for our allowable
costs incurred, termination costs and a reasonable profit. If terminated by the government as a result of our default, we could be liable
for payments made to us for undelivered goods or services, additional costs the government incurs in acquiring undelivered goods or services
from another source and any other damages it suffers.
U.S. government contracts
generally are subject to the Federal Acquisition Regulation (FAR), which sets forth policies, procedures and requirements for the acquisition
of goods and services by the U.S. government. Defense contracts are additionally subject to the Defense Federal Acquisition Regulation
Supplement (DFARS). Other applicable laws and regulations apply as well. These regulations impose a broad range of requirements, many
of which are unique to government contracting, including various procurement, import and export, security, contract pricing and cost,
contract termination and adjustment, audit and product integrity requirements. Failure to comply with these regulations and requirements
could result in reductions to the value of contracts, contract modifications or termination, cash withholding on contract payments, forfeiture
of profits, and/or the assessment of civil or criminal penalties and fines and could lead to cause-based suspension or debarment from
U.S. government contracting or subcontracting for a period of time.
ITEM 1A. RISK FACTORS
Future results of operations
of Applied Energetics involve a number of known and unknown risks and uncertainties. Factors that could affect future operating results
and cash flows and cause actual results to vary materially from historical results include, but are not limited to those risks set forth
below:
Risk Related to Our Company
Our independent registered
public accounting firm has expressed substantial doubt about our ability to continue as a going concern, which may hinder our ability
to obtain future financing.
In their report accompanying
our financial statements, our independent registered public accounting firm stated that our financial statements for the year ended December
31, 2022 were prepared assuming that we would continue as a going concern, and that they have substantial doubt as to our ability to
continue as a going concern. Our auditors have noted that our recurring losses and negative cash flow from operations and the concern
that we may incur additional losses due to the reduction in government contract activity raise substantial doubt about our ability to
continue as a going concern.
Our business has generated
only limited revenues during the past fiscal year, after having no revenue during fiscal 2021, and had a net operating loss during each
period.
For the fiscal years ended
December 31, 2022 and 2021, we had revenues of $1,307,757 and $0, respectively, and we had net losses of $5,771,642 and $5,425,453, respectively.
We can give no assurances that our planned operations will generate revenues in the future or whether any such revenues will result in
profitability.
We may need additional
financing to fund our operations going forward. If we are unable to obtain additional financing on acceptable terms, we may need to modify
or curtail our development plans and operations.
As of December 31, 2022,
we had $5,640,308 in available cash and cash equivalents and working capital of $5,329,699. We believe our cash position is sufficient
for the next several months, but we may need to raise additional capital in order to fund our operations beyond that. We must allocate
funds toward SEC compliance as well as Defense Contract Audit Agency (DCAA), International Traffic in Arms Regulations (ITAR) and other
federal regulatory compliance. We also need funds for general and administrative expenses, including salaries, benefits, supplies and
equipment, lease expense on our headquarters, accounting, legal, and other professional fees and other miscellaneous expenses. Our failure
to secure sufficient financing could render us unable to fund these necessary costs and expenses. We also may require additional funding
for research and development before we are able to commercialize our technology. During the 2022 fiscal year, we achieved our capital
raising goal, and a portion of the funds for research and development came from government grant/contract awards. We may secure additional
government contracts or sub-contracts with larger contractors to fund additional research and development. However, we may need to raise
additional funds to supplement these contracts even if we are able to secure them.
Our operating plans and capital requirements are subject to change
based on how we determine to proceed with respect to development programs and if we pursue any strategic alternatives. We may raise additional
funds through the issuance of equity securities, but such financing may not be available on terms acceptable to us if at all. Any equity
financing would cause the percentage ownership by our current stockholders to be diluted, and such dilution may be substantial. Also,
any additional equity securities issued may have rights, preferences or privileges senior to those of existing stockholders. If such financing
is not available when required or is not available on acceptable terms, we may be required to modify or curtail our operations, which
could cause investors to lose the entire amount of their investment.
The ongoing global Covid-19
pandemic has caused unpredictability in capital markets. If this uncertainty continues, it could make it more difficult for companies,
including ours, to access capital. It is currently difficult to estimate with any certainty how long the pandemic and resulting curtailment
of business will continue, and its effect on capital markets and our ability to raise funds in the future is, accordingly, difficult
to quantify.
Risk Related to Our Industry and Business
Activities
Economic, geopolitical
and other factors beyond our control can affect our business.
Our business, operating results,
financial condition and liquidity may be adversely affected by changes in global economic conditions and geopolitical risks, including
the inflationary environment in the United States and internationally, commodity prices, supply chain challenges, exchange rates, potential
changes in policy positions or priorities, levels of government spending and deficits, the availability and cost of labor, the threat
environment, trade policies, political conditions, and other challenges that could affect the global economy. Inflationary pressures
have increased labor and material costs at a higher rate higher than in recent years. Due to the nature of our government business, and
the customer and supplier contracts within those businesses, we may not be able to increase our contract value or pricing to offset these
cost increases, particularly with grants or fixed price contracts. This could adversely affect our operating profits and margins particularly
if the increased inflation continues. Similarly, expected increases in interest rates from recent historical lows in the U.S. and in
other countries in which we operate could negatively impact financial markets and tighten the availability of, and increase our cost
of capital, which could have an adverse effect on our operating results, financial condition and liquidity. Tightening of credit in financial
markets also could adversely affect the ability of our customers and suppliers to obtain financing for significant purchases and operations.
Similarly, such tightening of credit may adversely affect our supplier base and increase the potential for one or more of our suppliers
to experience financial distress or bankruptcy. In addition, geopolitical risks could affect government priorities, budgets and policies,
which could impact sales of defense and other products and services.
The Covid pandemic has
affected and may continue to affect our supply chain and operations.
The ongoing Covid-19 pandemic has negatively affected our business,
supply chains, and operations. As a result of Covid-19, governments, businesses and individuals have taken actions such as instituting
closures, lockdowns, quarantines, and travel restrictions and requirements, adopting remote working. Lockdowns and labor shortages resulting
from Covid-19, as well as the continuing economic recovery, negatively impacted global supply capabilities. Decreases in the availability
of supplies, increases in the cost of supplies, and delivery issues have caused shortages and delays, as well as increased costs, for
the procurement of raw materials, components and other supplies required for our performance. The global economic, supply and demand uncertainties
caused by Covid-19 remain. Due to the continued effects of Covid-19 and related uncertainty, we expect to continue to experience the challenges
described above for an uncertain period of time into the future.
Moreover, if developments
in the pandemic limit our workforce or those of our suppliers from working effectively, such business disruptions could hinder our research
or otherwise impede our ability to perform on our obligations to customers and may result in increased costs. Developments in the pandemic
may affect our ability to hire, develop and retain our talented and diverse workforce, and to maintain our corporate culture. It is critical
that we find and train new qualified personnel. The pandemic also may materially impact U.S. government contracts and grants, including
changes or shifts in defense spending due to budgetary constraints, the allocation of funds to governmental responses to Covid-19, a
failure to complete the government budget process resulting in a Continuing Resolution (CR) or a government shutdown, or delayed or reduced
funding of programs.
Although, in the US, hospitalization and death rates have moderated
in recent months, the duration of the Covid-19 pandemic remains uncertain. Its future impact depends on developments concerning its scope,
severity and duration, the effect of additional variants and whether additional outbreaks of the pandemic will continue to occur, the
efficacy, acceptance, distribution and availability of vaccines, new or continued attempts to contain the pandemic’s spread or treat
its impact, and governmental, business and individual personal responses (including restrictions and limitations on travel and transportation)
among others. Some of the pandemic’s impacts may continue into the future even after the virus itself no longer poses a significant
public health risk. Any of these factors, could have a material adverse effect on our business, results of operations, financial condition
and liquidity.
Changes in US government
spending could negatively affect our business.
Substantially all of our
current and planned near-term revenues are or may be from US government contracts and grants awarded under various programs, primarily
with the Department of Defense (DoD), and, possibly, with intelligence agencies and other departments and agencies. Changes in US government
spending for various reasons, including as a result of potential changes in policy positions or priorities, could negatively impact our
results of operations, financial condition and liquidity. Our programs are subject to US government policies, budget decisions and appropriation
processes which are driven by macroeconomic and geopolitical factors as well as Congress’s ability to enact, and the administration’s
willingness to execute, appropriations bills and other legislation. In recent years, the US government has been unable to complete its
budget process before the end of its fiscal year, resulting in government shutdowns and Continuing Resolutions emergency funding only
at prior-year levels. In addition, failure to raise the debt ceiling could cause the U.S. government to default on debts which it has
already incurred. U.S. government spending levels and available program funding are thus hard to estimate in the medium- and long-term.
Significant changes in U.S. government spending or changes in U.S. government priorities, policies and requirements could have a material
adverse effect on our results of operations, financial condition and liquidity.
We face risks relating
to performance of our US government contracts and our ability to secure additional contracts and/or grants.
Our success depends on our
ability to complete timely and satisfactory performance on our existing customer projects and to secure additional grants and contracts.
Performance delays, cost overruns, technology failures, materials or components shortages, or contract delays, could negatively impact
our business prospects, results of operations, financial condition and liquidity. U.S. government contracts generally permit the government
to terminate the contract, in whole or in part, without prior notice, at the U.S. government’s convenience or for default based
on performance. Correspondingly, subcontracts which we may seek to enter with prime government contractors, may be terminable by the
prime contractor upon government termination of the prime contract. We may be unable secure additional contracts to offset any revenues
lost as a result of the termination of any such contracts.
Because the funding of U.S.
government programs is subject to congressional appropriations made on a fiscal year basis even for multi-year programs, programs are
often only partially funded initially and may not continue to be funded in future years. Appropriation bills may be delayed, which may
result in delays to funding, the collection of receivables and our contract performance due to lack of authorized funds to procure related
products and services. Under certain circumstances, we may use our own funds to meet our customer’s delivery dates or other requirements,
and we may not be reimbursed. If appropriations for programs are reduced or delayed, the U.S. government may terminate any contract or
subcontract under that program.
The growth of our business depends on the development, application
and manufacture of advanced technology and products aimed at achieving challenging goals. New technologies may be untested or unproven
and, in some instances, product requirements or specifications need to be developed. This could result in performance difficulties, delays,
cost overruns or failures which could require additional resources to address. Any failure to execute timely and effectively on our current
programs could hamper future contracting opportunities. We may also need to invest in internal research and development projects in order
to achieve certain grants or contracts, as our customers may demand proven concepts and solutions. These expenditures may not pay off
if we are not awarded the intended grants or contracts.
Under certain types of government
contracts, if we are unable to control costs or if our initial cost estimates are incorrect, our profitability could be negatively affected,
particularly under fixed-price development contracts. We may also experience cost underruns which would reduce contract value and related
expected revenues, and we may be unable to expand the contract scope or secure additional work to offset the resulting lost revenues.
We anticipate that any future contracts for development programs with complex design and technical challenges will typically be cost
reimbursable. However, if they are firm fixed price or fixed price incentive contracts, such challenges and unexpected costs increases
may impact our results of operations. US government contracts also require compliance with extensive and evolving procurement and other
rules and regulations and subject us to potential audits, investigations, and disputes. We may also become involved in programs that
are classified by the US government, which have security requirements that place limits on our ability to discuss our performance on
these programs, including any risks, disputes and claims.
We may be unable to adequately
protect our intellectual property rights, which could affect our ability to sustain the value of such assets.
Protecting our intellectual
property rights is critical to our ability to maintain the value of our intellectual property portfolio. We hold a number of United States
patents and patent applications, as well as trademarks, and registrations which are necessary and contribute significantly to the preservation
of our competitive position in the market. We can offer no assurance that any of these patents or future patent applications and other
intellectual property will not be challenged, invalidated or circumvented by third parties. In some instances, we may seek to augment
our technology base by licensing the proprietary intellectual property of others, but we may be unable to obtain necessary licenses on
commercially reasonable terms. We have entered into confidentiality and invention assignment agreements with employees and consultants
and entered into nondisclosure agreements with suppliers, potential job candidates, and appropriate customers so as to limit access to
and disclosure of our proprietary information. These measures may not suffice to deter misappropriation or independent third-party development
of similar technologies. Based on our current financial condition, we may not have the funds available to enforce and protect our intellectual
properties.
We may face claims of
infringement of proprietary rights.
There is a risk that a third
party may claim our products and technologies infringe on their proprietary rights. Whether or not our products infringe on proprietary
rights of third parties, infringement or invalidity claims may be asserted or prosecuted against us and we could incur significant expense
in defending them. If any claims or actions are asserted against us, we may not have the funds necessary to defend against such claims.
Our failure to do so could adversely affect the value of our intellectual property.
Management has broad discretion
over the selection of our business and prospective business opportunities.
Any person who invests in
our securities will do so without an opportunity to evaluate the specific merits or risks of our prospective business and business opportunities.
As a result, investors will be entirely dependent on the broad discretion and judgment of management in connection with the selection
of a prospective business. The business decisions made by our management may not be successful.
We depend on the recruitment
and retention of qualified personnel, and failure to attract and retain such personnel could seriously harm our business.
Due to the specialized nature
of our businesses, our future performance is highly dependent upon the continued services of our key engineering and scientific personnel.
Our prospects for obtaining government contracts or significant commercial contracts depend upon our ability to attract and retain qualified
engineering, scientific and manufacturing personnel for our operations. Competition for personnel is intense, and we may not be successful
in attracting or retaining qualified personnel. Our failure to compete for these personnel could seriously harm our business, results
of operations and financial condition. Additionally, since the majority of our business involves technologies that are classified due
to national security reasons, we must hire U.S. Citizens who have the ability to obtain a security clearance. This further reduces our
potential labor pool.
Our future success will
depend on our ability to develop and commercialize technologies and applications that address the needs of our markets.
Both our defense and commercial
markets are characterized by rapidly changing technologies and evolving industry standards. Accordingly, our future performance depends
on a number of factors, including our ability to identify emerging technological trends in our target markets; develop and maintain competitive
products; enhance our products by improving performance and adding innovative features that differentiate our products from those of
our competitors; develop and manufacture and bring products to market on-time and on-budget; and enter into suitable arrangements for
volume production of mature products.
We believe that, in order
to be competitive in the future, we will need to continue to develop and commercialize technologies and products, which will require
the investment of financial and engineering resources. Due to the design complexity of our products, we may in the future experience
delays in completing development and introduction on a commercial scale of new products. Any delays could result in increased costs of
development, deflect resources from other projects or incur loss of contracts.
In addition, there can be
no assurance that the market for our technologies and products will develop or continue to expand as we currently anticipate. The failure
of our technology to gain market acceptance could significantly reduce any ability to generate revenue and harm our business. Furthermore,
we cannot be sure that our competitors will not develop competing or differing technologies which gain market acceptance in advance of
our products. The possibility that our competitors might develop new technology or products might cause our existing technology and products
to become obsolete or create significant price competition. If we fail in our new product development and commercialization efforts or
our products fail to achieve market acceptance more rapidly than our competitors, our revenue will decline and our business, financial
condition and results of operations will be negatively affected.
We heavily depend on key
personnel, for the successful execution of our business plan. The loss of one or more key members of our management team could have a
material adverse effect on our business prospects.
We are highly dependent upon Gregory J. Quarles, our Chief Executive
Officer, Christopher Donaghey, our Chief Financial and Operating Officer, and Stephen McCahon, our Chief Scientist. We depend on Drs.
Quarles’s and McCahon’s decades of expertise for the marketing and development of our technology. We also depend upon their
global visibility and outreach as well as Mr. Donaghey’s and our directors’ networks of contacts and experience to recruit
key talent to the company. We do not have key-man insurance on any of these individuals. Loss of the services of any of these key members
of our management team, or of our Board of Directors’ ability to identify and hire key talent, could have a material adverse effect
on our business prospects, financial condition and results of operations. Although a key component of our growth strategy is succession
planning and hiring additional key personnel, we may be unable to achieve this in the near term given constraints in the labor market
and our interest in recruiting highly qualified professionals.
If we are unable to hire
additional qualified personnel, our business prospects may suffer.
Our success and achievement
of our business plans depend upon our ability to recruit, hire, train and retain additional highly qualified technical and managerial
personnel. Competition for qualified employees among high technology companies is intense, and any inability to attract, retain and motivate
additional highly skilled employees required for the implementation of our business plans and activities could strongly impact our business.
Our inability to attract and retain the necessary technical and managerial personnel and scientific, regulatory and other consultants
and advisors could materially damage our business prospects, financial condition and results of operations.
The market for our technology
has a limited number of potential customers.
Given the highly specialized
nature of our technology, the potential market for our products is limited to a relative few potential customers who tend to allocate
significant budgeted amounts to selected projects. Currently, we are marketing our technology and focusing our research and development
on the defense sector, in which demand is ultimately determined primarily by the US federal defense budget and the needs and priorities
of the Department of Defense and its various agencies. The potential customers in this area are defense agencies for direct contacts
and major defense contractors for subcontracts. Thus, the demand for our products depends on their needs for our technology and selecting
us for research and development. Although we intend to diversify into other applications for our technology and markets, we cannot be
certain that opportunities in those markets will present themselves when we are ready, or that we will otherwise be able, to do so.
Risks Related to Our Securities
We are subject to the
penny stock rules adopted by the Securities and Exchange Commission that require brokers to provide extensive disclosure to their customers
prior to executing trades in penny stocks. These disclosure requirements, coupled with our status as a former shell company, may cause
a reduction in the trading activity of our common stock, and make it difficult for our stockholders to sell their securities.
Rule 3a51-1 of the Securities
Exchange Act of 1934 establishes the definition of a “penny stock,” for purposes relevant to us, as any equity security that
has a minimum bid price of less than $5.00 per share or with an exercise price of less than $5.00 per share, subject to a limited number
of exceptions which are not available to us. This classification would severely and adversely affect any market liquidity for our common
stock.
For any transaction involving
a penny stock, unless exempt, the penny stock rules require that a broker or dealer approve a person’s account for transactions
in penny stocks and the broker or dealer receive from the investor a written agreement to the transaction setting forth the identity
and quantity of the penny stock to be purchased. In order to approve a person’s account for transactions in penny stocks, the broker
or dealer must obtain financial information and investment experience and objectives of the person and make a reasonable determination
that the transactions in penny stocks are suitable for that person and that that person has sufficient knowledge and experience in financial
matters to be capable of evaluating the risks of transactions in penny stocks.
The broker or dealer must
also deliver, prior to any transaction in a penny stock, a disclosure schedule prepared by the SEC relating to the penny stock market,
which, in highlight form, sets forth:
| ● | The basis on which the broker or dealer made the suitability
determination; and |
| ● | That the broker or dealer received a signed, written agreement
from the investor prior to the transaction |
Disclosure also has to be
made about the risks of investing in penny stocks in both public offerings and in secondary trading and commission payable to both the
broker-dealer and the registered representative, current quotations for the securities and the rights and remedies available to an investor
in cases of fraud in penny stock transactions. Finally, monthly statements have to be sent disclosing recent price information for the
penny stock held in the account and information on the limited market in penny stocks.
Because of these regulations
and restrictions, broker-dealers may not wish to engage in the above-referenced necessary paperwork and disclosures and/or may encounter
difficulties in their attempt to sell shares of our common stock, which may affect the ability of selling stockholders or other holders
to sell their shares in any secondary market and have the effect of reducing the level of trading activity in any secondary market. These
additional sales practice and disclosure requirements could impede the sale of our common stock. In addition, the liquidity for our common
stock may decrease, with a corresponding decrease in the price of our common stock. Our common stock, in all probability, will be subject
to such penny stock rules and other restrictions for the foreseeable future and our stockholders will, in all likelihood, find it difficult
to sell their shares of common stock.
Because we are a former
shell company, our stockholders face restrictions on their reliance on rule 144 to sell their shares.
Historically, the SEC staff
has taken the position that rule 144 is not available for the resale of securities initially issued by companies that are, or previously
were, shell companies, like AE. The SEC has codified and expanded this position in the amendments discussed above by prohibiting the
use of rule 144 for resale of securities issued by any shell companies (other than business combination related shell companies) or any
issuer that has been at any time previously a shell company. The SEC has provided an important exception to this prohibition, however,
if the following conditions are met:
| ● | the issuer of the securities that was formerly a shell company
has ceased to be a shell company; |
| ● | the issuer of the securities is subject to the reporting requirements
of Section 13 or 15(d) of the Exchange Act; |
| ● | the issuer of the securities has filed all Exchange Act reports
and material required to be filed, as applicable, during the preceding 12 months (or such shorter period that the issuer was required
to file such reports and materials), other than Current Reports on Form 8-K; and |
| ● | at least one year has elapsed from the time that the issuer
filed current comprehensive disclosure with the SEC reflecting its status as an entity that is not a shell company. |
We expect that we will be
able to meet all of these requirements in the future, but unknown future events and circumstances could change that outcome. As a result,
pursuant to rule 144, stockholders who receive our restricted securities in a private placement or a business combination may not be
able to sell our shares without registration for up to one year after we have completed the private placement or business combination.
We currently maintain our
cash balances at a commercial bank which has been under scrutiny during the recent regulatory concerns over regional bank closures and
balance sheet weaknesses, which could jeopardize our cash reserves or access thereto when needed. We maintain a large percentage of
our cash balances with Western Alliance Bank which came under scrutiny in March 2023, as two regional banks were closed, and the Treasury
Department, Federal Reserve and FDIC had to implement emergency measures to assure depositors at other regional banks that their deposits
were safe. At times, our bank balances exceed FDIC limits. As of December 31, 2022, $5,390,308 of our cash balance was uninsured. We continue
to monitor our banking arrangement and have taken measures to diversify our cash holdings into interest bearing cash equivalents and auxiliary
cash accounts to maximize our insurance coverage. As of March 21, 2023, we had reduced our uninsured deposits to 2,389,257 and continue
to explore additional diversification options.
A large number of shares
of our common stock could be sold in the market in the near future, which could depress our stock price.
As of March 16, 2023, we
had outstanding 211,033,255 shares of common stock. Approximately 100 million of our shares are currently freely trading without restriction
under the Securities Act of 1933, as amended. The remaining shares have been held by their holders for over one year and are thus eligible
for sale under Rule 144(k) of the Securities Act. Sale of these shares into the market could depress our stock price. Provisions of our
corporate charter documents could delay or prevent change of control.
Provisions of our corporate
charter documents could delay or prevent change of control.
Our Certificate of Incorporation
authorizes our Board of Directors to issue up to 2,000,000 shares of “blank check” preferred stock without stockholder approval,
in one or more series and to fix the dividend rights, terms, conversion rights, voting rights, redemption rights and terms, liquidation
preferences, and any other rights, preferences, privileges, and restrictions applicable to each new series of preferred stock. In addition,
our Certificate of Incorporation divides our board of directors into three classes, serving staggered three-year terms. At least two
annual meetings, instead of one, will be required to effect a change in a majority of our board of directors. The designation of preferred
stock in the future and the classification of our Board of Directors, could make it difficult for third parties to gain control of our
company, prevent or substantially delay a change in control, discourage bids for our common stock at a premium, or otherwise adversely
affect the market price of our common stock. Moreover, the holders of our outstanding Series A Preferred Stock have a right to put their
shares to the company for an amount equal to the liquidation preference of approximately $340,000 plus unpaid dividends (approximately
$332,000 as of December 31, 2022), in the event of a change of control. Such right could hinder our ability to sell our assets or merge
with another company.
The redemption and dividend
provisions of our outstanding preferred stock are onerous due to our current financial condition.
The company has redeemed
substantially all of its outstanding preferred stock. At December 31, 2022, 13,602 shares were outstanding with a liquidation preference
of approximately $340,000 and unpaid dividends of $332,000. As of March 1, 2023, the liquidation preference of our outstanding preferred
stock plus unpaid dividends thereon was approximately $662,000. If an event occurs that would require us to redeem the preferred stock,
we may not have the required cash to do so.
In addition, our annual dividend
payment on the preferred stock is approximately $34,000, which will further deplete our cash. We have not paid the dividends commencing
with the quarterly dividend due August 1, 2013, and, as a result, the dividend rate has increased to 10% per annum and will remain at
that level until such failure no longer continues. These terms may also make it more difficult for us to sell equity securities or complete
an acquisition.
The COVID-19 pandemic
is slowing the process of applying for and awarding government contracts and could impair our ability to expand our research and development
capacity or raise additional funding if needed.
The ongoing global pandemic has caused disruption in certain government
contracting processes and procedures and made travel and other necessities for securing such contracts more difficult. In addition, to
the extent that any of our personnel or consultants are affected by the virus, this could cause delays or disruption in our research and
development program and affect our ability to execute our plan of operations. The pandemic has also caused unpredictability in capital
markets. If this uncertainty continues, it could make it more difficult for companies, including ours, to access capital. It is currently
difficult to estimate with any certainty how long the pandemic and resulting will continue, and its effect on capital markets and our
ability to raise funds in the future is, accordingly, difficult to quantify. The pandemic has also caused unpredictability in the supply
chain which could cause delays in our procurement and product development.
Any issuance of additional
securities in conjunction with a business or financing opportunity which will result in a dilution of present stockholders’ ownership.
Our certificate of incorporation
authorizes the issuance of 500,000,000 shares of common stock. As of March 16, 2023, we have approximately 211,033,255 shares issued
and outstanding. If funding opportunities present themselves on favorable terms, we may issue additional shares to fund our business
or in connection with our pursuit of new business opportunities and new business operations. To the extent that additional shares of
common stock are issued, our stockholders would experience dilution of their respective ownership interests. If we issue shares of common
stock in connection with our intent to pursue new business opportunities, a change in control of our company could occur. The issuance
of additional shares of common stock may also adversely affect the market price of our common stock, particularly given the historically
low trading volume in the market for our common stock.
ITEM 2. PROPERTIES
Effective March 15, 2021,
we entered into a Lease Agreement with Campus Research Corporation, for approximately 13,000 rentable square feet of office, laboratory
and production space located at the University of Arizona Science and Technology Park at 9070 South Rita Road, Suite 1500, Tucson, AZ.
This space is outfitted with a Class 1000 (ISO Class 6) “clean room” and laboratory, office and conference facilities. These
facilities are adequate for our current and expected level of operations.
The lease term began May
1, 2021, and ends on April 30, 2026. The base rent is currently $9.2009 per rentable square foot and is set to escalate to $11.4806 in
year three, $13.1740 in year four and $14.9306 in year five, plus certain operating expenses and taxes.
Our aggregate rent expense,
including common area maintenance costs, was approximately $149,000 and $155,000 for 2022 and 2021, respectively.
See Note 8 to our 2022 Consolidated
Financial Statements, which is incorporated herein by reference for information with respect to our lease commitments as of December
31, 2022.
ITEM 3. LEGAL PROCEEDINGS
On
July 3, 2019, Gusrae, Kaplan & Nusbaum and its partner, Ryan Whalen filed a complaint in the United States District Court for the
Southern District of New York against the company, its directors, officers, attorneys and a consultant. The action alleged libel, securities
fraud and related claims. The company filed a motion to dismiss the complaint on October 24, 2019. On December 13, 2019, Gusrae Kaplan
and Mr. Whalen filed an opposition to the company’s motion. On January 10, 2020, the company filed a reply brief. On August 5,
2021, the plaintiffs filed a Notice of Voluntary Dismissal of the action without prejudice.
On
January 15, 2021, the company filed a complaint in the United States District Court, Southern District of New York, against Gusrae, Kaplan
& Nusbaum and Ryan Whalen for malpractice and breach of New York Rules of Professional Conduct by both parties as former counsel
to the company. On May 28, 2021, Gusrae, Kaplan & Nusbaum and Mr. Whalen filed a motion to dismiss the complaint. On June 25, 2021,
the company filed an opposition to the motion. On July 13, 2021, Gusrae Kaplan & Nusbaum and Mr. Whalen filed their reply brief.
On March 30, 2022, United States Magistrate Judge Debra Freeman signed an order denying the motion of GKN and Mr. Whalen to dismiss the
company’s claim for malpractice and for rescission of the shares-for-fees agreement under which GKN and Whalen received shares
of the company’s common stock. The motion was partially granted as to the separate claim for violation of NYRPC 1.7 and 1.8 because
the court found that it was duplicative of the malpractice claim. The parties are currently engaged in discovery. No trial date has been
set.
On
September 7, 2021, Gusrae Kaplan & Nusbaum and its partner Ryan Whalen filed a complaint in the New York Supreme Court against the
company, its directors, officers, attorneys and a consultant, alleging a single claim for defamation per se based on the same conduct
underlying their claim of libel in their voluntarily dismissed federal court action. The company filed a motion to dismiss the complaint
on October 29, 2021, to which Gusrae Kaplan & Nusbaum and Mr. Whalen filed their opposition on January 13, 2022, and the company
filed its reply brief on February 17, 2022.
On May 23, 2022, the New York Supreme Court held a hearing on the motion
to dismiss, and Judge Hagler ruled from the bench, granting all defendants’, including Applied Energetics’, motions to dismiss
the claim, in its entirety, with prejudice. While he noted that defendants’ arguments regarding the claim being time-barred and
the court lacking personal jurisdiction over certain defendants may have merit, he elected not to rule on those issues as he believed
it appropriate to reach the merits. The judge declined to award sanctions requested by the defendants in this claim. The plaintiffs have
filed a notice of intent to appeal this dismissal but did not file their actual appeal brief within the required time.
As
with any litigation, the company cannot predict the outcome with certainty, but the company expects to provide further updates on the
status of the litigation as circumstances warrant.
The
company may, from time to time, be involved in legal proceedings arising from the normal course of business.
ITEM 4. [RESERVED]
PART III
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND
CORPORATE GOVERNANCE
The following is information
with respect to our executive officer and directors:
| Name |
|
Age |
|
Principal Position |
|
Director,
Term expiring in |
| |
|
|
|
|
|
|
| Bradford T. Adamcyzk |
|
54 |
|
Director and Executive
Chairman |
|
2.5
years |
| Gregory J. Quarles |
|
61 |
|
Director, President and Chief Executive Officer |
|
2.5 years |
| Christopher, Donaghey |
|
50 |
|
Chief Financial Officer |
|
N/A |
| Jonathan R. Barcklow |
|
39 |
|
Director, Vice President, and Secretary* |
|
1.5 years |
| John E. Schultz Jr. |
|
69 |
|
Director |
|
Less than one year |
| Mary P. O’Hara |
|
56 |
|
Director, General Counsel, Chief Legal Officer and Secretary* |
|
2.5 Years |
| Stephen W. McCahon |
|
63 |
|
Chief Scientist and Consultant |
|
N/A |
* Mr. Barcklow served as
Vice President and Secretary until September 8, 2022, upon which Ms. O’Hara assumed the office of Secretary, and the board
determined to eliminate the position of Vice President.
Messrs. Adamczyk and Barcklow
joined the board in March 2018. Mr. Schultz joined the board in November 2018. Dr. Quarles joined the board in May 2019. Ms. O’Hara
joined the board in August 2021.
Bradford T. Adamczyk: Mr. Adamczyk was elected as the company’s Chairman in May 2019
and Executive Chairman in November 2022. He served as Principal Executive Officer from August 6, 2018, until becoming Chairman and was
elected as a company director on March 8, 2018. Mr. Adamczyk has over 25 years of experience in investments and financial analysis. He
founded MoriahStone Investment Management in 2013. MoriahStone Investment Management specializes in both public equities and small-cap
private companies. He has also served on the board of advisors of BroVo Spirits, LLC since 2014, becoming its Chairman in 2018. Prior
to founding MoriahStone, he was a senior securities analyst at Columbus Circle Investors in Stamford, CT, where he focused on technology
investments. Mr. Adamczyk started his financial career at Morgan Stanley after receiving his MBA from the University of Michigan. Additionally,
Mr. Adamczyk helped drive the initial recapitalization efforts of Applied Energetics in 2018. He was part of the team that led the 2018
proxy of AE, establishing a new company board and management team and recapitalizing the company to pursue the development of its technology
and IP portfolio. He received his undergraduate degree from Western Michigan University, graduating Magna Cum Laude.
Gregory J. Quarles: Dr.
Quarles was elected as the company’s Chief Executive Officer and as a company director effective May 4, 2019. In January 2021, the
Board also elected him as President of the company. Prior to that time, he had served on the company’s Scientific Advisory Board
since March 18, 2017. Before joining Applied Energetics, Dr. Quarles spent the previous six years with Optica (formerly, The Optical Society
of America) in Washington D.C., both as a member of the Board and the Executive Committee and more recently as the Chief Scientific Officer.
His responsibilities at Optica encompassed a broad range of scientific, technical and engineering infrastructure, and included content
development for the Optica meetings portfolio, along with many other related projects, highlighted by his reports to Congress. Moreover,
Dr. Quarles had been personally involved through Optica in the establishment of many crucial partnerships involving major R&D laboratories
and global agencies worldwide. This involvement included being a long-standing member of the U.S. Department of Commerce, Bureau of Industry
and Security, and Sensors and Instrumentation Technical Advisory Committee. In addition to his executive leadership, Dr. Quarles is a
well-respected member of the laser development community globally with over 35 years of experience since the award of his Ph.D. from Oklahoma
State University. He is a Fellow in both the SPIE and Optica, a Senior Member of the IEEE and received the Memorial D.S. Rozhdestvensky
Medal from the Russian Optical Society (2015). In 2016, he joined the Oklahoma State University CAS Hall of Fame, and in 1996 received
the R&D 100 Award for the Ce:LiSAF Laser System.
Christopher Donaghey:
Mr. Donaghey is an experienced financial executive with extensive experience in the defense industry. Mr. Donaghey most recently
served as senior vice president and head of corporate development for Science Applications International Corporation (SAIC), a defense
and government agency technology integrator, where he was responsible for executing the company’s mergers and acquisitions (M&A)
and strategic ventures strategy. He joined SAIC in 2017, as senior vice president of finance for SAIC’s operations. Mr. Donaghey
is also a Founder and Executive Board member of the Silicon Valley Defense Group, a non-profit organization whose mission is to create
the nexus of pioneering ideas, people, and capital that will unlock new sources of innovation for national security and power the digital
evolution of the defense industrial base. Prior to joining SAIC, Donaghey was Vice President of Corporate Strategy and Development for
KeyW Corporation, a national security solutions provider for the intelligence, cyber and counterterrorism communities, where he guided
the overall corporate strategy, M&A, and capital markets activities. Mr. Donaghey was also a senior research analyst for SunTrust
Robinson Humphrey Capital Markets during which time, he was ranked the number one defense analyst and number two analyst overall for
stock selection by Forbes/Starmine in 2005 and was named in the Wall Street Journal Best on the Street survey in 2005, 2008, and 2009.
Mr. Donaghey served in the
U.S. Navy Reserve where he provided scientific and technical analysis of missile guidance and control systems and advanced electronics
for the Short-Range Ballistic Missile group at the Defense Intelligence Agency’s Missile and Space Intelligence Center. Donaghey
earned his bachelor’s degree in mechanical engineering from Texas Tech University and served as an officer in the U.S. Navy. Mr.
Donaghey served on Applied Energetics’ Board of Advisors from April 30, 2019 until becoming Chief Operating and Financial Officer.
Jonathan R. Barcklow: Mr.
Barcklow was elected as the company’s Vice President and Secretary on November 12, 2018, and was elected as a company director on
March 8, 2018. Mr. Barcklow has over 15 years of experience in advisory and management consulting services in federal defense and civilian
agencies. He has spent his career in consulting services with both PriceWaterhouseCoopers and KPMG, LLP. Mr. Barcklow has worked at KPMG
since 2010 and currently serves as the Managing Director within KPMG’s Federal Management Consulting group leading their Defense
Mission Services portfolio. In leading this $30M portfolio, Mr. Barcklow is responsible for every facet of the businesses operations,
management, profitability and growth planning and oversees a diverse workforce of 150 professionals Over his career, Mr. Barcklow has
been a consultant for a number of federal agencies, including the Department of Veterans Affairs, Department of Homeland Security, Federal
Emergency Management Agency, National Science Foundation, Department of the Navy, US Marine Corp, US Air Force, Defense Logistics Agency,
Office of the Secretary of Defense, and the Deputy Chief Management Office. His portfolio primarily focused on large-scale strategic transformations,
technology and innovation, including big data, advanced analytics, AI and machine learning, blockchain, and Internet of Things (IoT) within
DoD entities. Additionally, Mr. Barcklow helped drive the initial recapitalization efforts of Applied Energetics in 2018 and developed
the initial 12-month execution plan for the company’s turnaround. Mr. Barcklow graduated from the University of Virginia.
John E. Schultz Jr.:
Mr. Schultz was elected as a company director on November 11, 2018. Mr. Schultz has had a long affiliation with Wall Street, having founded
CSG Spectra, Inc., a risk analytics firm, in 1984. He also founded Oak Tree Asset Management Ltd. in 2000, where he actively trades securities
in managed LLC’s. Mr. Schultz’s strong networks have emphasized outside-the-box investment opportunities and early-stage new
frontier private equity investment deals. Mr. Schultz has an intimate knowledge of Applied Energetics, including its history and financials
and has in the past served as a consultant to the company. Additionally, Mr. Schultz helped drive the initial recapitalization efforts
of Applied Energetics in 2018. He was part of the team that led the 2018 proxy of AE, establishing a new company board and management
team and recapitalizing the company to pursue the development of its technology and IP portfolio. Mr. Schultz is a graduate of California
State University at Long Beach.
Mary P. O’Hara:
Ms. O’Hara was appointed to the Board of Directors on August
20, 2021, upon the board’s decision to expand its number to five members. Ms. O’Hara was appointed General Counsel and Chief
Legal Officer in January 2022 and Secretary in September 2022. She has been in private law practice for over thirty years and has broad
experience in all facets of securities, corporate and commercial law. Prior to her joining the company full time, she was affiliated with
the law firm of Masur, Griffitts, Avidor, LLP and has represented the company for several years. Previously, she was a partner at Hodgson
Russ LLP and an associate at Fulbright & Jaworski LLP (now known as Norton Rose Fulbright) and Mayer Brown & Platt, LLP (now known
as Mayer Brown LLP). Ms. O’Hara has a J.D. from New York University School of Law and a B.A. in Economics, magna cum laude,
from the University of New Mexico.
Stephen W. McCahon:
Dr. Stephen McCahon has been a scientific researcher, technology developer, and entrepreneur for over 30 years. He has co-authored more
than 50 scientific publications and has more than 30 patents issued, patents pending, or invention disclosures in preparation for patent
submission. He was a Member of the Research Staff in the Optical Physics Department at the Hughes Research Laboratory in Malibu, California
from 1986 to 1996 performing basic research in the area of optical physics and non-linear optical materials. In 1996, Dr. McCahon moved
to Raytheon (Hughes) Missile Systems Co, in Tucson, AZ during which time as was significantly responsible for the successful creation
and development of the Directed Energy Weapons Product Line and served as its Chief Scientist. He left Raytheon in 2002 to co-found Applied
Energetics Inc. in Tucson, AZ to develop Directed Energy Weapons for the DoD including very high energy and average power USP laser sources
and Laser Guided Energy Technologies. In April 2010 Dr. McCahon left Applied Energetics to form Applied Optical Sciences where he developed
technologies related to the application of optical physics to a broad range of areas, including photonics and USP laser development.
Dr. McCahon is a graduate the University of Southern California (BSEE, MSEE) holds a Ph.D., Photonics, Inter-disciplinary Physics and
Electrical Engineering from the University of Iowa. Since February 2016, he has served as a consultant to the Applied Energetics Board
of Directors. In 2019 Applied Energetics purchased his company Applied Optical Sciences and integrated it into Applied Energetics where
Dr. McCahon currently serves as its Chief Scientist.
Directors Qualifications, Experience and Skills
Our directors bring to our
Board a wealth of executive leadership experience and technical knowledge derived from their service, respectively, as senior executives,
founders of industry and legal or financial professionals. Our board members have demonstrated strong business acumen and an ability to
exercise sound judgment and has a reputation for integrity, honesty and adherence to ethical standards. When considering whether directors
and nominees have the experience, qualifications, attributes and skills, taken as a whole, to enable the Board of Directors to satisfy
its oversight responsibilities effectively in light of the company’s business and structure, the Corporate Governance and Nominating
Committee and the Board of Directors focused primarily on the information discussed in each of the Directors’ individual biographies
set forth above and the specific individual qualifications, experience and skills as described below:
| ● | Mr. Adamczyk’s qualifications as a director include his expertise
in corporate finance, strategy and building high performing teams to overcome financial and strategic challenges. Mr. Adamczyk was part
of the team that led the 2018 proxy of AE, establishing a new company board and management team and recapitalizing the company to pursue
the development of its technology and IP portfolio. He, along with the others in this group, continues his work to establish a foundation
of good corporate governance and transparency. |
| ● | Dr. Quarles’s qualifications as a director include his
experience as director and senior executive in the laser industry with primary focus on the defense and aerospace sector. |
| ● | Mr. Barcklow’s qualifications as a director include his experience
in management consulting and his knowledge of the defense industry and government contracting. Mr. Barcklow was part of the team that
led the 2018 proxy, establishing a new company board and management team and recapitalizing the company to pursue the development of its
technology and IP portfolio. He, along with the others in this group, continues his work to establish a foundation of good corporate governance
and transparency. |
| ● | Mr. Schultz’s qualifications as a director include his expertise
in the equity investment industry and has been a friend of Applied Energetics since its public inception in 2004 and has an intimate knowledge
of the company’s background, including its history and financials. Mr. Schultz and his entity Oak Tree Asset Management were part
of the team that led the 2018 proxy, establishing a new company board and management team and recapitalizing the company to pursue the
development of its technology and IP portfolio. He, along with the others in this group, continues his work to establish a foundation
of good corporate governance and transparency. |
| ● | Ms. O’Hara’s qualifications as a director include
her many years of experience in securities, corporate and commercial law and the business and financial knowledge she has acquired over
those years as well. |
Section 16(A) Beneficial Ownership Reporting
Compliance
Section 16(a) of the Securities
Exchange Act of 1934 requires certain officers and directors of Applied Energetics, and any persons who own more than ten percent of
the common stock outstanding to file forms reporting their initial beneficial ownership of shares and subsequent changes in that ownership
with the SEC. Officers and directors of Applied Energetics, and greater than ten percent beneficial owners are also required to furnish
us with copies of all such Section 16(a) forms they file. Based on a review of these filings, the initial Form 3 for the company’s
Chief Financial Officer and a Form 4 reporting a change in ownership for Mr. Schultz, one of the company’s directors, were filed
after their respective deadlines. The company does not believe any other officers or directors failed to timely file any required forms
under Section 16(a) during the year ended December 31, 2022.
Code of Ethics
Applied Energetics has adopted
a Code of Business Conduct and Ethics that applies to all of Applied Energetics’ employees and directors, including its Chief Executive
Officer and Chief Financial Officer (and principal accounting officer). Applied Energetics’ Code of Business Conduct and Ethics
covers all areas of professional conduct including, but not limited to, conflicts of interest, disclosure obligations, insider trading,
confidential information, as well as compliance with all laws, rules and regulations applicable to Applied Energetics’ business.
Our Code of Ethics and Business
Conduct is available upon request made to us in writing at the following address, and will be provided without charge:
Applied Energetics, Inc.
Attention: Chief Legal Officer
9070 S. Rita Road, Suite
1500
Tucson, AZ 85747
Committees of the Board of Directors
The members of the board of
directors continue to evaluate the need and utility of establishing one or more committees of the Board of Directors and to review relevant
legal or regulatory requirements with respect thereto. At present all functions that would be fulfilled by committees are being fulfilled
by the entire board, and the board believes that currently no committees are necessary or legally required.
ITEM 11. EXECUTIVE COMPENSATION
Summary Compensation Table
The following table discloses the compensation for the persons who
served as our Executive Chairman, President and Chief Executive Officer, Chief Financial Officer, General Counsel, Chief Legal Officer
and Secretary, and Chief Scientist for the years ended December 31, 2022 and 2021. Mr. Quarles has been our Chief Executive Officer from
May 6, 2019 to present and was elected President as of January 2022. Ms. O’Hara was appointed General Counsel and Chief Legal Officer
in January 2022 and Secretary in September 2022. She and Mr. Adamczyk receive compensation as directors as set forth under Director Compensation
below.
| Name and Principal Position | |
Year | | |
Salary
($) | | |
Bonus
($) | | |
Stock
Awards
($) | | |
Option Awards
($) | | |
All Other Compensation (1) | | |
Total | |
| Bradford T. Adamczyk, | |
| 2022 | | |
$ | - | | |
$ | - | | |
$ | - | | |
| - | | |
$ | - | | |
$ | - | |
| Executive Chairman | |
| 2021 | | |
$ | - | | |
$ | - | | |
$ | - | | |
| - | | |
$ | - | | |
$ | - | |
| | |
| | | |
| | | |
| | | |
| | | |
| | | |
| | | |
| | |
| Gregory J Quarles, | |
| 2022 | | |
$ | 353,632 | | |
$ | 95,000 | | |
$ | 3,850,454 | (1) | |
| - | | |
$ | - | | |
$ | 4,299,086 | |
| President and Chief Executive Officer | |
| 2021 | | |
$ | 304,167 | | |
$ | 112,700 | | |
$ | - | | |
| | | |
$ | 4,990 | (1) | |
$ | 421,857 | |
| | |
| | | |
| | | |
| | | |
| | | |
| | | |
| | | |
| | |
| Christopher Donaghey, | |
| 2022 | | |
$ | 145,833 | | |
$ | - | | |
$ | 920,000 | (2) | |
$ | 1,977,796 | | |
$ | - | | |
$ | 3,043,629 | |
| Chief Operating and Financial Officer | |
| 2021 | | |
$ | - | | |
$ | - | | |
$ | 84,000 | (2) | |
$ | 119,820 | | |
$ | - | | |
$ | 203,820 | |
| | |
| | | |
| | | |
| | | |
| | | |
| | | |
| | | |
| | |
| Mary P. O’Hara, | |
| 2022 | | |
$ | 246,134 | | |
$ | - | | |
$ | | | |
$ | 1,301,130 | | |
$ | - | | |
$ | 1,547,264 | |
| General Counsel, CLO and Secretary | |
| 2021 | | |
| - | | |
$ | - | | |
$ | - | | |
| - | | |
$ | - | | |
| - | |
| | |
| | | |
| | | |
| | | |
| | | |
| | | |
| | | |
| | |
| Stephen McCahon, | |
| 2022 | | |
$ | 250,000 | | |
$ | - | | |
$ | - | | |
| | | |
$ | - | | |
$ | 250,000 | |
| Chief Scientist | |
| 2021 | | |
$ | 220,833 | | |
$ | - | | |
$ | - | | |
| | | |
$ | - | | |
$ | 220,833 | |
| (1) | In 2021, Dr. Quarles’ all other compensation was for group term
life insurance. This award represents 1,954,545 restricted stock units (RSUs) issued to Dr. Quarles, pursuant to a Restricted Stock Unit
Agreement, dated as of November 29, 2022, in connection with the amendment to his Executive Employment Agreement. These RSUs vest in equal
annual installments over four years. If either party terminates the agreement at any time prior to the last date of the term, then the
units will vest, pro rata, for each month served since the most recent prior annual vesting date. |
| (2) | In 2021, Mr. Donaghey received 140,000 shares of restricted stock valued
at $0.61 per share and options to purchase up to 400,000 shares at an exercise price of $0.61 per share for his service on the Board of
Advisors and consisted of. Each of these awards were subject to vesting and fully vested as to the restricted shares. The options vested
in the amount of 200,000 shares, and, upon Mr. Donaghey’s appointment as Chief Financial Officer, he forfeited the remaining options.
In 2022, stock awards for Mr. Donaghey partly consisted of options to purchase up to 750,000 shares of common stock at an exercise price
of $2.40 per share, all of which were for his service on the Board of Advisors and which he forfeited upon his appointment as Chief Financial
Officer. Stock awards granted in 2022 are for his service as Chief Financial Officer and consist of 400,000 RSUs and options to purchase
up to 1,000,000 shares of common stock at an exercise price of $2.36 per shares. Each of these RSUs and options vest in equal annual installments
over four years, subject, however, to pro rata monthly vesting in the event of his termination under certain circumstances. |
Director Compensation
The following table discloses
our director compensation for the years ended December 31, 2022 and 2021:
| Name | |
Year | | |
Fees
Earned or
Paid in
Cash ($) | | |
Stock
Awards
($) | | |
Option Awards ($)
(1) | | |
All Other
Compensation
($) | | |
Total | |
| Bradford T. Adamczyk, | |
| 2022 | | |
$ | 215,000 | | |
$ | - | | |
$ | - | | |
$ | - | | |
$ | 215,000 | |
| Executive Chairman | |
| 2021 | | |
$ | 148,000 | | |
$ | - | | |
$ | - | | |
$ | - | | |
$ | 148,000 | |
| | |
| | | |
| | | |
| | | |
| | | |
| | | |
| | |
| Jonathan R. Barcklow, | |
| 2022 | | |
$ | 110,000 | | |
$ | - | | |
$ | - | | |
$ | - | | |
$ | 110,000 | |
| Vice President and Secretary(2) | |
| 2021 | | |
$ | 60,000 | | |
$ | - | | |
$ | - | | |
$ | - | | |
$ | 60,000 | |
| | |
| | | |
| | | |
| | | |
| | | |
| | | |
| | |
| John E. Schultz, Jr. | |
| 2022 | | |
$ | 90,000 | | |
$ | - | | |
$ | - | | |
$ | - | | |
$ | 90,000 | |
| | |
| 2021 | | |
$ | 77,500 | | |
$ | - | | |
$ | - | | |
$ | - | | |
$ | 77,500 | |
| | |
| | | |
| | | |
| | | |
| | | |
| | | |
| | |
| Mary P. O’Hara, | |
| 2022 | | |
$ | - | | |
$ | - | | |
$ | - | | |
$ | - | | |
$ | - | |
| General Counsel, CLO and Secretary (2) | |
| 2021 | | |
$ | - | | |
$ | - | | |
$ | 215,877 | | |
$ | - | | |
$ | 215,877 | |
| (1) | In August 2021, Ms. O’Hara was granted 360,000 shares
under options to purchase common stock as consideration for her board service. |
| | |
| (2) | Mr. Barcklow served as Vice President and Secretary until
September 8, 2022 upon which Ms. O’Hara assumed the office of Secretary, and the board determined to eliminate the position of
Vice President. |
Board Considerations in Determining Salaries
Our executive compensation program is designed to attract, retain,
and incentivize talented executives with a dedication to achieving our scientific and strategic objectives. Our 2022 compensation program
consisted primarily of base salary and equity awards. Compensation of our named executive officers is primarily determined by compensation
levels in the market for their services, among large- and small-cap defense and technology companies. The Board considers recommendations
from various outside consultants and other informed sources in making compensation decisions. Aligning executive compensation with stockholder
interests is a key consideration for our compensation program. As we continue to grow, we anticipate developing and evolving our compensation
program around specific objectives and key responsibilities with metrics and compensation targets.
Employment Agreements for Named Executive
Officers, General Counsel and Chief Scientist
As of April 18, 2019,
we entered into an Executive Employment Agreement with Dr. Gregory J. Quarles setting forth the terms of his service as Chief
Executive Officer. The agreement is for a term of three years and is renewable thereafter for sequential one-year periods. The
agreement may be terminated by the company for “cause” or by Quarles for “Good Reason” both of which terms are
defined in the agreement. The agreement may also be terminated, without cause or Good Reason, by either party upon sixty days’
written notice to the other.
The agreement calls for (i) a
cash salary of $250,000 per annum, payable monthly, and eligibility for a discretionary bonus within 60 days of the end of each year,
and (ii) options to purchase up to 5,000,000 shares of our common stock at an exercise price of $0.35 per share. These options
were issued pursuant to a grant agreement, dated as of April 18, 2019 and vest immediately with respect to 500,000 shares and
in semi-annual installments with respect to the remaining 4,500,000 shares. The agreement also provides for Quarles to retain
2,000,000 options previously granted to him under a Consultant Stock Option Agreement in 2017, for his services on the Scientific Advisory
Board, which are subject to vesting based on achievement of performance milestones. Dr. Quarles forfeited options to purchase an
additional 1,500,000 shares under another prior option agreement. Under the agreement, Dr. Quarles also is to receive health
and life insurance as well as other standard benefits. The agreement also requires the company to reimburse certain out-of-pocket expenses
and to compensate Quarles in the event that it requires him to resign from certain boards on which he serves.
In the event of a termination
of the agreement by Quarles with Good Reason, or by us without cause, we must pay him any unpaid base compensation due as of the termination
date as well as any pro rata unpaid bonus and any unpaid expenses. Any unvested options will vest upon such termination. In such event,
we must continue to pay Dr. Quarles his monthly base compensation and any health and life insurance benefits until he has secured
full-time employment, but not to exceed a period of three months from the termination date.
In the event that we terminate
the agreement for cause or he terminates without Good Reason, he will receive base compensation and expense reimbursement through the
date of termination but will forfeit any unvested equity compensation.
This agreement was amended
December 15, 2020, increasing Dr. Quarles’ salary to $300,000 per year effective January 1, 2021, on November 30,
2021, increasing his salary to $350,000 per year effective January 1, 2022, and again, on November 29, 2022, increasing his
salary to $400,000 per year effective November 1, 2022.
Stephen W. McCahon serves
as our Chief Scientist, pursuant to a Consulting Agreement, dated as of May 24, 2019 (the “SWM Consulting Agreement”),
of which he is the principal. The SMW Consulting Agreement provides for a combination of cash and equity compensation for which Dr. McCahon
leads Applied Energetics’ scientific efforts including: leading the scientific team, developing new intellectual property, assisting
with business development, transferring legacy knowledge to new team members, recruiting and training talent, working with executives
on corporate strategy, assisting in budget development for R&D, meeting with clients on technical concepts, attending conferences,
and producing thought leadership for the company. Dr. McCahon works closely with Dr. Quarles on the company’s research
and development activities and in the proposal and fulfilment of research and development contracts for branches of the Department of
Defense, agencies of the federal government and other defense contractors and in other internal research and development activities relating
to lasers and advanced optical sources.
The SWM Consulting Agreement
provides for Mr. McCahon’s service to the company for compensation consisting partly of cash of $180,000 for the first year
and $250,000 during each of the second and third years of the term. Under the SWM Consulting Agreement, the company also repurchased
5,000,000 shares if its common stock, issued to Dr. McCahon in 2016 under a prior Consulting Agreement, at a price of $0.06
per share based on the company share price at the time of the SWM Consulting Agreement. 5,000,000 of an additional 15,000,000 shares
held by Dr. McCahon are subject to a lock-up and released pro rata each month during the term of the agreement which may be
accelerated in the event of termination other than for cause or a change in control. The term of the SWM Consulting Agreement began on
June 1, 2019, and extends for a period of 36 months thereafter. Dr. McCahon is entitled to continue receiving cash compensation
for three months following the date of any termination without cause by the company. Effective May 23, 2022, the company and
Dr. McCahon agreed to an extension of the SWM Consulting Agreement upon the same general terms and conditions. On January 17, 2023, the
company amended the SWM Consulting Agreement, pursuant to which Stephen W. McCahon serves as its Chief Scientist. The amendment is effective
January 1, 2023, provides for an extended term of three years, commencing on that date, and increases compensation under the agreement
to $300,000, $325,000 and $350,000 per year for the first, second and third years of the extended term, respectively.
Also, effective May 24,
2019, and in connection with the entry into the SWM Consulting Agreement, the company entered into an Asset Purchase Agreement with Applied
Optical Sciences, Inc. (“AOS”), an Arizona corporation of which Stephen W. McCahon is the majority stockholder. The
Asset Purchase Agreement provided for purchase of specified assets from AOS, including principally intellectual property, contracts and
equipment in exchange for consideration consisting of (i) cash in the amount of $2,500,000.00, payable in the form of a Promissory
Note, secured by the assets, and (ii) warrants to purchase up to 2,500,000 shares of Applied Energetics’ common stock
at an exercise price of $0.06 per share. The Promissory Note was amended in February 2021 to extend the maturity date by six months
and restructure the payment to time up to the adjusted maturity date. The amendment also called for waiver of any late payment penalties
for the first two payments. Effective May 2022, the parties further amended the Promissory Note to extend the maturity date by an additional
six months and to further restructure the remaining payments due thereunder to be smaller and monthly, rather than semi-annually. As
of December 31, 2022, $400,000 in principle remained due under the Promissory Note.
Effective January 1,
2022, the company and Mary P. O’Hara entered into an Executive Employment Agreement, pursuant to which she is currently serving
as General Counsel and Chief Legal Officer for an initial term of three years, with automatic renewal for additional one-year periods
thereafter unless either party terminates the agreement. The agreement calls for salary of $250,000 per year, plus standard benefits and
eligibility for a bonus at the discretion of the board. The company has also granted Ms. O’Hara incentive stock options to purchase
up to 640,000 shares of its common stock under its 2018 Incentive Stock Plan, which vest over four years, at an exercise price
of $2.40 per share.
Effective August 1, 2022,
the company and Christopher Donaghey entered into an Executive Employment Agreement, pursuant to which he is to serve as Chief Financial
and Chief Operating Officer for an initial term of four years, with automatic renewal for additional one-year periods thereafter
unless either party terminates the agreement. The agreement calls for salary of $350,000 per year, plus standard benefits and eligibility
for a bonus at the discretion of the board. The company has also granted Mr. Donaghey additional options to purchase up to 1,000,000 shares
of its common stock under its 2018 Incentive Stock Plan, which vest over four years and have an exercise price of $2.36 per share,
and Restricted Stock Units representing up to 400,000 shares of the company’s common stock which also vest over four years.
The Restricted Stock Units are issued pursuant to a Restricted Stock Unit Agreement, dated as of July 13, 2022. Mr. Donaghey
forfeited unvested options to purchase up to 950,000 shares of common stock which he had previously received for service on the company’s
Board of Advisors.
Dr. McCahon is a significant
stockholder of the company. See “Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters.”
Grants of Plan-Based Awards
The following table sets forth certain information
with respect to all plan-based awards granted to our named executive officers during the fiscal year ended December 31, 2022.
| | |
Type
of
Award | | |
Grant
Date | | |
All
Other Stock
Awards:
Number of
Shares of
Stock or
Units (#) | | |
All Other
Option
Awards:
Number of
Securities
Underlying
Options (#) | | |
Exercise
or Base
Price of
Option
Awards
($/sh) | | |
Grant Date
Fair Value
of Stock and
Option
Awards
($) (1) | |
| Bradford T. Adamczyk | |
| — | | |
| — | | |
| — | | |
| — | | |
| — | | |
| — | |
| Gregory J. Quarles | |
| — | | |
| — | | |
| — | | |
| — | | |
| — | | |
| — | |
| Christopher Donaghey(2) | |
| Stock Option | | |
| 7/13/2022 | | |
| | | |
| 1,000,000 | | |
| 2.36 | | |
| 1,977,796 | |
| Mary P. O’Hara | |
| Stock Option | | |
| 1/2/2022 | | |
| — | | |
| 640,000 | | |
| 2.40 | | |
| 1,301,130 | |
| Stephen W. McCahon | |
| — | | |
| — | | |
| — | | |
| — | | |
| — | | |
| — | |
| (1) | Based on Black-Scholes-Merton option
pricing model and assumptions therein, including implied volatility of the underlying common
stock. |
| | |
| (2) | Does not include options to purchase
up to 750,000 shares which were issued to Mr. Donaghey as compensation for his service on
the Board of Advisors but which were forfeited upon his resignation from the Board of Advisors
and appointment as COO/CFO. |
Excluded from the above table are 2,354,545 Restricted
Stock Units which are not part of the company’s 2018 Equity Incentive Plan but which the board of directors voted to grant to the
following executive officers as additional incentive compensation:
| | |
Grant Date | |
Number of
Underlying
Shares | | |
Grant Date
Fair Value | |
| Gregory J. Quarles | |
11/1/2022 | |
| 1,954,545 | | |
$ | 3,850,454 | |
| Christopher Donaghey | |
7/13/2022 | |
| 400,000 | | |
$ | 928,000 | |
The RSU award for Dr. Quarles is subject to vesting
upon the occurrence of both of the following events:
| (i) | the company receiving cumulative revenues in the amount of
$5 million as a direct result of certain specified customer leads generated for the company by Dr. Quarles; and |
| | | |
| (ii) | the company’s completion of an offering of its common
stock described in the agreement, with proceeds specified therein and sufficient to cover any tax withholding requirement imposed upon
the company pertaining to such RSUs. |
The RSU award for Mr. Donaghey is subject to
vesting in equal annual installments over four years.
Outstanding Equity Awards at Fiscal Year-End
The following table discloses
unexercised options held by the named executives at December 31, 2022:
| | |
Option Awards | | |
| |
| Name | |
Number of
Securities
Underlying
Unexercised Options
Exercisable
(#) | | |
Number of
Securities
Underlying
Unexercised
Options
Unexercisable | | |
Option
Exercise
Price | | |
Option
Expiration
Date | |
| Bradford T. Adamczyk | |
| 5,000,000 | | |
| - | | |
$ | 0.07 | | |
| 11/12/2028 | |
| Gregory J. Quarles | |
| 5,000,000 | | |
| - | | |
$ | 0.35 | | |
| 4/18/2029 | |
| Christopher Donaghey | |
| 150,000 | | |
| - | | |
$ | 0.35 | | |
| 4/29/2029 | |
| | |
| 200,000 | | |
| - | | |
$ | 0.61 | | |
| 5/12/2031 | |
| | |
| | | |
| 1,000,000 | | |
$ | 2.36 | | |
| 7/13/2032 | |
| Mary P. O’Hara | |
| 160,000 | | |
| 200,000 | | |
$ | 1.27 | | |
| 8/20/2031 | |
| | |
| 160,000 | | |
| 480,000 | | |
$ | 2.40 | | |
| 1/1/2032 | |
| Stephen W. McCahon | |
| - | | |
| - | | |
| - | | |
| - | |
In addition to the foregoing,
as of December 31, 2022, Jonathan Barcklow, a director, held options to purchase up to 5,000,000 shares of common stock, and John Schultz,
also a director, held options to purchase up to 2,500,000 shares of common stock, each at an exercise price of $0.07 per share and both
of which expire on November 12, 2028. Details regarding these options are set forth in Item 12. Security Ownership of Certain Beneficial
Owners and Management and Related Stockholder Matters below.
Payments upon Termination or Change-In-Control
There are no termination
or change in control agreements in place that would require payments
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER
PARTICIPATION:
During the fiscal year ended
December 31, 2022, none of our executive officers served on the Board of Directors or the Compensation Committee of any other company
whose executive officers also serve on our Board of Directors or our Compensation Committee.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL
OWNERS AND MANGEMENT AND RELATED STOCKHOLDER MATTERS:
The following table sets forth
information regarding the beneficial ownership of our Common Stock, based on information provided by the persons named below in publicly
available filings, as of March 16, 2023:
| ● | each of our directors and executive officers; |
| ● | all directors and executive officers of ours as a group; and |
| ● | each person who is known by us to beneficially own more than
five percent of the outstanding shares of our Common Stock |
Unless otherwise indicated,
the address of each beneficial owner is in care of Applied Energetics, 9070 South Rita Road, Suite 1500, Tucson, Arizona 85747. Unless
otherwise indicated, the company believes that all persons named in the following table have sole voting and investment power with respect
to all shares of common stock that they beneficially own.
For purposes of this table,
a person is deemed to be the beneficial owner of the securities if that person has the right to acquire such securities within 60 days
of March 16, 2023 upon the exercise of options or warrants. In determining the percentage ownership of the persons in the table below,
we assumed in each case that the person exercised all options which are currently held by that person and which are exercisable within
such 60-day period, but that options and warrants held by all other persons were not exercised, and based the percentage ownership on
211,033,255 shares outstanding on March 16, 2023.
Name of Beneficial Owner | |
Number of
Shares
Beneficially
Owned (1) | | |
Percentage
of Shares
Beneficially
Owned (1) | |
| | |
| | |
| |
| Bradford T. Adamczyk | |
| 7,235,081 | (2) | |
| 3.3 | % |
| Gregory J. Quarles | |
| 6,954,545 | (3) | |
| 3.2 | % |
| Jonathan R. Barcklow | |
| 6,000,000 | (4) | |
| 2.8 | % |
| John E. Schultz Jr. | |
| 4,380,000 | (5) | |
| 2.1 | % |
| Stephen W. McCahon | |
| 14,677,861 | (6) | |
| 7.0 | % |
| Mary P. O’Hara | |
| 426,667 | (7) | |
| * | |
| Kevin T. McFadden | |
| 12,100,000 | (8) | |
| 5.7 | % |
| Christopher Donaghey | |
| 524,554 | (9) | |
| * | |
| | |
| | | |
| | |
| All directors and executive officers as a group (7 persons) | |
| 40,198,708 | | |
| 17.4 | % |
| (1) |
Computed based upon the total number of shares of common stock, restricted shares of common stock and shares of common stock underlying options or warrants held by that person that are exercisable within 60 days of the Record Date. |
| (2) |
Based on information contained in a Form 4, filed with the SEC on May 20, 2020. Includes 1,563,599 shares held by Moriah Stone Global L.P., which is controlled by Mr. Adamczyk. Also includes 5,000,000 shares underlying options. 3,500,000 of which are held in the name of the Adamczyk Family 2021 LLC. |
| (3) |
Includes options to purchase up to 5,000,000 shares of common stock, which are fully vested, and Restricted Stock Units covering 1,954,545 shares of common stock, which are subject to vesting upon the occurrence of certain milestones. |
| (4) |
Includes 5,000,000 shares underlying options. |
| (5) |
Based on information contained in a Form 4, filed with the SEC on November 23, 2022. Includes 500,000 shares held by Oak Tree Asset Management Ltd., which is controlled by Mr. Schultz, and 750,000 shares held by Mary Schultz, Mr. Schultz’s wife. Also includes 2,500,000 shares underlying options. |
| (6) |
Based on information known by the company and Dr. McCahon’s Schedule 13D filed with the SEC on February 18, 2022. |
| (7) |
Based on information contained in a Form 4, filed with the SEC on January 6, 2022. All such shares underly options. Ms. O’Hara holds an additional 573,333 options which are subject to timed vesting. |
| (8) |
Based on information known by the company and Mr. McFadden’s Schedule 13G, filed with the SEC on September 29, 2020. Includes a warrant to purchase 125,000 shares of common stock. Mr. McFadden’s address is 21 Tow Path Lane South, Richmond, VA 23221. |
| (9) |
Based on information contained in a Form 4, filed with the SEC on November 4, 2022, and information known by the company. Does not include options to purchase an additional 1,000,000 shares of common stock and Restricted Stock Units covering 400,000 shares of common stock, all of which are subject to timed vesting. |
Securities Authorized for Issuance Under Equity
Compensation Plans
The following table details
information regarding our existing equity compensation plans as of December 31, 2022:
Equity Compensation Plan Information
Plan Category | |
Number of
securities
to be
issued
upon
exercise of outstanding
options and
rights | | |
Weighted-
average
exercise
price of
outstanding
options | | |
Number of
securities
remaining
available for
future
issuance
under equity
compensation
plans
(excluding
securities
reflected in
column (a)) | |
| Equity compensation plans approved by security holders | |
| 21,135,451 | | |
$ | 0.39 | | |
| 27,331,216 | |
| Equity compensation plans not approved by security holders | |
| - | | |
| - | | |
| - | |
| Total | |
| 21,135,451 | | |
$ | 0.39 | | |
| 27,331,216 | |
Effective November 12, 2018,
the board of directors of Applied Energetics, Inc. adopted the 2018 Incentive Stock Plan. On October 30, 2019, the stockholders voted
to approve and adopt the plan. The plan provides for the allocation and issuance of stock, restricted stock purchase offers and options
(both incentive stock options and non-qualified stock options) to officers, directors, employees and consultants of the company. The
board reserved a total of 50,000,000 for possible issuance under the plan.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED
TRANSACTIONS AND DIRECTOR INDPENDENCE
Transactions with Related Parties
Except as disclosed herein,
no director, executive officer, stockholder holding at least 5% of shares of our common stock, or any family member thereof, had any
material interest, direct or indirect, in any transaction, or proposed transaction since the year ended December 31, 2022.
Contractual Relationships with Related Parties
Dr. Stephen W. McCahon
holds in excess of 5% of our common stock and serves as our Chief Scientist pursuant to a Consulting Agreement with SWM Consulting LLC
of which he is the principal. For a description of this Consulting Agreement, see “Directors and Executive Officers — Chief
Scientist” above. See also, “Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters.”
In January 2023, the company made a $25,000 tax-deductible donation
to Silicon Valley Defense Group (SVDG), a 501(c)(3) organization of which Christopher Donaghey, our Chief Financial and Operating Officer,
is a founder and member of the Board of Directors. As its objective, SVDG “seeks to align and connect the people, capital, and ideas
that will ensure allied democracies retain a durable techno-security advantage.”
Review, Approval or Ratification of Transactions
with Related Persons
Pursuant to company policy,
all officers and directors of the company who have, or whose immediate family members have, any direct or indirect financial or other
participation in any business that supplies goods or services to Applied Energetics, are required to notify our Board of Directors, who
will review the proposed transaction and take such action as it sees fit, including, if necessary, formal approval by the Board.
Pre-Approval Policies and Procedures
Consistent with the SEC requirements
regarding auditor independence, our Board of Directors must pre-approve all audit and permissible non-audit services provided
by our independent registered public accounting firm. Under the policy, the Board must approve non-audit services prior to the commencement
of the specified service. Our independent registered public accounting firm, RBSM LLP, have verified to our Board that they have not
performed, and will not perform any prohibited non-audit service.
ITEM 14. PRINCIPAL ACCOUTANT FEES AND SERVICES:
The following is a summary
of the fees billed to the company by its independent registered Public Accounting firm for the years ended December 31, 2022 and December
31, 2021.
| | |
2022 | | |
2021 | |
| Audit fees | |
$ | 54,000 | | |
$ | 49,500 | |
| Audit related fees | |
| - | | |
| - | |
| All other fees | |
| - | | |
| 42,500 | |
| Tax fees | |
| 6,000 | | |
| 6,000 | |
| | |
$ | 60,000 | | |
$ | 98,000 | |
Fees for audit services include
fees associated with the annual audit of the company and its subsidiaries, the review of our quarterly reports on Form 10-Q. Tax fees
include tax compliance, tax advice, research and development credits and tax planning related to federal and state tax matters.
Pre-Approval Policies and Procedures
Consistent with the SEC requirements
regarding auditor independence, our Board of Directors must pre-approve all audit and permissible non-audit services provided by our
independent registered public accounting firm. Under the policy, the Board must approve non-audit services prior to the commencement
of the specified service. Our independent registered public accounting firm, RBSM LLP, have verified to our Board that they have not
performed, and will not perform any prohibited non-audit service.
The accompanying notes are an integral part of
these consolidated financial statements
The accompanying notes are an integral part of
these consolidated financial statements
The accompanying notes are an integral part of
these consolidated financial statements
The accompanying notes are an integral part of
these consolidated financial statements
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 – ORGANIZATION OF BUSINESS, GOING CONCERN AND SUMMARY
OF SIGNFICANT ACCOUNTING POLICIES
Basis of Presentation
The consolidated financial statements include
the accounts of Applied Energetics, Inc. and its wholly owned subsidiary North Star Power Engineering, Inc. (“North Star”)
(collectively, “company,” “Applied Energetics, “we,” “our” or “us”). All intercompany
balances and transactions have been eliminated.
Going Concern
The accompanying consolidated financial statements
have been prepared on a going concern basis, which contemplates the realization of assets and satisfaction of liabilities in the normal
course of business.
For the year ended December 31, 2022, the company
incurred a net loss of $5,771,642, had negative cash flows from operations of $3,929,201 and may incur additional future losses if the
company is unable to secure significant government contracts. At December 31, 2022, the company had total current assets of $6,086,231
and total current liabilities of $756,532 resulting in working capital of $5,329,699. At December 31, 2022, the company had cash of $5,640,308.
Based on the company’s
current business plan, it believes its cash balance as of the date of this filing, together with anticipated revenues from a government
grant and contract, will be sufficient to meet its anticipated cash requirements for the near term. However, there can be no assurance
that the current business plan will be achievable. Such conditions raise substantial doubts about the company’s ability to continue
as a going concern for one year from the date the financial statements are issued.
The company’s existence
depends upon management’s ability to develop profitable operations. Management is devoting substantially all of its efforts to
developing its business and raising capital and there can be no assurance that management’s efforts will result in profitable operations
or enable it to overcome future liquidity concerns. The accompanying consolidated financial statements do not include any adjustments
relating to the recoverability of assets, the amount or classification of liabilities or otherwise that might be necessary should the
company be unable to continue as a going concern.
The ongoing COVID-19 pandemic
and pandemic-related trade conditions, such as exacerbated port congestion, supplier shutdowns and delays, contribute to this uncertainty.
Additionally, Russia’s military action in Ukraine and related economic sanctions around the globe, could impact the company’s
ability to source necessary supplies and equipment which could materially and adversely affect its ability to continue as a going concern.
In addition, the company’s ability to continue as a going concern may depend on its ability to raise capital which may be impacted
by these events, including as a result of increased market volatility, or decreased market liquidity. This may result in third-party
financing being unavailable on terms acceptable to the company or at all. The impact of this action and related sanctions on the world
economy and the specific impact on the company’s financial position and results of operations are not yet determinable. The financial
statements do not include any adjustments that might result from the outcome of this uncertainty.
To further improve its liquidity
position, the company’s management continues to explore additional equity financing through discussions with investment bankers
and private investors. There can be no assurance that the company will be successful in its effort to secure additional equity financing.
During the year ended December 31, 2022, the company received funds in the amount of $6,586,198 as part of a placement of equity. The
financial statements do not include any adjustments relating to the recoverability of assets and the amount or classification of liabilities
that might be necessary should the company be unable to continue as a going concern.
Applied Energetics, Inc.
is a corporation organized and existing under the laws of the State of Delaware. Our headquarters are located at 9070 S. Rita Road Suite
1500, Tucson, Arizona, 85747, including office and laboratory space, and our telephone number is (520) 628-7415.
APPLIED ENERGETICS
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Use of Estimates
The preparation of consolidated
financial statements in conformity with accounting principles generally accepted in the United States of America requires management
to make estimates, judgments and assumptions that affect the amounts reported in the financial statements and accompanying notes. Management
bases its assumptions on historical experiences 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. In addition, management considers the basis and methodology used in developing and selecting these estimates, the
trends in and amounts of these estimates, specific matters affecting the amount of and changes in these estimates, and any other matters
related to these estimates, including significant issues concerning accounting principles and financial statement presentation. Such
estimates and assumptions could change in the future as more information becomes known which could impact the amounts reported and disclosed
herein. Significant estimates include revenue recognition, carrying amounts of long-lived assets, valuation assumptions for share-based
payments, evaluation of debt modification accounting, effective borrowing rate determinations, analysis of fair value transferred upon
debt extinguishment, valuation and calculation of measurements of income tax assets and liabilities.
Net Loss Attributable to Common Stockholders
Basic loss per common share
is computed by dividing net loss attributable to common stockholders by the weighted average number of common shares outstanding for
the period before giving effect to stock options, stock warrants, restricted stock units and convertible securities outstanding, which
are considered to be dilutive common stock equivalents. Diluted net loss per common share is calculated based on the weighted average
number of common and potentially dilutive shares outstanding during the period after giving effect to dilutive common stock equivalents.
Contingently issuable shares are included in the computation of basic loss per share when issuance of the shares is no longer contingent.
The number of shares underlying warrants, options, restricted stock units and our Series A Convertible Preferred Stock, which were not
included in the computation of earnings per share because the effect was antidilutive, was 24,869,140 and 30,343,602 for the years ended
December 31, 2022 and 2021, respectively.
APPLIED ENERGETICS
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Fair Value of Current Assets and Liabilities
The carrying amount of accounts payable approximate
fair value due to the short maturity of these instruments.
Cash and Cash Equivalents
Cash equivalents are investments
in money market funds or securities with an initial maturity of three months or less. We maintain our cash balances at a commercial bank,
and, at times, balances exceed FDIC limits. As of December 31, 2022, $5,390,308 of our cash balance was uninsured.
Income Taxes
Deferred tax assets and liabilities
are recognized currently for the future tax consequences attributable to the temporary differences between the financial statement carrying
amounts of assets and liabilities and their respective tax basis. Deferred tax assets and liabilities are measured using enacted tax
rates in effect for the year in which those temporary differences are expected to be recovered or settled. A valuation allowance is recorded
to reduce the carrying amounts of deferred tax assets if it is more likely than not that such assets will not be realized. Our valuation
allowance is currently 100% of our assets.
We consider all available
evidence, both positive and negative, to determine whether, based on the weight of that evidence, a valuation allowance is needed for
some portion or all of a net deferred tax asset. Judgment is used in considering the relative impact of negative and positive evidence.
In arriving at these judgments, the weight given to the potential effect of negative and positive evidence is commensurate with the extent
to which it can be objectively verified. We record a valuation allowance to reduce our deferred tax assets and review the amount of such
allowance annually. When we determine certain deferred tax assets are more likely than not to be utilized, we will reduce our valuation
allowance accordingly.
Revenue Recognition
The company recognizes revenue
in accordance with ASC Topic 606 – Revenue from Contracts with Customers (“ASC 606”) to depict the transfer of control
to the company’s customers in an amount reflecting the consideration to which the company expects to be entitled. The company determines
revenue recognition through the following steps:
| i. | Identification of the contract, or contracts,
with a customer |
| ii. | Identification of the performance obligations
in the contract |
| iii. | Determination of the transaction price |
| iv. | Allocation of the transaction price
to the performance obligations in the contract |
| v. | Recognition of revenue, when, or as,
the company satisfies the performance obligations. |
The company generated revenue
from its customer by preparing a technical report. The company’s single performance obligation was to deliver the final technical
report detailing the findings of the company’s investigations. The fee for the report was fixed.
APPLIED ENERGETICS
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Share-Based Payments
Employee stock-based
compensation cost is measured at grant date, based on the fair value of the award, and is recognized as an expense over the
requisite service period. The fair value of each option grant is estimated at the date of grant using the Black Scholes-Merton
option valuation model. We make the following assumptions relative to this model: (i) the annual dividend yield is zero as we do not
pay dividends on common stock, (ii) the weighted-average expected life is based on a midpoint scenario, where the expected life is
determined to be half of the time from grant to expiration, regardless of vesting, (iii) the risk free interest rate is based on the
U.S. Treasury security rate for the expected life, and (iv) the volatility is based on the level of fluctuations in our historical
share price for a period equal to the weighted-average expected life. We estimate forfeitures when recognizing compensation expense
and adjust this estimate over the requisite service period should actual forfeitures differ from such estimates. Changes in
estimated forfeitures are recognized through a cumulative adjustment, which is recognized in the period of change, and which impacts
the amount of unamortized compensation expense to be recognized in future periods.
Significant Concentrations and Risks
We maintain cash balances
at a commercial bank, and, at times, balances exceed FDIC limits. As of December 31, 2022, $5,390,308 of our cash balance was uninsured.
NOTE 2 – NEW ACCOUNTING STANDARDS
The company has reviewed
all issued accounting pronouncements and plans to adopt those that are applicable to it. The company does not expect the adoption of
any other pronouncements to have an impact on its results of operations or financial position.
In December 2019, the FASB
issued amended guidance in the form of ASU No. 2019-12, “Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes.”
This ASU is intended to simplify various aspects of accounting for income taxes by removing certain exceptions to the general principles
in Topic 740 and clarifying certain aspects of the current guidance to promote consistency among reporting entities. ASU 2019-12 is effective
for annual periods beginning after December 15, 2020, and interim periods within those annual periods, with early adoption permitted.
An entity that elects early adoption must adopt all the amendments in the same period. Most amendments within this ASU are required to
be applied on a prospective basis, while certain amendments must be applied on a retrospective or modified retrospective basis. The company
has evaluated the impact of this new standard and notes the guidance did not have a material impact on our financial statements.
On August 5, 2020, the FASB
issued ASU No. 2020-06 which simplifies the accounting for certain financial instruments with characteristics of liabilities and equity,
including convertible instruments and contracts on an entity’s own equity. ASU 2020-06 simplifies the guidance in U.S. GAAP on
the issuer’s accounting for convertible debt instruments and preferred stock. Such guidance includes multiple disparate sets of
classification, measurement, and derecognition requirements whose interactions are complex. ASU 2020-06 is effective for annual periods
beginning after December 15, 2021, and interim periods within those annual periods, with early adoption permitted. An entity that elects
early adoption must adopt all the amendments in the same period. Most amendments within this ASU are required to be applied on a prospective
basis, while certain amendments must be applied on a retrospective or modified retrospective basis. The company adopted this standard
on January 1, 2022. The adoption of this standard did not have a material impact on the company’s financial statements.
NOTES 3 – NOTES PAYABLE
On May 24, 2019, the company
entered into an Asset Purchase Agreement (the “APA”) with Applied Optical Sciences, LLC (“AOS”) to acquire certain
assets. As consideration for the APA, the company entered into a promissory note issued to the shareholders of AOS for $2,500,000. The
note is non-interest bearing and payable in equal installments. The company made the first three payments of $500,000 on February 10,
2021, May 24, 2021, and November 19, 2021, respectively. The Promissory Note was amended on May 23, 2022, as modification of debt, to
extend the maturity date by one year to, May 24, 2023 and restructure the payment to time up to the adjusted maturity date. The remaining
balance of $1,000,000 as of June 30, 2022 is to be paid in ten equal installments of $100,000 over a period of ten months with the final
installment to be paid on April 24, 2023. In accordance with the amended terms of the promissory note, the company made six payments
of $100,000 each, for an aggregate repayment of $600,000. As of December 30, 2022, $400,000 in principle was outstanding on this loan.
APPLIED ENERGETICS
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Paycheck Protection Program
On April 28, 2020, the company
entered into a loan agreement with Alliance Bank of Arizona, N.A. for a loan in the amount of $132,760 pursuant to the Paycheck Protection
Program (the “PPP”) under the Coronavirus Aid, Relief, and Economic Security Act enacted on March 27, 2020 (the “CARES
Act”). This loan is evidenced by a promissory note, dated April 27, 2020, and matured two years from the disbursement date. This
loan bears interest at a rate of 1.00% per annum, with the first six-months ended of interest deferred. Principal and interest are payable
monthly commencing six-months ended after the disbursement date and may be prepaid by the company at any time prior to maturity with
no prepayment penalties. This loan contains customary events of default relating to, among other things, payment defaults or breaches
of the terms of the loan. Upon the occurrence of an event of default, the lender may require immediate repayment of all amounts outstanding
under the note.
Under the terms of the PPP,
up to the entire amount of principal and accrued interest may be forgiven to the extent loan proceeds are used for qualifying expenses
as described in the CARES Act and applicable implementing guidance issued by the U.S. Small Business Administration (“SBA”)
under the PPP. The company partially used the loan amount for designated qualifying expenses and received notice from the SBA on June
30, 2021, that the company would not be required to repay $81,550 in proceeds. As a result, the company received partial forgiveness
of the PPP amounting to $80,594 in principal and $956 in interest which is reflected within PPP forgiveness and other income on the statements
of operations. During the year ended December 31, 2022, the company paid the remaining balance of the loan in the aggregate of $23,553
in four equal payments, with the loan formally repaid on April 20, 2022. As a result, as of December 31, 2022, no principal or interest
was outstanding on this loan.
Premium Financing
On April 8, 2022, the company
entered into an agreement with Oakwood D&O Insurance to provide financing in an amount of $234,367 for the insurance premium associated
with two D&O policies. Both policies commenced March 12, 2022, and provided coverage for the next 12 months, expiring March 12, 2023.
The loan bears interest at a fixed rate of 5% per annum and required the company to prepay $58,932 and appears on the balance sheet as
a current asset. On April 12, 2022, the company commenced the first of nine principal and interest payments of $19,901 for an aggregate
of $175,435. In accordance with the terms of the agreement, the final payment was made on December 6, 2022, thus, as of December 31,
2022, the outstanding balance on the note was $0.
The following reconciles
notes payable as of December 31, 2022 and December 31, 2021:
| | |
December 31,
2022 | | |
December 31,
2021 | |
| Beginning balance | |
$ | 1,024,190 | | |
$ | 2,681,157 | |
| Notes payable | |
| 175,435 | | |
| 117,209 | |
| Accrued interest | |
| (636 | ) | |
| 1,385 | |
| Payments on notes payable | |
| (798,988 | ) | |
| (1,646,513 | ) |
| Extinguishment of Debt | |
| - | | |
| (81,550 | ) |
| Converted into common stock | |
| - | | |
| (47,498 | ) |
| Total | |
| 400,000 | | |
| 1,024,910 | |
| Less-Notes payable – current | |
| 400,000 | | |
| 1,024,910 | |
| Notes payable – non-current | |
$ | - | | |
$ | - | |
Future principal payments
for the company’s Notes as of December 31, 2022 are as follows:
| 2023 | |
$ | 400,000 | |
| Thereafter | |
| - | |
| Total | |
$ | 400,000 | |
The company’s note
payable balance of $400,000 is due within the next twelve months, in accordance with the terms of note payable. $400,000 of the outstanding
notes payable balance at December 31, 2022 will be paid in four equal installments of $100,000 over the next four months, with the final
installment to paid on April 24, 2023.
Subsequent to the year ended
December 31, 2022, the company entered into a $161,267 financing agreement to finance its Directors and Officers insurance premiums.
APPLIED ENERGETICS
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
NOTE 4 – DEFERRED COMPENSATION
On May 24, 2019, the company
entered into the APA with AOS to acquire certain assets. As consideration for the APA, the company entered into a promissory note issued
to the shareholders of AOS for $2,500,000. The company also recorded a debt discount, which is reported on the balance sheet as deferred
compensation, in the amount of $2,500,000 in relation to the transaction which is being amortized over the life of the loan as compensation
expense. The amortization of deferred compensation for the year ended December 31, 2022, and 2021 was $416,667 and $833,333, respectively.
As of December 31, 2022, and 2021, the remaining deferred compensation to be amortized was $0 and $416,667, respectively.
NOTE 5 – DUE TO RELATED PARTIES
It has come to the board’s
attention that on July 31, 2018, our now deceased CEO deposited $50,000 into the company’s account. Although it has been suggested
that the funds may have been intended for use toward Mr. Dearmin’s healthcare, the board does not know for certain what the purpose
of the funds were or the nature of any intended investment. Accordingly, the board is investigating the appropriate disposition of the
funds which will likely be to the estate of Mr. Dearmin. Until such a determination is made, the board does not intend to use these funds
for any corporate purpose. For reporting purposes, the company has treated the deposit as a due to related party.
NOTE 6 – STOCKHOLDERS’ DEFICIT
Authorized Capital Stock
The company’s authorized
capital stock consists of 500,000,000 shares of common stock at a par value of $.001 per share and 2,000,000 shares of preferred stock
at a par value of $.001 per share.
During the year ended December
31, 2021, the company issued 4,054,665 shares of common stock in a private placement to accredited investors for $0.75 per share or $3,041,000
of net cash proceeds, in the aggregate.
During the year ended December
31, 2021, the company issued 7,056,250 shares of common stock in a private placement to accredited investors for $0.32 per share or $2,258,000
of net cash proceeds, in the aggregate.
During the year ended December
31, 2021, the company issued 158,329 shares of common stock upon the conversion of $47,498 of convertible notes.
During the year ended December
31, 2021, the company issued 31,250 shares of common stock in relation to a restricted stock agreement with a value of $4,550.
During the year ended December
31, 2021, the company issued an aggregate of 900,000 shares of common stock upon the exercise of 900,000 warrants at an exercise price
of $0.07 a share.
During the year ended December
31, 2021, the company issued an aggregate of 750,000 shares of common stock upon the exercise of 250,000 warrants at an exercise price
of $0.06 a share.
APPLIED ENERGETICS
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
During the year ended December
31, 2021, the company issued 1,005,682 shares of common stock upon the exercise of 1,090,910 options at an exercise price of $0.05 a
share. This exercise was performed on a cashless basis.
During the year ended December
31, 2021, the company issued 259,741 shares of common stock upon the exercise of 500,000 options at an exercise price of $0.37 a share.
This exercise was performed on a cashless basis.
During the year ended December
31, 2021, the company issued 475,000 shares of common stock with an exercise of 500,000 options. 25,000 shares of common stock were withheld
with the exercise. This exercise was performed on a cashless basis.
During the year ended December
31, 2021, the company issued 482,143 shares of common stock with an exercise of 500,000 options. 17,857 shares of common stock were withheld
with the exercise. This exercise was performed on a cashless basis.
During the year ended December
31, 2021, the company issued 728,814 shares of common stock with an exercise of 750,000 options. 21,186 shares of common stock were withheld
with the exercise. This exercise was performed on a cashless basis.
During the year ended December
31, 2021, the company issued 400,158 shares of common stock with an exercise of 409,090 options. 8,932 shares of common stock were withheld
with the exercise. This exercise was performed on a cashless basis.
During the year ended December
31, 2021, the company issued 731,109 shares of common stock with an exercise of 750,000 options. 18,891 shares of common stock were withheld
with the exercise. This exercise was performed on a cashless basis.
During the year ended December
31, 2021, the company recognized stock-based compensation in the amount of $1,236,806.
During the year ended December 31, 2022, the company issued 130,417
shares of common stock for previously vested and expensed shares in relation to a restricted stock agreement. For the year ended December
31, 2022, the company recorded $0 in relation to these shares.
During the year ended December
31, 2022, the company issued 137,066 shares of common stock upon the exercise of 137,066 options at an exercise price of $0.13 a share.
As a result, the company received $17,819 in cash proceeds as part of the transaction.
During the year ended December
31, 2022, the company issued 25,000 shares of common stock upon two warrant exercises of 12,500 shares each, at an exercise price of
$0.05 a share. The company received $1,250 in cash proceeds as part of the transaction.
During the year ended December
31, 2022, the company issued 2,993,727 shares of common stock in a private placement to accredited investors for $2.20 per share or $6,586,198
of net cash proceeds, in the aggregate.
Effective August 1, 2022, the company entered into an Executive Employment
Agreement with Mr. Donaghey who was appointed the company’s Chief Financial Officer (“CFO”). As part of the Executive
Employment Agreement, the company granted 1,000,000 options to purchase shares of common stock at an exercise price of $2.36 per share.
The options vest over a period of four years and expire ten years from the date of the grant. Mr. Donaghey was also granted 400,000 shares
of restricted to units as part of his Executive Employment Agreement (see “Share-Based Payments” below). Further, Mr. Donaghey
forfeited unvested options to purchase 950,000 shares of common stock which he had previously received for his service on the company’s
Board of Advisors. The forfeiture of the unvested options resulted in the reversal of previously recorded stock-based compensation expense
in the amount of approximately $176,000.
During the year ended December
31, 2022 and 2021, the company recognized stock-based compensation in the amount of $1,776,140 and $1,236,806, respectively.
APPLIED ENERGETICS
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Preferred Stock
As of December 31, 2022,
and December 31, 2021, there were 13,602 shares of Series A Redeemable Convertible Preferred Stock (the “Series A Preferred Stock”)
issued and outstanding, respectively. The company has not paid the dividends commencing with the quarterly dividend due August 1, 2013.
Dividend arrearages as of December 31, 2022, including previously accrued dividends included in our balance sheet are approximately $331,549.
Our Board of Directors suspended the declaration of the dividend, commencing with the dividend payable as of February 1, 2015, since
we did not have a surplus (as such term is defined in the Delaware general corporation Law) as of December 31, 2014, until such time
as we have a surplus or net profits for a fiscal year.
Our Series A Preferred Stock
has a liquidation preference of $25.00 per share. The Series A Preferred Stock bears dividends at the rate of 6.5% of the liquidation
preference per share per annum, which accrues from the date of issuance, and is payable quarterly. Dividends may be paid in: (i) cash,
(ii) shares of our common stock (valued for such purpose at 95% of the weighted average of the last sales prices of our common stock
for each of the trading days in the ten trading day period ending on the third trading day prior to the applicable dividend payment date),
provided that the issuance and/or resale of all such shares of our common stock are then covered by an effective registration statement
and the company’s common stock is listed on a U.S. national securities exchange or the Nasdaq Stock Market at the time of issuance
or (iii) any combination of the foregoing. If the company fails to make a dividend payment within five business days following a dividend
payment date, the dividend rate shall immediately and automatically increase by 1% from 6.5% of the liquidation preference per offered
share of Series A preferred stock to 7.5% of such liquidation preference. If a payment default shall occur on two consecutive dividend
payment dates, the dividend rate shall immediately and automatically increase to 10% of the liquidation preference for as long as such
payment default continues and shall immediately and automatically return to the initial dividend rate at such time as the payment default
is no longer continuing.
Each share of Series A Preferred
Stock is convertible at any time at the option of the holder into a number of shares of common stock equal to the liquidation preference
(plus any unpaid dividends for periods prior to the dividend payment date immediately preceding the date of conversion by the holder)
divided by the conversion price (initially $12.00 per share, subject to adjustment in the event of a stock dividend or split, reorganization,
recapitalization or similar event). If the closing sale price of the common stock is greater than 140% of the conversion price on 20
out of 30 trading days, the company may redeem the Series A Preferred Stock in whole or in part at any time through October 31, 2010,
upon at least 30 days’ notice, at a redemption price, payable in cash, equal to 100% of the liquidation preference of the shares
to be redeemed, plus unpaid dividends thereon to, but excluding, the redemption date, subject to certain conditions. In addition, beginning
November 1, 2010, the company may redeem the Series A Preferred Stock in whole or in part, upon at least 30 days’ notice, at a
redemption price, payable in cash, equal to 100% of the liquidation preference of the Series A Preferred Stock to be redeemed, plus unpaid
dividends thereon to, but excluding, the redemption date, under certain conditions.
If a change of control occurs,
each holder of shares of Series A Convertible Preferred Stock that are outstanding immediately prior to the change of control shall have
the right to require the corporation to purchase, out of legally available funds, any outstanding shares of Series A Convertible Preferred
Stock at the defined purchase price. The purchase price is defined as: per share of Preferred Stock, 101% of the liquidation preference
thereof, plus all unpaid and accumulated dividends, if any, to the date of purchase thereof. The purchase price is payable, at the corporation’s
option, (x) in cash, (y) in shares of the common stock at a discount of 5% from the fair market value of Common Stock on the Purchase
Date (i.e. valued at a 95% discount of the Common Stock on the Purchase Date), or (z) any combination thereof.
If the Corporation pays all
or a portion of the Purchase Price in Common Stock, no fractional shares of Common Stock will be issued; instead, the company will round
the applicable number of shares of Common Stock up to the nearest whole number of shares; provided that the Corporation may pay the Purchase
Price (or a portion thereof), whether in cash or in shares of Common Stock, only if the Corporation has funds legally available for such
payment and may pay the Purchase Price (or a portion thereof) in shares of its Common Stock only if (i) the Common Stock is listed on
a U.S. national securities exchange or the Nasdaq Stock Market at the time of issuance and (ii) a shelf registration statement covering
the issuance by the Corporation and/or resales of the Common Stock issuable as payment of the Purchase Price is effective on the Payment
Date unless such shares are eligible for immediate resale in the public market by non-affiliates of the Corporation.
APPLIED ENERGETICS
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Stock Option and Stock Issuance Plan
Effective November 12, 2018,
the Board of Directors of Applied Energetics, Inc. adopted the 2018 Incentive Stock Plan. The plan provides for the allocation and issuance
of options (both incentive stock options and non-qualified stock options) to officers, directors, employees and consultants of the company.
The board reserved a total of 50,000,000 shares for possible issuance under the plan.
We have, from time to time,
also granted non-plan shares, restricted stock units and options to certain officers, directors, employees and consultants. Total stock-based
compensation expense for grants to officers, employees and consultants was $1,776,140 and $1,236,806 for the year ended December 31,
2022, and 2021, respectively, which was charged to general and administrative expense.
Stock-based compensation
for the year ended December 31, 2022, was comprised of 140,000 shares under a restricted stock agreement the company entered into in
May of 2021. The restricted stock awards were valued at $84,000 of which the full $84,000 was recognized as of December 31, 2022. The
shares vest annually over two years with the first installment one year from the agreement; provided, however, if either party terminates
the agreement at any time prior to the last date of it ending, then the shares will vest, pro rata, for each month served since the most
recent prior annual vesting date.
The $1,776,140 stock-based
compensation for the year ended December 31, 2022, was comprised of $1,250,641 option expense, $302,499 expense from the vesting of the
restricted stock and $223,000 was the amortization of 5,000,000 shares of stock valued at $0.4014 over three years for the acquisition
of assets of Applied Optical Sciences.
The company recognized no
related income tax benefit because our deferred tax assets are fully offset by a valuation allowance.
Stock Options
We determine the fair value
of option grant share-based awards at their grant date, using a Black-Scholes- Merton Option Pricing Model.
As of December 31, 2022, the
company has $3,510,391 of unrecognized compensation cost related to unvested stock options granted and outstanding, net of estimated forfeitures.
The cost is expected to be recognized on a weighted average basis over a period of approximately six years.
The following table summarizes
the activity of our stock options for the years ended December 31, 2022 and 2021:
| | |
Shares | | |
Weighted
Average
Exercise
Price | | |
Weighted
Average
Contractual
Term
Outstanding | | |
Intrinsic
Value | |
| Outstanding at January 1, 2021 | |
| 32,000,000 | | |
$ | 0.1419 | | |
| 5.60 | | |
$ | 6,054,000 | |
| Granted | |
| 1,915,000 | | |
| 0.7806 | | |
| | | |
| | |
| Exercised | |
| (4,500,000 | ) | |
| 0.0856 | | |
| | | |
| | |
| Forfeited or expired | |
| (1,000,000 | ) | |
| 0.3700 | | |
| | | |
| | |
| Outstanding at December 31, 2021 | |
| 28,415,000 | | |
$ | 0.1859 | | |
| 5.84 | | |
$ | 60,640,900 | |
| Granted | |
| 2,520,451 | | |
| 2.3745 | | |
| | | |
| 17,358,678 | |
| Exercised | |
| (137,066 | ) | |
| (0.1300 | ) | |
| | | |
| (1,287,274 | ) |
| Forfeited or expired | |
| (7,950,000 | ) | |
| - | | |
| | | |
| (73,629,987 | ) |
| Outstanding at December 31, 2022 | |
| 22,848,385 | | |
$ | 0.3666 | | |
| 6.42 | | |
$ | 203,236,473 | |
| | |
| | | |
| | | |
| | | |
| | |
| Outstanding and exercisable at December 31, 2022 | |
| 20,476,821 | | |
$ | 0.1880 | | |
| 7.17 | | |
$ | 185,798,980 | |
We determine the fair value
of option grant share-based awards at their grant date, using a Black-Scholes- Merton
APPLIED ENERGETICS
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Option Pricing Model applying
the assumptions in the following table:
| | |
Years Ended
December 31, | |
| Assumptions: | |
2022 | | |
2021 | |
| Risk-free interest rate | |
| 0.08-4.45 | % | |
| 0.05-0.07 | % |
| Expected dividend yield | |
| 0 | % | |
| 0 | % |
| Expected volatility | |
| 126.33 | % | |
| 128-130 | % |
| Expected life (in years) | |
| 5 | | |
| 2-3 | |
Restricted Stock
Stock-based compensation for
the year ended December 31, 2022, was comprised of 140,000 shares under a restricted stock agreement the company entered into in May of
2021. The restricted stock awards were valued at $84,000 of which $15,355 was recognized in 2022. The shares vest annually over two
years with the first installment one year from the agreement; provide, however, if either party terminates the agreement at any time prior
to the last date of it ending, then the shares will best, pro rata, for each month served since the most recent prior annual vesting date
As part of his Executive
Employment Agreement dated July 13, 2022 the company granted 400,000 shares issued as restricted stock units to the Chief Financial Officer.
The restricted stock units were valued at $928,000 of which $109,176 was recognized as of December 31, 2022. The shares vest in equal
annual installments over four years. If either party terminates the agreement at any time prior to the last date of it ending, then the
shares will vest, pro rata, for each month served since the most recent prior annual vesting date. The Restricted Stock Units are issued
pursuant to a Restricted Stock Unit Agreement, dated as of July 13, 2022.
As part of his amended Executive
Employment Agreement dated November 29, 2022 the company granted 1,954,545 shares issued as restricted stock units to the Chief Executive
Officer. The restricted stock units were valued at $3,850,454 of which $86,912 was recognized as of December 31, 2022. The shares vest
in equal annual installments over four years. If either party terminates the agreement at any time prior to the last date of it ending,
then the shares will vest, pro rata, for each month served since the most recent prior annual vesting date. The Restricted Stock Units
are issued pursuant to a Restricted Stock Unit Agreement, dated as of November 29, 2022.
Additionally, Stock-based
compensation for the years ended December 31, 2022, was comprised of an aggregate of 250,000 shares issued pursuant to the restricted
stock unit agreements, dated July 13, 2022. The restricted stock units were valued at $580,000 of which $90,939 was recognized as of December
31, 2022. The shares vest with 25% being vested at the end of year one and two respectively, with the remaining 50% being expensed at
the end of year three. If either party terminates the agreement at any time prior to the last date of it ending, then the shares will
vest, pro rata, for each month served since the most recent prior annual vesting date.
As of December 31, 2022, the
company has $5,071,427 of unrecognized compensation cost related to unvested restricted stock options granted and outstanding.
The fair value of restricted
stock and restricted stock units was estimated using the closing price of our common stock on the date of award and fully recognized
upon vesting. Restricted stock activity for the years ended December 31, 2022 and 2021, was as follows:
| | |
Restricted Stock Outstanding | |
| | |
Shares | | |
Weighted
Average
Fair Value
per Share at
Grant Date | |
| Outstanding at January 1, 2021 | |
| 75,000 | | |
$ | 0.35 | |
| Granted – restricted stock units and awards | |
| 140,000 | | |
| 0.61 | |
| Granted – performance – based stock units | |
| - | | |
| - | |
| Canceled | |
| - | | |
| - | |
| Vested and converted to shares | |
| - | | |
| - | |
| Outstanding at December 31, 2021 | |
| 215,000 | | |
$ | 0.52 | |
| Granted – restricted stock units and awards | |
| 2,604,545 | | |
| 2.06 | |
| Granted – performance – based stock units | |
| - | | |
| - | |
| Canceled | |
| - | | |
| - | |
| Vested and converted to shares | |
| - | | |
| - | |
| Outstanding at December 31, 2022 | |
| 2,819,545 | | |
$ | 1.9396 | |
APPLIED ENERGETICS
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Warrants
The following table summarizes
the activity of our warrants for the years ended December 31, 2022 and 2021:
| | |
Warrant Activity | | |
| |
| | |
Shares | | |
Weighted
Average
Exercise
Price | | |
Weighted
Average
Remaining
Contractual
Term
(years) | |
| Outstanding at January 1, 2021 | |
| 3,550,000 | | |
$ | 0.0627 | | |
| 6.17 | |
| Granted | |
| - | | |
| - | | |
| - | |
| Exercised | |
| (1,650,000 | ) | |
| 0.0652 | | |
| - | |
| Forfeited or expired | |
| (125,000 | ) | |
| 0.0599 | | |
| - | |
| Outstanding at December 31, 2021 | |
| 1,775,000 | | |
| 0.0599 | | |
| 7.43 | |
| Granted | |
| - | | |
| - | | |
| - | |
| Exercised | |
| (25,000 | ) | |
| 0.0500 | | |
| - | |
| Forfeited or expired | |
| - | | |
| - | | |
| - | |
| Outstanding at December 31, 2022 | |
| 1,750,000 | | |
$ | 0.0600 | | |
| 6.53 | |
| | |
| | | |
| | | |
| | |
| Outstanding and exercisable at December 31, 2022 | |
| 1,750,000 | | |
$ | 0.0600 | | |
| 6.53 | |
APPLIED ENERGETICS
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
NOTE 7 – REVENUE RECOGNITION
The company derives revenue from technical research detailing the findings
of its investigations to its customers under contract for specific projects. Under Topic 606, revenue is recognized when control of promised
goods and services is transferred to customers, and the amount of revenue recognized reflects the consideration to which an entity expects
to be entitled in exchange for the goods and services transferred. A performance obligation is a contractual promise to transfer a distinct
good or service to the customer and is the unit of account under Topic 606. The transaction price of a contract is allocated to distinct
performance obligations and recognized as revenue when or as the performance obligations are satisfied. The company’s contracts
require significant integrated services and are accounted for as a single performance obligation, and revenue is recognized by the company
over the contract term at a fixed contract price.
Concentrations
During
the year ended December 31, 2022, the company earned revenue from two contracts with two separate customers. One customer accounted for
$1,135,584 or 87% of revenue recognized during the period. As of December 31, 2022. The company has $353,149 of accounts receivable recorded
as current assets on the balance sheet. As of December 31, 2022, one customer accounted for $324,452 or 92% of accounts receivable. The
company had no revenue during the year ended, December 31, 2021.
NOTE 8 – COMMITEMENTS AND CONTINGENCIES
Operating Leases
In March 2021, the company
signed a five-year lease for a 13,000 square foot laboratory/office space in Tucson. The initial base rent was $6.7626 per rentable square
foot for year one and escalated to $9.2009 per rentable square foot in year two. It is to further escalate to $11.4806 per rentable square
foot in year three, $13.1740 per rentable square foot in year four and $14.9306 per rentable square foot in year five, in addition to
certain operating expenses and taxes.
The company incurred lease
expense for its operating leases of $148,526 which was included in general and administrative expenses in the statements of operation
for the year ended December 31, 2022. During the year ended December 31, 2022, the company made cash lease payments in the amount of
$112,613.
At December 31, 2022, we
had approximately $143,000 in future minimum lease payments due in less than a year. The below table presents the future minimum lease
payments due reconciled to lease liabilities.
| | |
Operating
Lease | |
| For the fiscal years ending December 31, 2022: | |
$ | | |
| 2023 | |
| 143,325 | |
| 2024 | |
| 168,577 | |
| 2025 | |
| 191,778 | |
| 2026 | |
| 66,536 | |
| Thereafter | |
| - | |
| Total undiscounted lease payments | |
| 570,216 | |
| Present value discount, less interest | |
| 63,029 | |
| Lease Liability | |
$ | 507,187 | |
Guarantees
The company agrees to indemnify
its officers and directors for certain events or occurrences arising as a result of the officers or directors serving in such capacity.
The maximum amount of future payments that the company could be required to make under these indemnification agreements is unlimited.
However, the company maintains a director’s and officer’s liability insurance policy that limits its exposure and enables
it to recover a portion of any future amounts paid. As a result, it believes the estimated fair value of these indemnification agreements
is minimal because of its insurance coverage, and it has not recognized any liabilities for these agreements as of December 31, 2022
and 2021.
APPLIED ENERGETICS
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Litigation
On July 3, 2019, Gusrae,
Kaplan & Nusbaum and its partner, Ryan Whalen filed a complaint in the United States District Court for the Southern District of
New York against the company, its directors, officers, attorneys and a consultant. The action alleged libel, securities fraud and related
claims. The company filed a motion to dismiss the complaint on October 24, 2019. On December 13, 2019, Gusrae Kaplan and Mr. Whalen filed
an opposition to the company’s motion. On January 10, 2020, the company filed a reply brief. On August 5, 2021, the plaintiffs
filed a Notice of Voluntary Dismissal of the action without prejudice.
On January 15, 2021, the
company filed a complaint in the United States District Court, Southern District of New York, against Gusrae, Kaplan & Nusbaum and
Ryan Whalen for malpractice and breach of New York Rules of Professional Conduct by both parties as former counsel to the company. On
May 28, 2021, Gusrae, Kaplan & Nusbaum and Mr. Whalen filed a motion to dismiss the complaint. On June 25, 2021, the company filed
an opposition to the motion. On July 13, 2021, Gusrae Kaplan & Nusbaum and Mr. Whalen filed their reply brief. On March 30, 2022,
United States Magistrate Judge Debra Freeman signed an order denying the motion of GKN and Mr. Whalen to dismiss the company’s
claim for malpractice and for rescission of the shares-for-fees agreement under which GKN and Whalen received shares of the company’s
common stock. The motion was partially granted as to the separate claim for violation of NYRPC 1.7 and 1.8 because the court found that
it was duplicative of the malpractice claim. The parties are currently engaged in discovery. No trial date has been set.
On September 7, 2021, Gusrae
Kaplan & Nusbaum and its partner Ryan Whalen filed a complaint in the New York Supreme Court against the company, its directors,
officers, attorneys and a consultant, alleging a single claim for defamation per se based on the same conduct underlying their claim
of libel in their voluntarily dismissed federal court action. The company filed a motion to dismiss the complaint on October 29, 2021,
to which Gusrae Kaplan & Nusbaum and Mr. Whalen filed an opposition on January 13, 2022, and the company filed its reply brief on
February 17, 2022.
On
May 23, 2022, the New York Supreme Court held a hearing on the motion to dismiss, and Judge Hagler ruled from the bench, granting all
defendants’, including Applied Energetics’, motions to dismiss the claim, in its entirety, with prejudice. While he noted
that defendants’ arguments regarding the claim being time-barred and the court lacking personal jurisdiction over certain defendants
may have merit, he elected not to rule on those issues as he believed it appropriate to reach the merits. The judge declined to award
sanctions requested by the defendants in this claim. The plaintiffs filed a notice of intent to appeal the dismissal but did not file
their actual appeal brief The plaintiffs have filed a notice of intent to appeal this dismissal but did not file their actual appeal
brief within the required time.
As with any litigation, the
company cannot predict the outcome with certainty, but the company expects to provide further updates on the status of the litigation
as circumstances warrant.
We may, from time to time,
be involved in legal proceedings arising from the normal course of business.
APPLIED ENERGETICS
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
NOTE 9 – INCOME TAXES
An analysis of the difference
between the expected federal income tax for the years ended December 31, 2022, and 2021, and the effective income tax rate is as follows:
| Noncurrent deferred tax assets (liabilities): | |
2022 | | |
2021 | |
| Deferred Tax Assets | |
| | |
| |
| | |
| | |
| |
| Accrued Compensation | |
$ | 1,999,477 | | |
$ | 1,895,848 | |
| Fixed Assets and intangibles | |
| (162,853 | ) | |
| (114,167 | ) |
| Net Operating Loss Carryforwards and Credits | |
| 13,457,207 | | |
| 15,070,176 | |
| Total Deferred Tax Assets | |
$ | 15,293,832 | | |
$ | 16,851,857 | |
| | |
| | | |
| | |
| Valuation Allowance | |
| (15,293,832 | ) | |
| (16,851,857 | ) |
| | |
| | | |
| | |
| Net deferred tax / (liabilities) | |
$ | - | | |
$ | - | |
Tax effects of temporary differences at December
31, 2022 and December 31, 2021 are as follows:
| | |
2022 | | |
2021 | |
| Taxes calculated at federal rate | |
$ | (1,212,045 | ) | |
| 21.0 | % | |
$ | (1,139,345 | ) | |
| 21.0 | % |
| State income tax, net of federal benefit | |
| (202,970 | ) | |
| 3.5 | % | |
| (195,688 | ) | |
| 3.6 | % |
| Change in Valuation Allowance | |
| (1,558,025 | ) | |
| 27.0 | % | |
| 1,163,011 | | |
| -21.4 | % |
| Expiration of tax attributes | |
| 2,973,040 | | |
| -51.5 | % | |
| 139,331 | | |
| -2.6 | % |
| Prior period adjustment | |
| - | | |
| 0.0 | % | |
| 48,152 | | |
| -0.9 | % |
| Permanent Items | |
| - | | |
| 0.0 | % | |
| (15,460 | ) | |
| 0.3 | % |
| Provision (benefit) for taxes | |
$ | - | | |
| 0.0 | % | |
$ | - | | |
| 0.0 | % |
Deferred tax assets and liabilities are computed by applying the federal
and state income tax rates in effect to the gross amounts of temporary differences and other tax attributes, such as net operating loss
carry-forwards. In assessing if the deferred tax assets will be realized, the company considers whether it is more likely than not that
some or all of these deferred tax assets will be realized. The ultimate realization of deferred tax assets is dependent upon the generation
of future taxable income during the period in which these deductible temporary differences reverse. During the year ended December 31,
2022, the deferred tax assets and the valuation allowance increased by $1,558,025 mainly as a result of current year tax loss.
As of December 31, 2022,
we have cumulative federal and Arizona net operating loss carryforwards of approximately $59.7 million and $15.0 million, respectively,
which can be used to offset future income subject to taxes. Of the $59.7 million, of Federal net operating loss carryforwards, $44.9
begin to expire in 2022. The remaining balance of $14.8 million is limited in annual usage of 80% of current years taxable income but
do not have an expiration. Arizona net operating loss carryforwards begin to expire in 2022. In addition there are federal net operating
loss carryforwards is approximately $27.0 million from USHG related to pre-merger losses. We also have pre-merger federal capital loss
carryforwards of approximately $520,000.
As of December 31, 2022,
we had cumulative unused research and development tax credits of approximately $239,000 and $122,000, which can be used to reduce
future federal and Arizona income taxes, respectively. As of December 31, 2022, we have cumulative unused federal minimum tax credit
carryforwards from USHG of approximately $244,000. The federal minimum tax credit carryforwards are not subject to expiration under
current federal tax law. Utilization of our USHG pre-merger net operating loss carryforwards and tax credits is subject to
substantial annual limitations due to the ownership change limitations provided by the Internal Revenue Code and similar state
provisions. Such an annual limitation could result in the expiration of the net operating loss carryforwards and tax credit
carryforwards before utilization.
APPLIED ENERGETICS
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
We have unrecognized tax
benefits attributable to losses and minimum tax credit carryforwards that were incurred by USHG prior to the merger in March 2004 as
follows:
| Balance at December 31, 2020 | |
$ | 9,635,824 | |
| Additions related to prior year tax provisions | |
| - | |
| Additions related to current year tax provisions | |
| - | |
| Reductions related to prior year tax positions and settlements | |
| - | |
| Balance at December 31, 2021 | |
$ | 9,635,824 | |
| Additions related to prior year tax provisions | |
| - | |
| Additions related to current year tax provisions | |
| - | |
| Reductions related to prior year tax positions and settlements | |
| - | |
| Balance at December 31, 2022 | |
$ | 9,635,824 | |
These benefits are not recognized
as a result of uncertainty regarding the utilization of the loss carryforwards and minimum tax credits. If in the future we utilize the
attributes and resolve the uncertainty in our favor, the full amount will favorably impact our effective income tax rate.
The company considers the
U.S. and Arizona to be major tax jurisdictions. As of December 31, 2022, for federal tax purposes the tax years 2020-2022 and for Arizona
the tax years 2017 through 2022 remain open to examination. The company currently does not expect any material changes to unrecognized
tax positions within the next twelve months.
We recognize interest and
penalties related to unrecognized tax benefits in income tax expense. As of December 31, 2022, and 2021, we had no accrued interest or
penalties related to our unrecognized tax benefits.
NOTE 10 – SUBSEQUENT EVENTS
The company’s management
has evaluated subsequent events occurring after December 31, 2022, the date of our most recent balance sheet, through the date our financial
statements were issued.
Premium Financing
Subsequent to the year ended
December 31, 2022, the company entered into a $161,267 financing agreement to finance its Directors and Officers insurance premiums.
Common Stock
Subsequent to the year ended
December 31, 2022, the company issued 100,000 shares of common stock upon the exercise of 100,000 options at an exercise price of $0.70
a share. As a result, the company received $7,000 in cash proceeds as part of the transaction.
Subsequent to the year ended
December 31, 2022, the company issued 75,000 shares of common stock upon the exercise of 75,000 options at an exercise price of $0.13
a share. As a result, the company received $9,750 in cash proceeds as part of the transaction.
Subsequent to the year ended
December 31, 2022, the company issued 9,584 shares of common stock for services rendered pursuant to board of advisor’s agreement.
Subsequent to the year ended
December 31, 2022, the company issued restricted stock units covering 940,909 shares for services rendered pursuant to an amendment to
a master services agreement with a consultant.
Subsequent to the year ended
December 31, 2022, the company issued incentive stock options to purchase up to 312,500 shares of common stock, at an exercise price of
$2.05, to one new employee.
Subsequent to the year ended
December 31, 2022, the company issued incentive stock options to purchase up to 100,000 shares of common stock, at an exercise price of
$2.20, to two new employees.
Subsequent to the year ended
December 31, 2022, the company issued incentive stock options to purchase up to 100,000 shares of common stock, at an exercise price of
$2.25, to one new employee. In addition, the company issued restricted stock units covering 35,000 shares for services rendered pursuant
to an employment agreement.
Related Party
In January 2023, the company
made a $25,000 tax-deductible donation to Silicon Valley Defense Group (SVDG), a 501(c)(3) organization of which Christopher Donaghey,
our Chief Financial and Operating Officer, is a founder and member of the Board of Directors. As its objective, SVDG “seeks to align
and connect the people, capital, and ideas that will ensure allied democracies retain a durable techno-security advantage.”
F-21
APPLIED ENERGETICS, INC.
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