DEFSEC Technologies Inc 6-K, filed Aug 15, 2023
DEFSEC Technologies Inc. (DFSC)
About this 6-K
DEFSEC Technologies Inc filed this 6-K on August 15, 2023.
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 6-K
REPORT OF FOREIGN PRIVATE ISSUER PURSUANT TO RULE 13a-16 OR 15d-16
UNDER THE SECURITIES EXCHANGE ACT OF 1934
For the month of August, 2023.
Commission File Number: 001-41566
KWESST Micro Systems Inc.
(Exact Name of Registrant as Specified in Charter)
155 Terence Matthews Crescent, Unit #1, Ottawa, Ontario, K2M 2A8
(Address of principal executive offices)
Indicate by check mark whether the registrant files or will file annual reports under cover Form 20-F or Form 40-F.
Form 20-F ⊠ Form 40-F □
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
| KWESST MICRO SYSTEMS INC. | ||
| (Registrant) | ||
| Date: August 15, 2023 | By: | /s/ Sean Homuth |
| Name: | Sean Homuth | |
| Title: | Chief Financial Officer | |
EXHIBIT INDEX
Condensed Consolidated Interim Financial Statements of
KWESST MICRO SYSTEMS INC.
Three and nine months ended June 30, 2023, and 2022
(Unaudited - Expressed in Canadian dollars)
KWESST MICRO SYSTEMS INC.
Table of contents for the three and nine months ended June 30, 2023, and 2022
| KWESST MICRO SYSTEMS INC. Condensed Consolidated Interim Statements of Financial Position At June 30, 2023 and September 30, 2022 (Unaudited) |
| In Canadian dollars | Notes | June 30, 2023 |
September 30, 2022 |
||||||
| ASSETS | |||||||||
| Cash and cash equivalents | $ | 1,759,688 | $ | 170,545 | |||||
| Restricted short-term investment | 30,000 | 30,000 | |||||||
| Trade and other receivables | 5 | 298,058 | 171,882 | ||||||
| Inventories | 6 | 1,590,987 | 393,538 | ||||||
| Prepaid expenses and other | 1,251,143 | 122,166 | |||||||
| Deferred share offering costs | 36,733 | 628,262 | |||||||
| Current assets | 4,966,609 | 1,516,393 | |||||||
| Property and equipment | 769,604 | 832,481 | |||||||
| Right-of-use assets | 251,885 | 208,131 | |||||||
| Deposit | 25,434 | 23,604 | |||||||
| Intangible assets | 7 | 4,986,583 | 4,742,854 | ||||||
| Non-current assets | 6,033,506 | 5,807,070 | |||||||
| Total Assets | $ | 11,000,115 | $ | 7,323,463 | |||||
| LIABILITIES AND SHAREHOLDERS' EQUITY | |||||||||
| Liabilities | |||||||||
| Accounts payable and accrued liabilities | 8 and 9 | $ | 2,460,099 | $ | 4,459,481 | ||||
| Accrued royalties liability | 150,000 | 150,000 | |||||||
| Lease obligations | 95,419 | 69,150 | |||||||
| Borrowings | 10 | - | 2,199,978 | ||||||
| Contract liabilities | 11 | 328,678 | 47,271 | ||||||
| Warrant liabilities | 12 and 13(b) | 3,027,148 | - | ||||||
| Current liabilities | 6,061,344 | 6,925,880 | |||||||
| Accrued royalties liability | 1,094,206 | 1,115,207 | |||||||
| Lease obligations | 216,069 | 206,471 | |||||||
| Borrowings | 10 | - | 78,796 | ||||||
| Non-current liabilities | 1,310,275 | 1,400,474 | |||||||
| Total Liabilities | 7,371,619 | 8,326,354 | |||||||
| Shareholders' Equity (Deficit) | |||||||||
| Share capital | 13(a) | 30,950,307 | 19,496,640 | ||||||
| Warrants | 13(b) | 2,089,388 | 1,959,796 | ||||||
| Contributed surplus | 13(c) | 3,460,772 | 3,551,330 | ||||||
| Accumulated other comprehensive loss | (75,281 | ) | (101,418 | ) | |||||
| Accumulated deficit | (32,796,690 | ) | (25,909,239 | ) | |||||
| Total Shareholders' Equity (Deficit) | 3,628,496 | (1,002,891 | ) | ||||||
| Total Liabilities and Shareholders' Equity (Deficit) | $ | 11,000,115 | $ | 7,323,463 |
See Note 2(a) Going concern and Note 19 Commitments and contingencies.
See accompanying notes to the unaudited condensed consolidated interim financial statements.
On behalf of the Board of Directors:
| (signed) John McCoach, Director | (signed) David Luxton, Director |
| KWESST MICRO SYSTEMS INC. Condensed Consolidated Interim Statements of Net Loss and Comprehensive Loss Three and nine months ended June 30, 2023 and 2022 (Unaudited) |
| In Canadian dollars | Notes | Three Months Ended June 30, 2023 |
Three Months Ended June 30, 2022 |
Nine Months Ended June 30, 2023 |
Nine Months Ended June 30, 2022 |
||||||||||
| Revenue | 15 | $ | 150,269 | $ | 282,432 | $ | 629,005 | $ | 466,148 | ||||||
| Cost of sales | (113,471 | ) | (238,350 | ) | (381,689 | ) | (405,841 | ) | |||||||
| Gross profit | 36,798 | 44,082 | 247,316 | 60,307 | |||||||||||
| Operating expenses | |||||||||||||||
| General and administrative | 1,802,054 | 1,322,730 | 4,446,512 | 3,410,887 | |||||||||||
| Selling and marketing | 731,543 | 851,705 | 2,338,646 | 2,931,460 | |||||||||||
| Research and development, net | 457,028 | 350,689 | 1,026,537 | 1,610,445 | |||||||||||
| Total operating expenses | 2,990,625 | 2,525,124 | 7,811,695 | 7,952,792 | |||||||||||
| Operating loss | (2,953,827 | ) | (2,481,042 | ) | (7,564,379 | ) | (7,892,485 | ) | |||||||
| Other income (expenses) | |||||||||||||||
| Share issuance costs | - | - | (1,309,545 | ) | - | ||||||||||
| Net finance costs | 16 | (40,826 | ) | (184,177 | ) | (595,510 | ) | (304,298 | ) | ||||||
| Foreign exchange gain (loss) | 24,332 | 22,901 | (125,708 | ) | 22,602 | ||||||||||
| Change in fair value of warrant liabilities | 12 | (481,704 | ) | - | 2,707,691 | - | |||||||||
| Loss on disposals | - | - | - | (1,165 | ) | ||||||||||
| Gain on acquisition | - | 41,869 | - | 41,869 | |||||||||||
| Total other income (expenses), net | (498,198 | ) | (119,407 | ) | 676,928 | (240,992 | ) | ||||||||
| Net loss | $ | (3,452,025 | ) | $ | (2,600,449 | ) | $ | (6,887,451 | ) | $ | (8,133,477 | ) | |||
| Other comprehensive income: | |||||||||||||||
| Items that are or may be reclassified subsequently to profit or loss: | |||||||||||||||
| Foreign currency translation differences | 4,713 | (34,171 | ) | 26,137 | (19,132 | ) | |||||||||
| Total comprehensive loss | $ | (3,447,312 | ) | $ | (2,634,620 | ) | $ | (6,861,314 | ) | $ | (8,152,609 | ) | |||
| Net loss per share | |||||||||||||||
| Basic and diluted | $ | (0.81 | ) | $ | (3.50 | ) | $ | (2.04 | ) | $ | (11.32 | ) | |||
| Weighted average number of shares outstanding | |||||||||||||||
| Basic and diluted | 14 | 4,272,663 | 742,697 | 3,374,705 | 718,400 |
| KWESST MICRO SYSTEMS INC. Condensed Consolidated Interim Statements of Changes in Shareholders' Equity (Deficit) Nine months ended June 30, 2023, and 2022 (Unaudited) |
| In Canadian dollars | ||||||||||||||||||||||||
| Notes | Share capital | Contingent shares |
Warrants | Contributed surplus |
Translation reserve |
Deficit | Total Shareholders' Equity (Deficit) |
|||||||||||||||||
| Balance, September 30, 2021 | $ | 17,215,068 | $ | - | $ | 1,848,389 | $ | 2,458,211 | $ | (8,991 | ) | $ | (15,388,949 | ) | $ | 6,123,728 | ||||||||
| Shares issued to settle debt | 19,000 | - | - | - | - | - | 19,000 | |||||||||||||||||
| Shares and warrants issued on acquisition | 4 | 377,503 | 83,319 | 132,000 | - | - | - | 592,822 | ||||||||||||||||
| Contingent shares converted to common shares | 4 | 83,319 | - 83,319 | - | - | - | - | - | ||||||||||||||||
| Warrants exercised | 277,098 | - | (61,173 | ) | - | - | - | 215,925 | ||||||||||||||||
| Warrants expired | - | - | (17,161 | ) | 17,161 | - | - | - | ||||||||||||||||
| Share-based compensation | 13(c) | - | - | - | 1,875,392 | - | - | 1,875,392 | ||||||||||||||||
| Shares for vested RSUs and PSUs | 854,181 | - | - | (854,181 | ) | - | - | - | ||||||||||||||||
| Vested RSUs and PSUs repurchased for withholding taxes |
- | - | - | (22,815 | ) | - | - | (22,815 | ) | |||||||||||||||
| Shares issued for unsecured loans | 365,888 | - | - | - | - | - | 365,888 | |||||||||||||||||
| Share offering costs | (26,323 | ) | - | - | - | - | - | (26,323 | ) | |||||||||||||||
| Other comprehensive income | - | - | - | - | (19,132 | ) | - | (19,132 | ) | |||||||||||||||
| Net loss | - | - | - | - | - | (8,133,477 | ) | (8,133,477 | ) | |||||||||||||||
| Balance, June 30, 2022 | $ | 19,165,734 | $ | - | $ | 1,902,055 | $ | 3,473,768 | $ | (28,123 | ) | $ | (23,522,426 | ) | $ | 991,008 | ||||||||
| Balance, September 30, 2022 | $ | 19,496,640 | $ | - | $ | 1,959,796 | $ | 3,551,330 | $ | (101,418 | ) | $ | (25,909,239 | ) | $ | (1,002,891 | ) | |||||||
| Shares issued for public offering | 13(a) | 13,675,120 | - | - | - | - | - | 13,675,120 | ||||||||||||||||
| Share offering costs | 13(a) | (3,050,278 | ) | - | 189,592 | 125,086 | - | - | (2,735,600 | ) | ||||||||||||||
| Shares issued for debt | 13(a) | 233,485 | - | - | - | - | - | 233,485 | ||||||||||||||||
| Options exercised | 13(c) | 5,836 | - | - | (1,789 | ) | - | - | 4,047 | |||||||||||||||
| Warrants exercised | 13(b) and 18 | 60,000 | - | (60,000 | ) | - | - | - | - | |||||||||||||||
| Share-based compensation | 13(c) | - | - | - | 316,261 | - | - | 316,261 | ||||||||||||||||
| Shares for vested RSUs and PSUs | 18 | 529,504 | - | - | (529,504 | ) | - | - | - | |||||||||||||||
| Vested RSUs and PSUs repurchased for withholding taxes |
- | - | - | (612 | ) | - | - | (612 | ) | |||||||||||||||
| Other comprehensive income | - | - | - | - | 26,137 | - | 26,137 | |||||||||||||||||
| Net loss | - | - | - | - | - | (6,887,451 | ) | (6,887,451 | ) | |||||||||||||||
| Balance, June 30, 2023 | $ | 30,950,307 | $ | - | $ | 2,089,388 | $ | 3,460,772 | $ | (75,281 | ) | $ | (32,796,690 | ) | $ | 3,628,496 |
See accompanying notes to the unaudited condensed consolidated interim financial statements.
| KWESST MICRO SYSTEMS INC. Condensed Consolidated Interim Statements of Cash Flows Nine months ended June 30, 2023, and 2022 (Unaudited) |
| In Canadian dollars | Notes | Nine months ended June 30, 2023 |
Nine months ended June 30, 2022 |
||||||
| OPERATING ACTIVITIES | |||||||||
| Net loss | $ | (6,887,451 | ) | $ | (8,133,477 | ) | |||
| Items not affecting cash: | |||||||||
| Depreciation and amortization | 609,634 | 225,308 | |||||||
| Share-based compensation | 13(c) | 316,261 | 1,875,392 | ||||||
| Change in fair value of warrant liabilities (including related foreign exchange gain) | 12 | (2,788,423 | ) | - | |||||
| Net finance costs | 16 | 621,022 | 304,298 | ||||||
| Loss on disposals | - | 1,165 | |||||||
| Gain on acquisition | 4 | - | (41,869 | ) | |||||
| Changes in non-cash working capital items | 18 | (3,091,998 | ) | 1,886,747 | |||||
| Interest paid | (125,364 | ) | (65,316 | ) | |||||
| Cash used in operating activities | (11,346,319 | ) | (3,947,752 | ) | |||||
| INVESTING ACTIVITIES | |||||||||
| Additions of property and equipment | (243,528 | ) | (172,158 | ) | |||||
| Investments in intangible assets | 7 | (598,525 | ) | (764,067 | ) | ||||
| Deposit for advanced royalties | (148,410 | ) | - | ||||||
| Recognition of open orders from acquisition | 7 | - | 159,650 | ||||||
| Cash acquired on acquisition | 4 | - | 162,547 | ||||||
| Cash flows used in investing activities | (990,463 | ) | (614,028 | ) | |||||
| FINANCING ACTIVITIES | |||||||||
| Proceeds from U.S. IPO and Canadian Offering, net | 13(a) | 16,346,768 | - | ||||||
| Payments of share offering costs | 13(a) and 18 | (125,397 | ) | (26,323 | ) | ||||
| Proceeds from borrowings | 10 | - | 2,000,000 | ||||||
| Payments of deferred financing fees | - | (74,055 | ) | ||||||
| Repayment of borrowings | (2,333,315 | ) | - | ||||||
| Repayments of lease obligations | 34,430 | (29,470 | ) | ||||||
| Proceeds from exercise of warrants | - | 215,925 | |||||||
| Proceeds from exercise of stock options | 4,052 | - | |||||||
| Repurchase of vested RSUs and PSUs for withholding taxes | (612 | ) | (22,815 | ) | |||||
| Cash flows provided by financing activities | 13,925,926 | 2,063,262 | |||||||
| Net change in cash during the period | 1,589,143 | (2,498,518 | ) | ||||||
| Cash, beginning of period | 170,545 | 2,688,105 | |||||||
| Cash, end of period | $ | 1,759,688 | $ | 189,587 | |||||
| Cash and cash equivalents consist of the following: | |||||||||
| Cash held in banks | (1,270,262 | ) | 189,587 | ||||||
| Short-term guaranteed investment certificates | 3,029,950 | - | |||||||
| Cash and cash equivalents | 1,759,688 | 189,587 |
See Note 18 Supplemental cash flow information.
See accompanying notes to the unaudited condensed consolidated interim financial statements.
| KWESST MICRO SYSTEMS INC. Notes to Condensed Consolidated Interim Financial Statements Three and nine months ended June 30, 2023, and 2022 (Expressed in Canadian dollars, except share amounts) |
1. Corporate information
a) Corporate information
KWESST Micro Systems Inc. (the "Company", "KWESST", "we", "our", and "us") was incorporated on November 28, 2017, under the laws of the Province of British Columbia. Our registered office is located at 550 Burrard Street, Suite 2900, Vancouver, British Columbia, Canada and our corporate office is located at Unit 1, 155 Terrence Matthews Crescent, Ottawa, Ontario, Canada. We have representative offices in the following foreign locations: Washington DC (United States), London (United Kingdom), and Abu Dhabi (United Arab Emirates).
We develop and commercialize next-generation technology solutions that deliver a tactical advantage for military, public safety agencies and personal defense markets. Our core mission is to protect and save lives.
KWESST's common stock is listed on the TSX-Venture Exchange ("TSX-V'') under the stock symbol of KWE, on the Nasdaq Capital Market ("Nasdaq") under the stock symbol of KWE and on the Frankfurt Stock Exchange under the stock symbol of 62U. Additionally, warrants issued in the United States are also listed on the Nasdaq under the stock symbol of KWESW. Effective May 1, 2023, the warrants issued in Canada are listed on the TSX-V under the stock symbol of KWE.WT.U.
b) Reverse Stock Split
In August 2022, we submitted a Form F-1 Registration Statement to the U.S. Securities and Exchange Commission and applied to have its common shares listed on Nasdaq. In connection with KWESST's listing application on Nasdaq, we effected a one for seventy (1-for-70) reverse stock split of its common stock on October 28, 2022 (the "Reverse Split"). Accordingly, all shareholders of record at the opening of business on October 28, 2022, received one issued and outstanding common share of KWESST in exchange for seventy outstanding common shares of KWESST. No fractional shares were issued in connection with the Reverse Split. All fractional shares created by the Reverse Split were rounded to the nearest whole number of common shares, with any fractional interest representing 0.5 or more common shares entitling holders thereof to receive one whole common share.
Effective on the date of the Reverse Split, the exercise price and number of common shares issuable upon the exercise of outstanding stock options were proportionately adjusted to reflect the Reverse Split. The restricted share units ("RSUs") and performance stock units ("PSUs") have also been adjusted for the Reverse Split. While the number of warrants has not changed as a result of the Reverse Split; the conversion rate for each warrant was adjusted from one common share to 0.01428571 common share. All information respecting outstanding common shares and other securities of KWESST, including net loss per share, in the current and comparative periods presented herein give effect to the Reverse Split.
2. Basis of preparation
(a) Going concern
These unaudited condensed consolidated interim financial statements have been prepared assuming we will continue as a going concern.
As an early-stage company, we have not yet reached commercial production for most of our products and have incurred significant losses and negative operating cash flows from inception that have primarily been funded from financing activities. We have incurred a $6.9 million net loss and negative operating cash flows of $11.3 million for the nine months ended June 30, 2023 (2022 - $8.1 million net loss and negative operating cash flows of $3.9 million). At June 30, 2023, we had negative $1.1 million in working capital (September 30, 2022 - negative $5.4 million).
| KWESST MICRO SYSTEMS INC. Notes to Condensed Consolidated Interim Financial Statements Three and nine months ended June 30, 2023, and 2022 (Expressed in Canadian dollars, except share amounts) |
Our ability to continue as a going concern and realize our assets and discharge our liabilities in the normal course of business is dependent upon closing timely additional sales orders, timely commercial launch of new products, and the ability to raise additional debt or equity financing, when required. There are various risks and uncertainties affecting our future financial position and our performance including, but not limited to:
- The market acceptance and rate of commercialization of our product offerings;
- Ability to successfully execute our business plan;
- Ability to raise additional capital at acceptable terms;
- General local and global economic conditions, including the ongoing COVID-19 pandemic and the global disruption from Russia's invasion of Ukraine.
Our strategy to mitigate these material risks and uncertainties is to execute timely a business plan aimed at continued focus on revenue growth, product development and innovation, improving overall gross profit, managing operating expenses and working capital requirements, and securing additional capital, as needed.
Failure to implement our business plan could have a material adverse effect on our financial condition and/or financial performance. There is no assurance that we will be able to raise additional capital as they are required in the future. Accordingly, there are material risks and uncertainties that may cast significant doubt about our ability to continue as a going concern.
These condensed consolidated interim financial statements do not include any adjustments to the carrying amounts and classification of assets, liabilities and reported expenses that may otherwise be required if the going concern basis was not appropriate.
(b) Statement of compliance
These unaudited condensed consolidated interim financial statements have been prepared in accordance with IAS 34, Interim Financial Reporting, ("IAS 34") as issued by the International Accounting Standards Board ("IASB"). They do not include all the information required for a complete set of financial statements prepared in accordance with International Financial Reporting Standards ("IFRS") and should be read in conjunction with our annual consolidated financial statements for the year ended September 30, 2022. However, selected explanatory notes are included to explain events and transactions that are significant to an understanding of the changes in our financial position and performance since the last annual consolidated financial statements as at and for the year ended September 30, 2022.
These unaudited condensed consolidated interim financial statements were authorized for issue by the Board of Directors on August 14, 2023.
(c) Basis of consolidation
These unaudited condensed consolidated interim financial statements incorporate the financial statements of KWESST and the entities it controls.
Control is achieved where we have the power to govern the financial and operating policies of an entity so as to obtain benefits from its activities, are exposed to, or have rights to, variable returns from our involvement with the entity and have the ability to affect those returns through its power over the entity. Subsidiaries are fully consolidated from the date on which control is transferred to us until the date on which control ceases. Profit or loss of subsidiaries acquired during the year are recognized from the date of acquisition or effective date of disposal as applicable. All intercompany transactions and balances have been eliminated.
| KWESST MICRO SYSTEMS INC. Notes to Condensed Consolidated Interim Financial Statements Three and nine months ended June 30, 2023, and 2022 (Expressed in Canadian dollars, except share amounts) |
At June 30, 2023, we have the following wholly owned subsidiaries:
| Location | Equity % | |
| KWESST Inc. | Ottawa, Canada | 100% |
| 2720178 Ontario Inc. | Bowmanville, Canada | 100% |
| Police Ordnance Company Inc. | Bowmanville, Canada | 100% |
| KWESST U.S. Holdings Inc. | Delaware, Canada | 100% |
| KWESST Defense Systems U.S. Inc. | Virginia, United States | 100% |
| KWESST Public Safety Systems U.S. Inc. | Virginia, United States | 100% |
| KWESST Public Safety Systems Canada Inc. | Ottawa, Canada | 100% |
(d) Functional and presentation currency
These financial statements are presented in Canadian dollars ("CAD"), our functional currency and presentation currency.
(e) Basis of measurement
The consolidated financial statements have been prepared on the historical cost basis except for certain financial instruments measured at fair value. Historical cost is generally based on the fair value of the consideration given in exchange for assets.
(f) Use of estimates and judgments
The preparation of the unaudited condensed consolidated interim financial statements in accordance with IFRS requires management to make judgments, estimates, and assumptions that affect the application of accounting policies and the reported amounts of assets and liabilities, income, expenses, and disclosure of contingent liabilities. Actual results may differ from these estimates.
Estimates and underlying assumptions are reviewed on an ongoing basis. Revisions to estimates are recognized prospectively.
Judgments
Information about judgments made in applying accounting policies that have the most significant effects on the amounts recognized in these consolidated financial statements are the same as disclosed in Note 2(f) of the consolidated financial statements for the year ended September 30, 2022, except for the following new item:
- Note 12 - warrant liabilities: whether the determination of our stock volatility and the expected life of the warrant liabilities are reasonable considering our limited operating history, both are significant inputs in the valuation model to fair value the warrant liabilities issued in the U.S IPO and Canadian Offering.
Estimates
Information about assumptions and estimation uncertainties at June 30, 2023, that have a significant risk of resulting in a material adjustment to the carrying amounts of assets and liabilities in the next financial year are the same as disclosed in Note 2(f) of the audited consolidated financial statements for the year ended September 30, 2022.
| KWESST MICRO SYSTEMS INC. Notes to Condensed Consolidated Interim Financial Statements Three and nine months ended June 30, 2023, and 2022 (Expressed in Canadian dollars, except share amounts) |
COVID-19 Uncertainties
There is no change to our COVID-19 assessment from the disclosure provided in Note 2(f) of the audited consolidated financial statements for the year ended September 30, 2022.
3. Significant accounting policies
During the nine months ended June 30, 2023, the accounting policies in these condensed consolidated interim financial statements are the same as those applied in KWESST's consolidated financial statements as at and for the year ended September 30, 2022.
4. Acquisition
On December 15, 2021, we acquired 2720178 Ontario Inc., an Ontario (Canada) corporation, which owns all of the issued and outstanding shares of Police Ordnance Company Inc., an Ontario (Canada) corporation (together, "Police Ordnance"), herein referred as the "Police Ordnance Acquisition". Located in Bowmanville, Ontario, with ancillary operations in Florida, Police Ordnance owns all intellectual properties to the ARWENTM product line of launchers, and a proprietary line of 37 mm cartridges designed for riot control and tactical teams. Police Ordnance has law enforcement customers across Canada, the United States, and abroad. The Police Ordnance Acquisition provides us with a strategic opportunity to leverage its law enforcement customer base to accelerate growth within its specialty ordnance business.
We accounted for the acquisition of Police Ordinance pursuant to IFRS 3, Business Combinations.
Consideration Transferred:
The purchase consideration comprised of the following:
| Number | Fair Value | |||||
| Common shares | 3,965 | $ | 377,503 | |||
| Warrants | 200,000 | $ | 132,000 | |||
| Contingent shares | 875 | $ | 83,319 | |||
| Total fair value purchase consideration | $ | 592,822 |
The warrants are exercisable at $1.72 each and will expire on December 15, 2024. As a result of the Reverse Split (see Note 1(b)), each warrant converts into 0.01428571 common share or 70 warrants to receive one common share of KWESST.
We issued the 875 contingent common shares to the sellers in April 2022 following the fulfillment of the financial milestone as defined in the share purchase agreement.
We have estimated the fair value as follows:
- Common shares: based on KWESST's closing stock price on December 15, 2021.
- Warrants: based on using the Black Scholes option model with the following key inputs: a) exercise price of $1.72, 1/70 of the underlying stock price of $1.36, risk free rate of 1.04%, expected life of three years, and expected volatility of 84.7%.
- Contingent shares: based on KWESST's closing stock price on December 15, 2021, and high probability of achieving the financial milestone as defined in the share purchase agreement.
| KWESST MICRO SYSTEMS INC. Notes to Condensed Consolidated Interim Financial Statements Three and nine months ended June 30, 2023, and 2022 (Expressed in Canadian dollars, except share amounts) |
The net cash inflow as at the closing of the acquisition was as follows:
| Cash assumed on acquisition | $ | 162,547 | |
| less: consideration paid in cash | - | ||
| Net cash inflow on acquisition | $ | 162,547 |
Net Assets Acquired:
The purchase consideration was allocated to Police Ordnance's net assets as follows:
| Total purchase consideration at fair value | $ | 592,822 | |
| Police Ordnance's net assets: | |||
| Cash | 162,547 | ||
| Trade and other receivables | 104,432 | ||
| Inventories | 352,685 | ||
| Intangible assets: | |||
| Purchase orders | 100,000 | ||
| Customer relationships | 50,000 | ||
| ARWENTM tradename | 44,000 | ||
| Accounts payable and accrued liabilities | 82,963 | ||
| Corporate tax liability | 32,338 | ||
| Contract liabilities | 29,861 | ||
| Borrowings | 26,238 | ||
| Deferred tax liabilities | 49,442 | ||
| Net assets at fair value | $ | 592,822 |
As a result of the above purchase price allocation, we have recorded no goodwill for the Police Ordnance Acquisition.
Impact on KWESST's Results of Operations:
The results of operations of Police Ordnance are included in these unaudited condensed consolidated interim statements of net loss and comprehensive loss from December 16, 2021. If the acquisition had occurred on October 1, 2021, management estimates that Police Ordnance would have contributed approximately $341,500 and $623,800 of revenue and approximately $51,600 and $2,500 of net profit to KWESST's operating results for the three and nine months ended June 30, 2022, respectively. In determining these amounts, management has assumed that the fair value adjustments that arose on the date of the acquisition would have been the same if the acquisition had occurred on October 1, 2021.
We incurred immaterial acquisition-related costs.
| KWESST MICRO SYSTEMS INC. Notes to Condensed Consolidated Interim Financial Statements Three and nine months ended June 30, 2023, and 2022 (Expressed in Canadian dollars, except share amounts) |
5. Trade and other receivables
The following table presents trade and other receivables for KWESST:
| June 30, 2023 |
September 30, 2022 |
|||||
| Trade receivables | $ | 109,965 | $ | 114,877 | ||
| Unbilled revenue | 5,211 | 8,881 | ||||
| Sales tax recoverable | 182,882 | 48,124 | ||||
| Other receivable | - | - | ||||
| Total | $ | 298,058 | $ | 171,882 |
There was no impairment of trade and other receivables during the six months ended June 30, 2023 (2022 - $nil).
The following table presents changes in unbilled receivables:
| June 30, 2023 |
September 30, 2022 |
|||||
| Balance, beginning of period | $ | 8,881 | $ | 308,728 | ||
| Revenue billed during the period | (3,670 | ) | (308,728 | ) | ||
| Revenue in excess of billings, net of amounts transferred to trade receivables | - | 8,881 | ||||
| Balance, end of period | $ | 5,211 | $ | 8,881 | ||
| Current | $ | 5,211 | $ | 8,881 | ||
| Non-current | $ | - | $ | - |
6. Inventories
The following table presents a breakdown of inventories:
| June 30, 2023 |
September 30, 2022 |
|||||
| Finished goods | $ | 53,732 | $ | 49,643 | ||
| Work-in-progress | 922,324 | 21,350 | ||||
| Raw materials | 614,931 | 322,545 | ||||
| Total | $ | 1,590,987 | $ | 393,538 |
There was no impairment of inventories during the nine months ended June 30, 2023 (2022 - $nil).
| KWESST MICRO SYSTEMS INC. Notes to Condensed Consolidated Interim Financial Statements Three and nine months ended June 30, 2023, and 2022 (Expressed in Canadian dollars, except share amounts) |
7. Intangible assets
The following table shows the movement in intangible assets since September 30, 2022:
| Cost | PhantomTM System |
PARA OPSTM System |
PARA OPSTM Patent |
ARWENTM Tradename |
Customer Relationships |
Purchase Orders |
Total | ||||||||||||||
| Balance at September 30, 2022 | $ | 1,149,585 | $ | 3,469,215 | $ | 28,783 | $ | 37,032 | $ | 46,041 | $ | 12,198 | $ | 4,742,854 | |||||||
| Additions | 19,855 | 570,414 | 8,256 | - | - | - | 598,525 | ||||||||||||||
| Amortization | - | (336,635 | ) | - | (6,600 | ) | (3,750 | ) | - | (346,985 | ) | ||||||||||
| Recognition of open orders | - | - | - | - | - | (7,811 | ) | (7,811 | ) | ||||||||||||
| Balance at June 30, 2023 | $ | 1,169,440 | $ | 3,702,994 | $ | 37,039 | $ | 30,432 | $ | 42,291 | $ | 4,387 | $ | 4,986,583 |
At June 30, 2023, management concluded there was no impairment on the intangible assets (2022 - $nil). The development of PARA OPSTM was substantially completed during the six months ended March 31, 2023, and amortization of $336,635 was recognized in General and administrative expenses. Management determined the estimated useful life to be five years.
8. Accounts payable and accrued liabilities
The following table presents a breakdown of our accounts payable and accrued liabilities:
| June 30, 2023 |
September 30, 2022 |
|||||
| Trade payable | $ | 1,034,913 | $ | 2,292,954 | ||
| Accrued liabilities | 1,157,241 | 1,045,409 | ||||
| Salary and vacation payable | 267,945 | 1,121,118 | ||||
| Total | $ | 2,460,099 | $ | 4,459,481 |
9. Related party transactions
At June 30, 2023, there was $264,959 (September 30, 2022 - $672,531) outstanding in accounts payable and accrued liabilities due to our officers and directors for unpaid wages, director fees, and expense reimbursements.
10. Borrowings
The following is a reconciliation of borrowings since September 30, 2022:
| CEBA Term Loans |
March 2022 Loans |
August 2022 Loans |
Total Borrowings |
|||||||||
| Balance, September 30, 2022 | $ | 78,796 | $ | 1,764,630 | $ | 435,348 | $ | 2,278,774 | ||||
| Accrued interest and accretion expense | 11,204 | 274,887 | 179,096 | 465,187 | ||||||||
| Interest paid | - | (39,517 | ) | (63,661 | ) | (103,178 | ) | |||||
| Repayment of principal | (70,000 | ) | (1,988,000 | ) | (275,315 | ) | (2,333,315 | ) | ||||
| Settled in equity (Notes 12 and 18) | - | (12,000 | ) | (275,468 | ) | (287,468 | ) | |||||
| Forgivable amount | (20,000 | ) | - | - | (20,000 | ) | ||||||
| Balance, June 30, 2023 | $ | - | $ | - | $ | - | $ | - |
There were no changes to KWESST's RBC Credit Facility since September 30, 2022.
| KWESST MICRO SYSTEMS INC. Notes to Condensed Consolidated Interim Financial Statements Three and nine months ended June 30, 2023, and 2022 (Expressed in Canadian dollars, except share amounts) |
11. Contract liabilities
The following is a reconciliation of contract liabilities since September 30, 2022:
| June 30, | |||
| 2023 | |||
| Balance, beginning of period | $ | 47,271 | |
| Amounts invoiced and revenue deferred | 328,678 | ||
| Recognition of deferred revenue included in the | |||
| balance at the beginning of period | (47,271 | ) | |
| Balance, end of period | $ | 328,678 |
12. Warrant liabilities
The following is a reconciliation of warrant liabilities since September 30, 2022:
| U.S. IPO and Canadian Offering | Debt Settlement | ||||||||||||||
| Over-allotment | |||||||||||||||
| 2022 | Pre-Funded | Over-allotment | |||||||||||||
| Warrants | Warrants | Warrants | Warrants | Total | |||||||||||
| Balance, beginning of period | $ | - | $ | - | $ | - | $ | - | $ | - | |||||
| Initial recognition | 4,617,451 | 832,698 | 536,681 | 80,617 | 6,067,447 | ||||||||||
| (Gain) Loss on revaluation of financial instruments | (2,641,798 | ) | 34,659 | (305,270 | ) | (47,158 | ) | (2,959,567 | ) | ||||||
| Exchange gain on revaluation | (52,788 | ) | (20,026 | ) | (7,918 | ) | - | (80,732 | ) | ||||||
| Balance, end of period | $ | 1,922,865 | $ | 847,331 | $ | 223,493 | $ | 33,459 | $ | 3,027,148 | |||||
| Number of outsanding securities as at June 30, 2023 | 3,226,392 | 199,000 | 375,000 | 56,141 | 3,856,533 | ||||||||||
U.S. IPO and Canadian Offering
On December 9, 2022, we closed an underwritten U.S. public offering (the "U.S. IPO") and an underwritten Canadian offering (the "Canadian Offering") for aggregate gross proceeds of CAD$19.4 million (US$14.1 million) (see Note 13(a)). As part of the U.S. IPO and Canadian Offering, we have issued 3,226,392 warrants (the "2022 Warrants") with an exercise price of US$5.00 per share. Additionally, the U.S. underwriter exercised its over-allotment option to purchase:
• 199,000 Pre-Funded Warrants with an exercise price of US$0.01 per share for $3.81024 per pre-funded warrant (net of underwriter discount);
• 375,000 warrants with exercise price of US$5.00 per share for $0.0001 per warrant;
Refer to Note 13(a) for further information on the U.S. IPO and Canadian Offering.
Under IFRS, the above securities are classified as financial liabilities (referred herein as "warrant liabilities") because the exercise price is denominated in U.S. dollars, which is different to our functional currency (Canadian dollars). Accordingly, the ultimate proceeds in Canadian dollars from the potential exercise of the above securities are not known at inception. These financial liabilities are classified and measured at FVTPL (see Note 3(c) of the audited consolidated financial statements for the year ended September 30, 2022). Gains on revaluation of the warrant liabilities are presented in Other income (expenses) on the unaudited condensed consolidated interim statements of net loss and comprehensive loss.
Warrant liabilities
While the warrants issued in the U.S. IPO were listed on Nasdaq and closed at US$0.90 per warrant on December 9, 2022, management concluded that this closing price was not reflective of an active market due to short trading window and therefore not representative of fair value. Accordingly, at inception, the 2022 Warrants were measured at fair value using the Black Scholes option pricing model (Level 2). We used the following assumptions:
| KWESST MICRO SYSTEMS INC. Notes to Condensed Consolidated Interim Financial Statements Three and nine months ended June 30, 2023, and 2022 (Expressed in Canadian dollars, except share amounts) |
| Over-allotment | |||||||||
| 2022 | Pre-Funded | Over-allotment | |||||||
| Warrants | Warrants (1) | Warrants (2) | |||||||
| Number of dilutive securities | 3,282,533 | 199,000 | 375,000 | ||||||
| Exercise price (in USD) | $ | 5.00 | $ | 0.01 | |||||
| Share price (in USD) | $ | 4.13 | $ | 3.08 | |||||
| Expected life | 2.50 | ||||||||
| Dividend | $ | - | |||||||
| Volatility | 75% | ||||||||
| Risk free rate | 4.20% | ||||||||
| Exchange rate (USD/CAD) | $ | 1.363 | |||||||
| Fair value per warrant (CAD) | $ | 1.43 | $ | 4.18 | 1.43 | ||||
(1) Fair value is measured at the underlying common share closing price on Nasdaq on December 9, 2022, less US$0.01 exercise price.
(2) Same fair value as calculated for Warrants.
The share price (in USD) for the over-allotment pre-funded warrants was based on the estimated fair value of the common shares issued on December 9, 2022, by deducting the fair value of the warrants of US$1.05 from the US$4.13 Unit price and the exercise price of US$0.01 (see Note 13(a)).
Based on the above fair value, the issuance of the over-allotment pre-funded warrants and warrants to the underwriter resulted in a non-cash charge of $251,877, which is included in the change in fair value of warrant liabilities in the condensed consolidated interim statements of net loss and comprehensive loss.
At June 30, 2023, we remeasured the fair value of these warrants using the following assumptions:
| Over-allotment | |||||||||
| 2022 | Pre-Funded | Over-allotment | |||||||
| Warrants (1) | Warrants (2) | Warrants (1) | |||||||
| Number of securities | 3,282,533 | 199,000 | 375,000 | ||||||
| Nasdaq closing price (in USD) | $ | 0.45 | $ | 3.23 | $ | 0.45 | |||
| Exchange rate (USD/CAD) | $ | 1.324 | $ | 1.324 | $ | 1.324 | |||
| Fair value per warrant (CAD) | $ | 0.60 | $ | 4.26 | $ | 0.60 | |||
(1) Fair value is based on the Nasdaq closing pricing on June 30, 2023, for the warrants.
(2) Fair value is measured at the Nasdaq closing price on June 30, 2023, for the underlying common stock less US$0.01 exercise price.
Including the non-cash charge for the issuance of the over-allotment pre-funded warrants and warrants to the underwriter, we recognized $481,704 as a gain in fair value and $2,707,691 as a loss in fair value of warrant liabilities during the three and nine months ended June 30, 2023, respectively, which was reported in the condensed consolidated net loss and comprehensive loss.
December 2022 Debt Settlement
On December 13, 2022, we have entered into share for debt arrangements with existing lenders (see Note 13(a)), which resulted in issuing 56,141 Units, same terms as the Units as issued in the Canadian Offering except that the underlying securities are subject to a four-month hold period. Accordingly, this resulted in issuing 56,141 common shares and 56,141 warrant liabilities with an exercise price of US$5.00 per share and maturing on December 13, 2027. We initially recorded the fair value of the warrant liabilities using the Black Scholes option pricing model with an underlying stock price equivalent to the unit price of US$4.13.
| KWESST MICRO SYSTEMS INC. Notes to Condensed Consolidated Interim Financial Statements Three and nine months ended June 30, 2023, and 2022 (Expressed in Canadian dollars, except share amounts) |
At June 30, 2023, we remeasured the fair value of these warrant liabilities using the Nasdaq closing price on June 30, 2023, of US$0.45. The remeasurement resulted in a change in fair value of warrant liabilities of $4,726 and $47,158 for the three and nine months ended June 30, 2023, respectively, which was reported in the condensed consolidated net loss and comprehensive loss.
13. Share capital and Contributed Surplus
a) Share capital
Authorized
KWESST is authorized to issue an unlimited number of common shares.
Issued Common Shares
The following is a summary of changes in outstanding common shares since September 30, 2022:
| Number | Amount | |||||
| Balance at September 30, 2022 | 773,225 | $ | 19,496,640 | |||
| Issued for U.S. IPO and Canadian Offering | 3,226,392 | $ | 13,675,120 | |||
| Issued for debt settlements | 56,134 | $ | 233,485 | |||
| Issued for conversion of stock units | 14,141 | $ | 529,504 | |||
| Issued for option exercise | 1,125 | $ | 5,836 | |||
| Issued for warrant exercise | 3,571 | $ | 60,000 | |||
| Less: share offering costs for the period | $ | (3,050,278 | ) | |||
| Balance at June 30, 2023 | 4,074,588 | $ | 30,950,307 |
U.S. IPO and Canadian Offering
On December 9, 2022, we closed the U.S. IPO and the Canadian Offering. In the U.S. IPO, we sold 2.5 million units at a public offering price of USD $4.13 per unit (the "Unit"), consisting of one share of common stock and one warrant to purchase one share of common stock ("Warrant"). The Warrants have a per share exercise price of USD $5.00 and can be exercised immediately. In connection with the closing of the U.S. IPO, the underwriter partially exercised its over-allotment option to purchase an additional 199,000 pre-funded common share purchase warrants ("Pre-Funded Warrants") at US$4.12 (before underwriter discount) and 375,000 option warrants to purchase common shares at US$0.0001 each. A Pre-Funded Warrant is a financial instrument that requires the holder to pay little consideration (exercise price of US$0.01) to receive the common share upon exercise of the Pre-Funded Warrant (see Note 14). The holder of Pre-Funded Warrants has no voting rights. All of these warrants expire on December 9, 2027.
In the Canadian Offering, we sold 726,392 units, each consisting of one common share and one warrant to purchase one common share, at a price to the public of USD $4.13 per unit. The warrants will have a per common share exercise price of USD $5.00, are exercisable immediately and expire in five years on December 9, 2027. Effective May 1, 2023, the warrants are listed on the TSX-V under the stock symbol of KWE.WT.U.
The closing of the U.S. IPO and Canadian Offering resulted in aggregate gross proceeds of CAD$19.4 million (USD $14.1 million), before deducting underwriting discounts and offering expenses.
| KWESST MICRO SYSTEMS INC. Notes to Condensed Consolidated Interim Financial Statements Three and nine months ended June 30, 2023, and 2022 (Expressed in Canadian dollars, except share amounts) |
The common shares of KWESST and the Warrants sold in the U.S. IPO began trading on the Nasdaq Capital Market under the symbols "KWE" and "KWESW", respectively, on December 7, 2022.
ThinkEquity acted as sole book-running manager for the U.S. IPO and PI Financial acted as sole book-running manager for the Canadian Offering.
Accounting Treatment
Refer to Note 12 for the accounting of the warrants issued in the U.S. IPO and Canadian Offering.
Brokers' Compensation and Share Offering Costs
As consideration for the services provided in connection with the U.S. IPO, ThinkEquity received: (a) a broker- dealer cash commission of US$835,000 (or CAD$1,138,105) equal to 7.5% of the gross offering proceeds of the U.S. Offering and (b) underwriter warrants (the "U.S. Underwriter Warrants") to purchase up to 134,950 common shares equal to 5% of the common shares and pre-funded common share purchase warrants issued under the U.S. Offering. Each U.S. Underwriter Warrant is exercisable to acquire one common share at a price of US$5.1625, exercisable as of June 4, 2023, and expiring on December 9, 2027.
As consideration for the services provided in connection with the Canadian Offering, PI Financial received: (a) a cash commission of approximately US$210,000 (or CAD$286,230); and (b) 50,848 compensation options (the "Canadian Compensation Options"). Each Canadian Compensation Option is exercisable to acquire one Canadian Unit at a price of US$4.13 and expiring on December 9, 2024.
In addition to the above brokers' compensation, we also incurred US$2.1 million share offering costs (or CAD$2.8 million) for the U.S. IPO and Canadian Offering, of which CAD$628,262 was incurred and deferred at September 30, 2022.
The total brokers compensation (including fair value of U.S. Underwriter Warrants and Canadian Compensation Options) and share offering costs was US$3.2 million (or CAD$4.4 million). This total was allocated proportionately to the fair value of common shares and warrant liabilities. Accordingly, CAD$1.3 million allocated to warrant liabilities were expensed during the nine months ended June 30, 2023.
Shares for Debt Settlement
We have entered into share for debt arrangements with existing lenders, which closed on December 13, 2022, following TSXV's conditional approval. This resulted in issuing 56,141 Units to settle $12,000 of the March 2022 Loans and USD$223,321 (or CAD$302,197) of the August 2022 Loans, including unpaid accrued interest and 10% premium at maturity (the "Debt Settlements") - see Note 10. The terms of the Units are the same as the Units issued in the Canadian Offering.
| KWESST MICRO SYSTEMS INC. Notes to Condensed Consolidated Interim Financial Statements Three and nine months ended June 30, 2023, and 2022 (Expressed in Canadian dollars, except share amounts) |
b) Warrants
The following is a summary of changes in outstanding warrants since September 30, 2022:
| Weighted | |||||||
| Number of | average | ||||||
| warrants | exercise price | ||||||
| Outstanding at September 30, 2022 | 13,417,156 | $ | 0.78 | ||||
| Issued (Note 13(a)) | 3,991,483 | $ | 6.44 | ||||
| Exercised | (250,000 | ) | $ | 0.50 | |||
| Outstanding at June 30, 2023 | 17,158,639 | $ | 2.10 | ||||
| Exercisable at June 30, 2023 | 16,648,689 | $ | 2.09 |
The table that follows outlines the ratio upon which the above warrants are converted into common shares.
U.S. Underwriter Warrants
In the U.S. IPO, we issued 134,950 warrants ("U.S. Underwriter Warrants"). Each U.S. Underwriter Warrant is exercisable to acquire one common share at US$5.1625 for a period of 5 years (expiring on December 9, 2027). Management estimated the fair value of these warrants using the Black Scholes option model with the following inputs:
| Number of dilutive securities | 134,950 | ||
| Exercise price (in USD) | $ | 5.16 | |
| Share price (in USD) | $ | 3.08 | |
| Expected life | 2.50 | ||
| Dividend | $ | - | |
| Volatility | 75% | ||
| Risk free rate | 4.20% | ||
| Exchange rate (USD/CAD) | $ | 1.363 | |
| Fair value per warrant (CAD) | $ | 1.40 | |
We have recorded $189,592 as the fair value for the U.S. Underwriter Warrants, with an equal offset to share offering costs (a non-cash transaction).
| KWESST MICRO SYSTEMS INC. Notes to Condensed Consolidated Interim Financial Statements Three and nine months ended June 30, 2023, and 2022 (Expressed in Canadian dollars, except share amounts) |
The following table provides additional information on the total outstanding warrants at June 30, 2023, see note 1(b):
| Number | Conversion ratio to | |||||||||||
| outstanding | Common Shares | Book value | Expiry Date | |||||||||
| Classified as Equity | ||||||||||||
| Founders' warrants: | ||||||||||||
| Exercise price of $0.20 | 5,520,000 | 70 for 1 | $ | 1,013 | January 1, 2024 | |||||||
| Exercise price of $0.20 | 1,900,000 | 70 for 1 | $ | 18,865 | June 14, 2024 | |||||||
| April 2021 equity financing: | ||||||||||||
| Exercise price of $1.75 | 3,274,657 | 70 for 1 | $ | 785,918 | April 29, 2023 | |||||||
| Exercise price of $1.75 | 40,000 | 70 for 1 | $ | 9,600 | August 25, 2023 | |||||||
| LEC's warrants: | ||||||||||||
| Exercise price of $0.70 | 500,000 | 70 for 1 | $ | 425,000 | April 29, 2026 | |||||||
| September 2021 equity financing: | ||||||||||||
| Exercise price of $2.35 | 750,000 | 70 for 1 | $ | 390,000 | September 16, 2023 | |||||||
| Broker warrants: | ||||||||||||
| Exercise price of $1.75 | 137,499 | 70 for 1 | $ | 33,000 | April 29, 2023 | |||||||
| Exercise price of $2.00 | 45,000 | 70 for 1 | $ | 32,400 | September 16, 2023 | |||||||
| Acquisition of Police Ordnance (Note 4): | ||||||||||||
| Exercise price of $1.72 | 200,000 | 70 for 1 | $ | 132,000 | December 15, 2024 | |||||||
| July 2022 equity financing: | ||||||||||||
| Exercise price of $0.285 | 800,000 | 70 for 1 | $ | 72,000 | July 14, 2024 | |||||||
| December 2022 U.S. Underwriter Warrants | ||||||||||||
| Exercise price of US$5.1625 | 134,950 | 1 for 1 | $ | 189,592 | December 6, 2024 | |||||||
| 13,302,106 | $ | 2,089,388 | ||||||||||
| Classified as liability | ||||||||||||
| December 2022 public offerings: | ||||||||||||
| Exercise price of US$5.00 | 3,226,392 | 1 for 1 | $ | 1,922,865 | December 9, 2027 | |||||||
| December 2022 Pre-Funded Warrants | ||||||||||||
| Exercise price of US$0.01 | 199,000 | 1 for 1 | $ | 847,331 | No expiry | |||||||
| December 2022 Option Warrants | ||||||||||||
| Exercise price of US$5.1625 | 375,000 | 1 for 1 | $ | 223,493 | December 9, 2024 | |||||||
| December 2022 debt settlement | ||||||||||||
| Exercise price of US$5.00 | 56,141 | 1 for 1 | $ | 33,459 | December 9, 2027 | |||||||
| 3,856,533 | 3,027,148 | |||||||||||
| Total outstanding warrants | 17,158,639 | $ | 5,116,536 |
c) Contributed Surplus
Broker Compensation Options
In the Canadian Offering, we issued 50,848 Canadian Compensation Options. Each Canadian Compensation Option is exercisable to acquire one Unit, as defined in Note 13(a), at a price equal to US$4.13 for a period of two years (expiring on December 9, 2024). Based on the structure of the Compensation Option, management estimated its fair value using the Monte Carlo method (Level 2). We used the following key inputs in the Monte Carlo model (100,000 simulations):
| KWESST MICRO SYSTEMS INC. Notes to Condensed Consolidated Interim Financial Statements Three and nine months ended June 30, 2023, and 2022 (Expressed in Canadian dollars, except share amounts) |
| Initial | |||
| Recognition | |||
| Number of securities | 50,848 | ||
| Exercise price - compensation option (in USD) | $ | 4.13 | |
| 1-Year CAD/USD Forward Exchange Rate | $ | 1.3560 | |
| Exercise price - compensation warrant (in USD) | $ | 5.00 | |
| 2-Year CAD/USD Forward Exchange Rate | $ | 1.3483 | |
| Share price (in CAD) | $ | 4.20 | |
| Expected life - compensation option | 1.00 | ||
| Expected life - compensation warrant | 2.50 | ||
| Dividend | $ | - | |
| Volatility - compensation option | 90% | ||
| Volatility - compensation warrant | 75% | ||
| Risk free rate - compensation option | 4.38% | ||
| Risk free rate - compensation warrant | 3.15% | ||
| Fair value per compensation option (CAD) | $ | 2.46 | |
We have recorded $125,086 of Canadian Compensation Options in contributed surplus, with an equal offset to share offering costs (a non-cash transaction).
Share-based compensation
On March 31, 2023, KWESST shareholders approved the renewal of the Long-Term Incentive Plan (the "LTIP"). Additionally, the disinterested shareholders of KWESST approved an amendment to the LTIP to increase the number of RSUs, PSUs, DSUs, and SARs (collectively "Share Units") authorized for issuance pursuant to the LTIP from 60,682 to 407,274 Share Units. Accordingly, we have 338,681 Share Units available for future grants.
Further, the disinterested shareholders of KWESST approved to revise the exercise price of 50,981 stock options to $3.60, the closing price of KWESST common shares on the TSX-V on March 31, 2023. In accordance with IFRS 2, this resulted in an immediate fair value increase of $77,001 included in share-based compensation, with an offset to contributed surplus for the three and six months ended March 31, 2023.
During the three and nine months ended June 30, 2023, we granted 10,000 stock options and did not grant any RSUs, PSUs, and SARs, pursuant to our LTIP during the nine months ended June 30, 2023. Accordingly, we had 59,907 outstanding stock options at June 30, 2023. The remaining available stock option pool for future grants was 347,551 at June 30, 2023.
For the three and nine months ended June 30, 2023, we recorded share-based compensation of $39,214 and $316,261, respectively (2022 - $524,931 and $1,875,392).
14. Earnings (loss) per share
The following table summarizes the calculation of the weighted average basic number of basic and diluted common shares to calculate the earnings (loss) per share as reported in the unaudited condensed consolidated interim statements of net loss and comprehensive loss:
| KWESST MICRO SYSTEMS INC. Notes to Condensed Consolidated Interim Financial Statements Three and nine months ended June 30, 2023, and 2022 (Expressed in Canadian dollars, except share amounts) |
| Three months ended June 30, 2023 |
Three months ended June 30, 2022 |
Nine months ended June 30, 2023 |
Nine months ended June 30, 2022 |
|||||||||
| Issued common shares, beginning of period | 4,272,113 | 735,491 | 773,225 | 699,509 | ||||||||
| Effect of shares issued from: | ||||||||||||
| December 2022 U.S. IPO and Canadian Offering (Note 13) | - | - | 2,399,112 | - | ||||||||
| Over-allotment Pre-Funded Warrants (Note 12) | - | - | 147,974 | - | ||||||||
| Debt settlements (Note 13) | - | - | 40,923 | 130 | ||||||||
| Conversion of stock units | 337 | 4,249 | 11,033 | 2,246 | ||||||||
| Exercise of options | 213 | - | 70 | - | ||||||||
| Exercise of warrants | - | 2,286 | 2,368 | 7,761 | ||||||||
| Acquisition of Police Ordnance (Note 4) | - | - | - | 2,861 | ||||||||
| Conversion of contingent shares (Note 4) | - | 671 | - | 221 | ||||||||
| Issuance of bonus shares (Note 10) | - | - | - | 5,672 | ||||||||
| Weighted average number of basic common shares | 4,272,663 | 742,697 | 3,374,705 | 718,400 | ||||||||
| Dilutive securities: | - | - | - | - | ||||||||
| Weighted average number of dilutive common shares | 4,272,663 | 742,697 | 3,374,705 | 718,400 |
At June 30, 2023 and 2022, all dilutive securities were anti-dilutive because we incurred a net loss for the above periods.
As the $0.01 exercise price per Pre-Funded Warrant is non-substantive, the 199,000 Pre-Funded Warrants issued in the U.S. IPO are included in the basic net loss per share calculation.
15. Revenue
The following table, revenue from contracts with customers is disaggregated by primary geographical market, major products and service lines, and timing of revenue recognition.
| Three months | Three months | Nine months | Nine months | |||||||||
| ended June | ended | ended | ended | |||||||||
| 30, 2023 | June 30, 2022 | June 30, 2023 | June 30, 2022 | |||||||||
| Major products / service lines | ||||||||||||
| Digitization | $ | 61,823 | $ | 157,900 | $ | 325,827 | $ | 314,515 | ||||
| Non-lethal | 87,706 | 100,684 | 301,198 | 111,176 | ||||||||
| Training and services | $ | 23,495 | - | 39,169 | ||||||||
| Other | 740 | 353 | 1,980 | 1,288 | ||||||||
| $ | 150,269 | $ | 282,432 | $ | 629,005 | $ | 466,148 | |||||
| Primary geographical markets | ||||||||||||
| United States | $ | 2,364 | $ | 27,607 | $ | 29,683 | $ | 48,658 | ||||
| Canada | 147,905 | 254,825 | 599,322 | 417,490 | ||||||||
| $ | 150,269 | $ | 282,432 | $ | 629,005 | $ | 466,148 | |||||
| Timing of revenue recognition | ||||||||||||
| Products and services transferred over time | $ | 61,823 | $ | 181,395 | $ | 325,827 | $ | 353,684 | ||||
| Products transferred at a point in time | 88,446 | 101,037 | 303,178 | 112,464 | ||||||||
| $ | 150,269 | $ | 282,432 | $ | 629,005 | $ | 466,148 | |||||
| KWESST MICRO SYSTEMS INC. Notes to Condensed Consolidated Interim Financial Statements Three and nine months ended June 30, 2023, and 2022 (Expressed in Canadian dollars, except share amounts) |
At June 30, 2023, KWESST's contracted not yet recognized revenue was $1,013,841 (2022 - $nil), of which 78.57% of this amount is expected to be recognized over the next 12 months with the remaining 21.43% expected to be recognized in 2 to 3 years.
For the three months ended June 30, 2023, three customers accounted for 48.67%, 31.47% and 9.68% (2022 - one customer accounted for 55.91%) of revenue. For the nine months ended June 30, 2023, four customers accounted for 35.84%, 14.11%, 11.63% and 8.03% (2022 - one customer accounted for 63.90%) of total revenue.
16. Net finance costs
The following table presents a breakdown of net finance costs for the following periods:
| Three months ended June 30, |
Three months ended June 30, |
Nine months ended June 30, |
Nine months ended June 30, |
||||||||||
| 2023 | 2022 | 2023 | 2022 | ||||||||||
| Finance costs from: | |||||||||||||
| Unsecured loans | - | $ | 134,563 | $ | 453,983 | $ | 162,652 | ||||||
| Accretion cost - accrued royalties liability | 41,093 | 40,393 | 127,408 | 113,899 | |||||||||
| Lease obligations | 7,810 | 7,562 | 20,895 | 23,590 | |||||||||
| Other | - | 2,709 | 63,204 | 7,668 | |||||||||
| Total financing costs | 48,903 | 185,227 | 665,490 | 307,809 | |||||||||
| Interest income | (8,077 | ) | (1,050 | ) | (59,550 | ) | (3,511 | ) | |||||
| Gain on debt settlement (Note 10) | - | - | (430 | ) | - | ||||||||
| Gain on government grant (Note 10) | - | - | (10,000 | ) | - | ||||||||
| Net finance costs | $ | 40,826 | $ | 184,177 | $ | 595,510 | $ | 304,298 | |||||
17. Financial instruments
For the three and nine months ended June 30, 2023, there were no material changes to our financial risks as disclosed in Note 22 of the audited consolidated financial statements for the year ended September 30, 2022, except for the following:
Foreign currency risk
For the three and nine months ended June 30, 2023, certain of our revenues were denominated in U.S. dollar and we also procure certain raw materials denominated in U.S. dollar for product development. Further, we raised gross proceeds of US$14.1 million in the U.S. IPO and Canadian Offering (see Note 13), including the issuance of warrants with exercise price denominated in U.S. dollar (see Note 12). Accordingly, we are exposed to the U.S. dollar currency. Where a natural hedge cannot be achieved, a significant change in the U.S. dollar currency could have a significant effect on our financial performance, financial position and cash flows. Currently, we do not use derivative instruments to hedge its U.S. dollar exposure.
At June 30, 2023, we had the following net U.S. dollar exposure:
| Total USD | |||
| Net liabilities in U.S. subsidiary | $ | (7,906 | ) |
| US denominated from other: | |||
| Assets | $ | 518,330 | |
| Liabilities | (1,555,898 | ) | |
| (1,037,568 | ) | ||
| Total net US dollar exposure | $ | (1,045,474 | ) |
| Impact to profit or loss if 5% movement in the US dollar | $ | (52,274 | ) |
| KWESST MICRO SYSTEMS INC. Notes to Condensed Consolidated Interim Financial Statements Three and nine months ended June 30, 2023, and 2022 (Expressed in Canadian dollars, except share amounts) |
During the three and nine months ended June 30, 2023, we recorded a foreign exchange gain of $19,684 and a loss of $126,872, respectively (2022 - gain of $22,901 and $22,602).
Liquidity risk
At June 30, 2023, our contractual obligations were as follows:
| 5 years and | |||||||||||||||
| Payment due: | Total | Within 1 Year | 1 to 3 years | 3 to 5 years | beyond | ||||||||||
| Minimum royalty commitments | $ | 1,050,000 | $ | 150,000 | $ | 400,000 | $ | 500,000 | $ | 1,300,000 | |||||
| Accounts payable and accrued liabilities | 2,460,099 | 2,460,099 | - | - | - | ||||||||||
| Lease obligations | 562,088 | 167,236 | 371,019 | 23,833 | - | ||||||||||
| Short-term rental obligations | 35,158 | 35,158 | - | - | - | ||||||||||
| Total contractual obligations | $ | 4,107,345 | $ | 2,812,493 | $ | 771,019 | $ | 523,833 | $ | 1,300,000 | |||||
At June 30, 2023, we had $1.8 million in cash and negative $1.1 million in working capital (see Note 2(a)).
18. Supplemental cash flow information
The following table presents changes in non-cash working capital:
| Nine months | Nine months | |||||
| ended | ended | |||||
| June 30, 2023 | June 30, 2022 | |||||
| Trade and other receivables | $ | (126,176 | ) | $ | 609,202 | |
| Inventories | (1,197,449 | ) | (11,046 | ) | ||
| Prepaid expenses | (1,128,977 | ) | 386,904 | |||
| Intangible assets | 7,811 | - | ||||
| Accounts payable and accrued liabilities | (928,614 | ) | 934,025 | |||
| Contract liabilities | 281,407 | - | ||||
| Corporate taxes payable | - | (32,338 | ) | |||
| $ | (3,091,998 | ) | $ | 1,886,747 |
In addition to the non-cash items noted in Note 13, we also had the following non-cash items that were excluded from the Statements of Cash Flows for the nine months ended June 30, 2023:
• $2,924,880 non-cash share offering costs and $453,102 accounts payables as part of the net proceeds settlement at the closing of the U.S. IPO and Canadian Offering;
• 250,000 warrants exercised in connection with the GhostStepTM acquisition in June 2020; and
• $529,504 of shares issued for vested RSUs and PSUs.
The following is a summary of non-cash items that were excluded from the Statements of Cash Flows for the nine months ended June 30, 2022:
• $19,000 debt settlement via common shares;
• $83,319 fair value of 61,264 contingent shares settled via common shares;
• $61,136 fair value of warrants exercised and transferred to share capital from warrants; and
• $125,000 for 250,000 warrants exercised in connection with the GhostStepTM acquisition in June 2020.
| KWESST MICRO SYSTEMS INC. Notes to Condensed Consolidated Interim Financial Statements Three and nine months ended June 30, 2023, and 2022 (Expressed in Canadian dollars, except share amounts) |
19. Commitments and contingencies
Except as noted below, there was no material change to the commitments and contingencies as disclosed in Note 26 of the audited consolidated financial statements for the year ended September 30, 2022.
In March 2023, we committed to signing a three-year lease agreement in Guelph, Canada for our non-lethal operations. The Company has yet to finalize the lease agreement. Terms of the accepted offer to lease included commencement on August 1, 2023, and expiring on June 30, 2026, for a total commitment of $208,285. The Company has not yet commenced occupation of the space, however, expects to in Q4.
20. Segmented information
Our Executive Chairman has been identified as the chief operating decision maker. Our Executive Chairman evaluates the performance of KWESST and allocates resources based on the information provided by our internal management system at a consolidated level. We have determined that we have only one operating segment.
At June 30, 2023, the majority of our property and equipment are located in Canada, including the right-of-use assets.
21. Subsequent Event
On July 21, 2023, the Company announced the closing of a US$5.688 million private placement in the United States. As part of the offering the Company issued 1,542,194 common shares at a price of US$2.26 (CAD$2.98) per common share and 930,548 pre-funded warrants at a price of us$2.26 (CAD$2.98) per pre-funded warrant, with each common share and pre-funded warrant being bundled with one common share purchase warrant of the Company. Each pre-funded warrant entitles the holder to acquire one common share at an exercise price of US$0.01 per common share, and each common warrant is immediately exercisable and entitles the holder to acquire one common share at an exercise price of US$2.66 (CAD$3.50) per common share for a period of 60 months following the closing of the offering.
ThinkEquity acted as sole placement agent for the Offering. As compensation for services rendered, the Company paid to ThinkEquity a cash fee of US$475,013.14 representing 8.5% of the aggregate gross proceeds of the Offering and issued 123,637 warrants to purchase a number of Common Shares (the "Placement Agent Warrants", representing 5% of the Common Shares and Pre-Funded Warrants sold in the Offering. The Placement Agent Warrants, will be exercisable, in whole or in part, immediately upon issuance and will expire 60 months after the closing date of the Offering at an initial exercise price of US$2.66 (CAD$3.50) per Common Share.
During the period ending June 30, 2023, and subsequent to period end, the Company reached settlements in two separate litigation cases involving a former employee and former consultant. The Company accrued approximately $267,000 related to these settlements at June 30. The Company expects to finalize all payments related to the settlements in Q4.
KWESST MICRO SYSTEMS INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS
Three and nine months ended June 30, 2023
(Expressed in Canadian Dollars)
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KWESST MICRO SYSTEMS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS THREE AND NINE MONTHS ENDED JUNE 30, 2023 |
All references in this management's discussion and analysis (the "MD&A") to "KWESST", "we", "us", "our", and the "Company" refer to KWESST Micro Systems Inc. and its subsidiaries as at June 30, 2023. This MD&A has been prepared with an effective date of August 14, 2023.
This MD&A should be read in conjunction with our unaudited condensed consolidated interim financial statements for the three and nine months ended June 30, 2023 ("Q3 Fiscal 2023 FS") and the annual audited consolidated financial statements and related notes for the year ended September 30, 2022 ("Fiscal 2022 FS"). The financial information presented in this MD&A is derived from these unaudited condensed consolidated interim financial statements prepared in accordance with International Financial Reporting Standards ("IFRS") as issued by the International Accounting Standards Board ("IASB"). This MD&A contains forward-looking statements involves risk, uncertainties and assumptions, including statements regarding anticipated developments in future financial periods and our future plans and objectives. There can be no assurance that such information will prove to be accurate, and readers are cautioned not to place undue reliance on such forward-looking statements. See "Forward-Looking Statements".
All references to $ or dollar amounts in this MD&A are to Canadian currency unless otherwise indicated.
Additional information, including press releases, relating to KWESST is available for view on SEDAR at www.sedar.com.
| NON-IFRS MEASURES |
In this MD&A, we have presented earnings before interest, taxes, depreciation and amortization ("EBITDA") and EBITDA that has been adjusted for the removal of share-based compensation, foreign exchange loss (gain), change in fair value of derivative liabilities, and any one-time, irregular and nonrecurring items ("Adjusted EBITDA") to provide readers with a supplemental measure of our operating performance and thus highlight trends in our core business that may not otherwise be apparent when relying solely on IFRS financial measures. Management also uses non-IFRS measures, in addition to IFRS financial measures, to understand and compare operating results across accounting periods, for financial and operational decision making, for planning and forecasting purposes, and to evaluate our financial performance. We believe that these non-IFRS financial measures enable us to identify underlying trends in our business that could otherwise be hidden by the effect of certain expenses that we exclude in the calculations of the non-IFRS financial measures.
Accordingly, we believe that these non-IFRS financial measures reflect our ongoing business in a manner that allows for meaningful comparisons and analysis in the business and provides useful information to investors and securities analysts, and other interested parties in understanding and evaluating our operating results, enhancing their overall understanding of our past performance and future prospects.
We caution readers that these non-IFRS financial measures do not replace the presentation of our IFRS financial results and should only be used as a supplement to, not as a substitute for, our financial results presented in accordance with IFRS. There are limitations in the use of non-IFRS measures because they do not include all the expenses that must be included under IFRS as well as they involve the exercise of judgment concerning exclusions of items from the comparable non-IFRS financial measure. Furthermore, other peers may use other non-IFRS measures to evaluate their performance, or may calculate non- IFRS measures differently, all of which could reduce the usefulness of our non-IFRS financial measures as tools for comparison.
| GOING CONCERN |
As an early-stage company, we have not yet reached commercial production for most of our products and have incurred significant losses and negative operating cash flows from inception that have primarily been funded from financing activities. KWESST's Q3 Fiscal 2023 FS have been prepared on the "going concern" basis which presumes that KWESST will be able to realize its assets and discharge its liabilities in the normal course of business for the foreseeable future. Refer to Note 2(a) of the Q3 Fiscal 2023 FS.
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KWESST MICRO SYSTEMS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS THREE AND NINE MONTHS ENDED JUNE 30, 2023 |
| Trademarks |
We own or have rights to various trademarks, service marks and trade names that we use in connection with the operation of our business. This MD&A also contains additional trademarks, trade names and service marks belonging to other companies. Solely for convenience, trademarks, trade names and service marks referred to in this MD&A may appear without the ®, ™ or SM symbols, but such references are not intended to indicate, in any way, that we will not assert, to the fullest extent under applicable law, our rights or the right of the applicable licensor to these trademarks, trade names and service marks. We do not intend our use or display of other parties' trademarks, trade names or service marks to imply, and such use or display should not be construed to imply a relationship with, or endorsement or sponsorship of us by, these other parties.
| FORWARD-LOOKING STATEMENTS |
Certain statements in this document constitute "forward-looking statements" and "forward-looking information" within the meaning of applicable Canadian and United States securities laws (together, "forward-looking statements"). Such forward- looking statements include, but are not limited to, information with respect to our objectives and our strategies to achieve these objectives, as well as statements with respect to our beliefs, plans, expectations, anticipations, estimates and intentions. These forward-looking statements may be identified by the use of terms and phrases such as "may", "would", "should", "could", "expect", "intend", "estimate", "anticipate", "plan", "foresee", "believe", or "continue", the negative of these terms and similar terminology, including references to assumptions, although not all forward-looking statements contain these terms and phrases. Forward-looking statements are provided for the purposes of assisting the reader in understanding us, our business, operations, prospects and risks at a point in time in the context of historical and possible future developments and therefore the reader is cautioned that such information may not be appropriate for other purposes.
Forward-looking statements relating to us include, among other things, statements relating to:
• our expectations regarding our business, financial condition and results of operations;
• the future state of the legislative and regulatory regimes, both domestic and foreign, in which we conduct business and may conduct business in the future;
• our expansion into domestic and international markets;
• our ability to attract customers and clients;
• our marketing and business plans and short-term objectives;
• our ability to obtain and retain the licenses and personnel we require to undertake our business;
• our ability to deliver under contracts with customers;
• anticipated revenue from professional service contracts with customers;
• our strategic relationships with third parties;
• our anticipated trends and challenges in the markets in which we operate;
• governance of us as a public company; and
• expectations regarding future developments of products and our ability to bring these products to market.
Forward-looking statements are based upon a number of assumptions and are subject to a number of risks and uncertainties, many of which are beyond our control, which could cause actual results to differ materially from those that are disclosed in or implied by such forward-looking statements. These risks and uncertainties include, but are not limited to, the following risk factors, some of which are discussed in greater detail under the section "Risk Factors" in our Annual Report on Form 20-F dated January 27, 2023:
• limited operating history;
• failure to realize growth strategy;
• failure to complete transactions or realize anticipated benefits;
• reliance on key personnel;
• regulatory compliance;
• competition;
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KWESST MICRO SYSTEMS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS THREE AND NINE MONTHS ENDED JUNE 30, 2023 |
• changes in laws, regulations and guidelines;
• demand for our products;
• fluctuating prices of raw materials;
• pricing for products;
• ability to supply sufficient product;
• expansion to other jurisdictions;
• damage to our reputation;
• operating risk and insurance coverage;
• negative operating cash flow;
• management of growth;
• product liability;
• product recalls;
• environmental regulations and risks;
• ownership and protection of intellectual property;
• constraints on marketing products;
• reliance on management;
• fraudulent or illegal activity by our employees, contractors and consultants;
• breaches of security at our facilities or in respect of electronic documents and data storage and risks related to breaches of applicable privacy laws;
• government regulations with regards to COVID-19, employee health and safety regulations;
• the duration and impact of COVID-19, and including variants of COVID-19, on our operations;
• regulatory or agency proceedings, investigations and audits;
• additional capital requirements to support our operations and growth plans, leading to further dilution to shareholders;
• conflicts of interest;
• litigation;
• risks related to United States' and other international activities;
• risks related to security clearances;
• risks relating to the ownership of our securities, such as potential extreme volatility in the price of our securities;
• risks related to our foreign private issuer status; and
• risks related to our failure to meet the continued listing requirements of the Nasdaq Capital Market ("Nasdaq").
Although the forward-looking statements contained herein are based upon what we believe are reasonable assumptions, investors are cautioned against placing undue reliance on this information since actual results may vary from the forward - looking statements. Certain assumptions were made in preparing the forward-looking statements concerning availability of capital resources, business performance, market conditions and customer demand.
Consequently, all of the forward-looking statements contained herein are qualified by the foregoing cautionary statements, and there can be no guarantee that the results or developments that we anticipate will be realized or, even if substantially realized, that they will have the expected consequences or effects on our business, financial condition or results of operation. Unless otherwise noted or the context otherwise indicates, the forward-looking statements contained herein are provided as of the date hereof, and we do not undertake to update or amend such forward-looking statements whether as a result of new information, future events or otherwise, except as may be required by applicable law.
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KWESST MICRO SYSTEMS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS THREE AND NINE MONTHS ENDED JUNE 30, 2023 |
| BUSINESS OVERVIEW |
Corporate Information
We are a Canadian corporation incorporated on November 28, 2017, under the laws of the Province of British Columbia. Our registered office is located at 550 Burrard Street, Suite 2900, Vancouver, British Columbia, Canada and our corporate office is located at Unit 1, 155 Terrence Matthews Crescent, Ottawa, Ontario, Canada. We have representative offices in the following foreign locations: Washington DC (United States), London (United Kingdom), and Abu Dhabi (United Arab Emirates).
As an early commercial-stage technology company, we develop and commercialize next-generation technology solutions that deliver a tactical advantage for military, public safety agencies and personal defense markets. We focus on three niche market segments as follows:
Our core mission is to protect and save lives.
Major Highlights - Quarter ended June 30, 2023 ("Q3 Fiscal 2023")
The following is a summary of the major highlights that occurred during the quarter ended Q2 Fiscal 2023:
• From April 19 to 20, 2023, at the MDEX tradeshow held in Detroit, U.S., we showcased our BLDS vehicle applications to United States Army PEO Ground Combat Systems program managers, and related OEMs and suppliers.
• On May 1, 2023, the common share purchase warrants issued in connection with the Canadian Offering dated December 6, 2022 (see U.S. IPO and Canadian Offering below) commenced trading on the TSXV under the symbol "KWE.WT.U".
• On May 2, 2023, we announced that DND awarded a CAD $136 million dollar five-year defense contract to the JV Group (KWESST, Akkodis (MODIS) Canada and Thales Canada). KWESST's workshare under the joint venture agreement is up to 20% which would represent approximately CAD $27.2M (or an average of $5.4M per year) of the contract. The contract is a professional services agreement whereby KWESST will provide qualified software and sustainment resources engineering (at rates agreed to in the contract) on a task-based (as-and-when requested basis) to develop specialized (Government of Canada owned) software applications for Land (Canadian Army) Command, Control, Communications, Computers Intelligence, Surveillance and Reconnaissance (LC4ISR) systems. The Company has estimated that the value of work it will perform over the 5-year term will be a minimum of CAD $4 million on average per year. The timing and extent of work performed (and therefore revenue) is at the customer's discretion and based on the issuance of task orders under the agreement as well as agreement with the JV partners on the division of tasks.
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KWESST MICRO SYSTEMS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS THREE AND NINE MONTHS ENDED JUNE 30, 2023 |
• At the date of this filing, the customer has issued three Statement's of Work (SOWs) for three initial tasks to commence the transition from the incumbent (ADGA). The Company expects, once finalized and once formal approvals have been received, to hire and supply 11 resources under these SOWs which would represent an annualized revenue of approximately CAD $2.2 million. Once the full transition is complete, the Company expects that further work tasks related to certain risk reduction activities, and mostly focused on the TAK/C2OTM capabilities of KWESST will begin to be issued. This would further increase the Company's annualized revenue on the contract, the extent to which can only be estimated once the tasks are issued.
The contract award is subject to customary termination provisions for Government of Canada contracts of this nature which, among other things, allows the Government to terminate for convenience. While the Company has provided a conservative estimate of its value over the life of the contract, the program is critical to the operation of the Canadian Military and we expect that the customer will make use of the majority of the budget awarded under the contract over the 5-year term. The contract also includes five one-year extension options which could extend the length of the contract to a total of up to ten years.
• On May 30, 2023 we announced that Sean Homuth would be appointed as Chief Financial Officer and Chief Compliance Officer effective June 12, 2023. Mr. Homuth is a senior financial executive with more than 20 years of experience working with both Canadian and U.S. public companies across a broad range of industries. He has experience with a variety of financing (equity, debt, royalty) and M&A transactions. Since 2008, he has spent the majority of his time in various senior executive roles with emerging companies. He leads the accounting and controllership, tax planning, financial planning and analysis, investor relations, treasury, human resources and IT functions at KWESST. He also serves as the Company's Chief Compliance Officer. Mr. Homuth is a Chartered Professional Accountant (CPA, CA Ontario) and a Certified Public Accountant (Illinois).
The following is a summary of major highlights that occurred since Q3 Fiscal 2023:
• On July 19, 2023, we announced a brokered private placement offering in the United States (the "Private Placement") and in connection with the Private Placement, that we had entered into a placement agency agreement (the "Placement Agency Agreement") with ThinkEquity LLC ("ThinkEquity"), the Securities Purchase Agreement and a registration rights agreement (the "Registration Rights Agreement") with the Selling Securityholders, all of whom are accredited or institutional accredited investors.
Under the Securities Purchase Agreement, on July 21, 2023 we sold 1,542,194 Common Shares at a price of USD$2.26 (CAD$2.98) per share and 930,548 Pre-Funded Warrants at a price of USD$2.26 (CAD$2.98) per warrant to the Selling Securityholders, with each Common Share and Pre-funded Warrant being bundled with one Warrant. Although the Common Shares and Pre-Funded Warrants were each bundled with a Warrant, each security was issued separately.
Under the Placement Agency Agreement, ThinkEquity acted as sole placement agent for the Private Placement. As compensation for services rendered, we paid ThinkEquity a cash fee of USD$475,013.14 representing 8.5% of the aggregate gross proceeds of the Private Placement and issued 123,637 Warrants to purchase 123,637 Common Shares, representing 5% of the Common Shares and Pre-Funded Warrants sold in the Private Placement. The Warrants issued to ThinkEquity were exercisable, in whole or in part, immediately upon issuance and expire 60 months after July 21, 2023 and have an initial exercise price of USD$2.66 (CAD$3.50) per Common Share. In addition, we granted ThinkEquity a right of first refusal for a period of twelve (12) months beginning on May 19, 2023, to act as sole investment banker, sole book-runner and/or sole placement agent for public and private equity and debt offerings.
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KWESST MICRO SYSTEMS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS THREE AND NINE MONTHS ENDED JUNE 30, 2023 |
Under the Registration Rights Agreement, we agreed with the Selling Securityholders to use reasonable best efforts to file a resale registration statement on Form F-1 with the SEC to register for resale the Common Shares, Pre-funded Warrant Shares and Warrant Shares sold in the Private Placement and to use reasonable best efforts to cause such registration statement to be declared effective by the SEC.
• On July 25, 2023, we announced the filing of a U.S. patent application for the core module of our next-generation
BLDS, branded "BLaDE" and will make the BLaDE module available as a plug-and-play offering to third-party OEMs for incorporation into their new and legacy electro-optical systems on armored vehicles.
• Subsequent to June 30, we reached settlements in two outstanding claims against the Company, one from a former employee and one from a former consultant. We expect to incur approximately $265K to satisfy the terms of the settlements exclusive of legal fees.
• Subsequent to June 30, we shipped a BLDS system to a NATO country customer.
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KWESST MICRO SYSTEMS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS THREE AND NINE MONTHS ENDED JUNE 30, 2023 |
| RESULTS OF OPERATIONS |
The following selected financial data has been extracted from Q3 Fiscal 2023 FS.
| Three months ended June 30, | Nine months ended June 30, | Change | |||||||||||||
| 2023 | 2022 | 2023 | 2022 | % | |||||||||||
| Revenue | $ | 150,269 | $ | 282,432 | $ | 629,005 | $ | 466,148 | 35% | ||||||
| Cost of sales | (113,471 | ) | (238,350 | ) | (381,689 | ) | (405,841 | ) | -6% | ||||||
| Gross profit | 36,798 | 44,082 | 247,316 | 60,307 | 310% | ||||||||||
| Gross margin % | 24.5% | 15.6% | 39.3% | 12.9% | |||||||||||
| Operating Expenses | |||||||||||||||
| General and administrative ("G&A") | 1,802,054 | 1,322,730 | 4,446,512 | 3,410,887 | 30% | ||||||||||
| Selling and marketing ("S&M") | 731,543 | 851,705 | 2,338,646 | 2,931,460 | -20% | ||||||||||
| Research and development ("R&D") | 457,028 | 350,689 | 1,026,537 | 1,610,445 | -36% | ||||||||||
| Total operating expenses | 2,990,625 | 2,525,124 | 7,811,695 | 7,952,792 | -2% | ||||||||||
| Operating loss | (2,953,827 | ) | (2,481,042 | ) | (7,564,379 | ) | (7,892,485 | ) | -4% | ||||||
| Other expenses | |||||||||||||||
| Share issuance recovery (costs) | - | - | (1,309,545 | ) | - | N/A | |||||||||
| Gain on acquisition | - | 41,869 | - | 41,869 | -100% | ||||||||||
| Net finance costs | (40,826 | ) | (184,177 | ) | (595,510 | ) | (304,298 | ) | 96% | ||||||
| Foreign exchange gain (loss) | 24,332 | 22,901 | (125,708 | ) | 22,602 | -656% | |||||||||
| Loss on disposals | - | - | - | (1,165 | ) | -100% | |||||||||
| Change in fair value of warrant liabilities | (481,704 | ) | - | 2,707,691 | - | N/A | |||||||||
| Total other income (expenses), net | (498,198 | ) | (119,407 | ) | 676,928 | (240,992 | ) | -381% | |||||||
| Net loss | $ | (3,452,025 | ) | $ | (2,600,449 | ) | $ | (6,887,451 | ) | $ | (8,133,477 | ) | -15% | ||
| EBITDA loss | $ | (3,125,443 | ) | $ | (2,336,150 | ) | $ | (5,682,307 | ) | $ | (7,603,871 | ) | -25% | ||
| Adjusted EBITDA loss | $ | (2,628,857 | ) | $ | (1,532,263 | ) | $ | (6,638,484 | ) | $ | (5,291,673 | ) | 25% | ||
| Loss per share - basic and diluted | $ | (0.81 | ) | $ | (3.50 | ) | $ | (2.04 | ) | $ | (11.32 | ) | -82% | ||
| Weighted average common shares - basic | 4,272,663 | 742,697 | 3,374,705 | 718,400 | 370% | ||||||||||
(1) EBITDA and Adjusted EBITDA are non-IFRS measures. See "Non-IFRS Measures". See below for "Reconciliation of Non-IFRS Measure".
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KWESST MICRO SYSTEMS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS THREE AND NINE MONTHS ENDED JUNE 30, 2023 |
In the following table, we have reconciled EBITDA and Adjusted EBITDA to the most comparable IFRS financial measure.
| Three months ended June 30, | Nine months ended June 30, | |||||||||||
| 2023 | 2022 | 2023 | 2022 | |||||||||
| Net loss as reported under IFRS | $ | (3,452,025 | ) | $ | (2,600,449 | ) | $ | (6,887,451 | ) | $ | (8,133,477 | ) |
| Net finance costs | 40,826 | 184,177 | 595,510 | 304,298 | ||||||||
| Depreciation and amortization | 285,756 | 80,122 | 609,634 | 225,308 | ||||||||
| EBITDA loss | (3,125,443 | ) | (2,336,150 | ) | (5,682,307 | ) | (7,603,871 | ) | ||||
| Other adjustments: | ||||||||||||
| Share issuance recovery (costs) | - | - | 1,309,545 | - | ||||||||
| Share-based compensation | 39,214 | 524,931 | 316,261 | 1,875,392 | ||||||||
| Change in fair value of warrant liabilities | 481,704 | - | (2,707,691 | ) | - | |||||||
| Professional fees relating to U.S. financing | - | 343,726 | - | 500,112 | ||||||||
| Gain on acquisition | - | (41,869 | ) | - | (41,869 | ) | ||||||
| Foreign exchange loss (gain) | (24,332 | ) | (22,901 | ) | 125,708 | (22,602 | ) | |||||
| Loss on disposals | - | - | - | 1,165 | ||||||||
| Adjusted EBITDA loss | $ | (2,628,857 | ) | $ | (1,532,263 | ) | $ | (6,638,484 | ) | $ | (5,291,673 | ) |
For Q3 and YTD Fiscal 2023, KWESST's net loss was $3.5 million and $6.9 million, respectively. Q3 and YTD Fiscal 2023 adjusted EBITDA loss was $2.6 million and $6.6 million, respectively, an increase of 70% and 25% over the comparable prior periods mainly due to increased operating expenses driven by increased personnel costs, consulting costs, professional fees, insurance costs, regulatory and compliance costs, and tradeshows. The adjustments to EBITDA loss for Q3 and YTD Fiscal 2023 included share insurance costs relating to warrant liabilities, and the change in fair value of derivative liabilities, all of which are related to the warrants issued in the U.S. IPO and Canadian Offering (see Notes 12 and 13 of the Q3 Fiscal 2023 financial statements). Due to the lower volume of stock-based grants in the last 12 months immediately prior to June 30, 2023, compared to same prior period, this has resulted in a material reduction in stock-based compensation expense in the current quarter and YTD compared to Q3 and YTD Fiscal 2022.
Revenue
Total revenue decreased by $0.1 million in the third quarter compared to Q3 Fiscal 2022 and increased by $0.2 million in YTD Fiscal 2023 compared to YTD Fiscal 2022, mainly due to an additional $0.1 million generated from our digitization business line and $0.1 million from our non-lethal business line (driven from sale of ARWEN products).
We expect revenue to increase as we formally receive work tasks under the recently announced Canadian Government contract and we commence hiring and staffing of those requirements. We continue to work towards a commercial launch of our PARA OPS, which we now expect to be in 1H fiscal 2024.
Gross Profit
Our gross profit was negligible in Q3 for both Fiscal 2023 and 2022. For YTD Fiscal 2023, we earned $0.2 million or gross margin of 39%, compared to a negligible amount in the same period in 2022. As we are in the pre-revenue stage for most product lines, we expect continued fluctuation in gross profit / margin during Fiscal 2023 as we ramp up anticipated revenue in the fourth quarter.
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KWESST MICRO SYSTEMS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS THREE AND NINE MONTHS ENDED JUNE 30, 2023 |
Operating Expenses ("OPEX")
Total OPEX increased by 18% or $0.5 million for the current quarter over the comparable prior period. Excluding the change in share-based compensation expense (non-cash item), total OPEX for the quarter increased by $1.0 million, primarily for the same reasons as noted below in regards to YTD Fiscal 2023.
Total OPEX was $7.8 million for YTD Fiscal 2023 compared to $8.0 million in YTD Fiscal 2022 for a total decrease of $0.2M. Excluding share-based compensation, total OPEX was $7.4 million compared to $6.1 million, a 23% increase over the comparable prior year due to the following factors:
• G&A increased by $1.0 million, or 30%, primarily due to the retention bonus earned by our former CFO, an increase in senior management and directors compensation to be in line with market, higher consulting fees and retention bonuses relating key personnel in the non-lethal business line. Additionally, we incurred an increase in D&O insurance, professional fees, and compliance costs due to KWESST's Nasdaq listing in December 2022 and subsequent regulatory filing compliance.
• S&M decreased by $0.6 million, or 20%, primarily due to a $0.4 million decrease in share-based compensation expense, coupled with lower U.S. business development consulting costs in YTD Fiscal 2023. This was partially offset by an increase in tradeshow spend to promote our products and consulting fees.
• R&D decreased by $0.6 million, or 36%, primarily due to $0.2 million decrease in share-based compensation expense in YTD Fiscal 2023 in comparison to the comparable prior period. R&D expenses further decreased due to reallocating most of our engineering resources to deliver on customer contracts. The related costs are reported as part of cost of sales (for delivered performance obligations to customers) and work-in-progress inventories. These costs included an increase in payroll costs due to the strong local demand for skilled, experienced engineers.
Other income (expenses), net
For Q3 Fiscal 2023, our total other expenses was $0.5 million, compared to total other expenses of $0.1 million in Q3 Fiscal 2022. This change in other income (expenses), net is due to the same reason noted below for YTD Fiscal 2023.
For YTD Fiscal 2023, our total other income was $0.7 million, compared to total other expenses of $0.2 million. The change in other income (expenses), net was driven mainly by the $2.7 million favorable change in fair value of warrant liabilities as a result of the remeasurement of the warrant liabilities at June 30, 2023, driven by a decrease in the underlying common share price on June 30, 2023. Under IFRS, we are required to remeasure the warrant liabilities at each reporting date until they are exercised or expired. This was partially offset by:
• $0.3 million increase in net finance costs is primarily due to the recognition of the remaining unamortized accretion costs and interest expense relating to the repayment of all outstanding loans, following the closing of the U.S. IPO and Canadian Offering;
• $1.3 million in Share Offering Costs relating to the U.S. IPO and Canadian Offering. Under IFRS, we are required to allocate proportionately the $4.2 million total underwriting and share offering costs (collectively "Share Offering Costs") between equity and warrant liabilities resulting from the U.S. IPO and Canadian offering. The portion of the Share Offering Costs allocated to warrant liabilities were expensed.
• $0.1 million increase in foreign exchange loss due to appreciation in the U.S. currency during the year; and
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KWESST MICRO SYSTEMS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS THREE AND NINE MONTHS ENDED JUNE 30, 2023 |
| SUMMARY OF QUARTERLY RESULTS |
The following tables summarize selected results for the eight most recent completed quarters to June 30, 2023 (unaudited).
| 2023 | 2022 | 2021 | ||||||||||||||||||||||
| ($ in thousands) | Q3 | Q2 | Q1 | Q4 | Q3 | Q2 | Q1 | Q4 | ||||||||||||||||
| Revenue | 150 | 161 | 317 | 255 | 282 | 166 | 17 | 160 | ||||||||||||||||
| Net loss | (3,452 | ) | (1,227 | ) | (2,208 | ) | (2,345 | ) | (2,600 | ) | (2,290 | ) | (2,290 | ) | (2,884 | ) |
Note: due to preparing the table in thousands, there may be rounding differences.
Quarterly Results Trend Analysis
There is no material change to our quarterly results trend from our disclosure in our annual MD&A dated January 27, 2023, except that we expect further volatility with our quarterly revenue during Fiscal 2023 due to ramp up of new military contracts, and into fiscal 2024 as we launch PARA OPS coupled with an increase in operating expenses as highlighted in the Results of Operations. Additionally, we expect further volatility with our quarterly net loss due to the remeasurement of warrant liabilities at each reporting period, with the change in fair value recorded through P&L.
| FINANCIAL CONDITION, LIQUIDITY, AND CAPITAL RESOURCES |
FINANCIAL CONDITION
The following table summarizes our financial position:
| June 30, | September 30, | |||||
| 2023 | 2022 | |||||
| Assets | ||||||
| Current | $ | 4,966,609 | $ | 1,516,393 | ||
| Non-current | 6,033,506 | 5,807,070 | ||||
| Total assets | $ | 11,000,115 | $ | 7,323,463 | ||
| Liabilities | ||||||
| Current | $ | 6,061,344 | $ | 6,925,880 | ||
| Non-current | 1,310,275 | 1,400,474 | ||||
| Total liabilities | 7,371,619 | 8,326,354 | ||||
| Net assets | $ | 3,628,496 | $ | (1,002,891 | ) | |
| Working capital (1) | $ | (1,094,735 | ) | $ | (5,409,487 | ) |
(1) Working capital is calculated as current assets less current liabilities.
Our working capital was negative $1.1 million at June 30, 2023, an increase of $4.3 million from September 30, 2022. The increase was primarily due to net proceeds from the U.S. IPO and Canadian Offering, an increase to inventory and prepaid expenses, offset partially by repayment of all outstanding loans, payments of overdue accounts payables and certain accrued liabilities, and net operating loss for YTD Fiscal 2023. Current liabilities include warrant liabilities, a non-cash liability item (see Note 12 of Q Fiscal 2023). Excluding warrant liabilities, working capital would be $2.0 million. These warrant liabilities will be extinguished when the warrants are exercised or expired. If exercised, the proceeds will provide us with additional capital to fund our future working capital requirements. There is no assurance that any warrants will be exercised.
Total assets increased by $3.7 million from September 30, 2022, mainly due to an increase of $3.5 million in currents assets made up mostly of net proceeds of the U.S. IPO and Canadian Offering, inventory and prepaid expenses, offset partially by repayment of all outstanding loans, payments of overdue accounts payables and certain accrued liabilities.
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KWESST MICRO SYSTEMS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS THREE AND NINE MONTHS ENDED JUNE 30, 2023 |
Total liabilities decreased by $0.9 million from September 30, 2022, to $7.3 million at June 30, 2023, mainly due to a reduction in current liabilities from having paid aged accounts payable subsequent to the closing of our NASDAQ IPO. While we have significantly paid the outstanding accounts payable and fully repaid all outstanding loans during the current year, these were offset by the recognition of warrant liabilities at fair value as noted above. As at June 30, 2023, we had $3.0 million of warrant liabilities.
LIQUIDITY AND CAPITAL RESOURCES
Available Liquidity
Our approach to managing liquidity is to ensure, to the extent possible, that we always have sufficient liquidity to meet our liabilities as they come due. We regularly perform cash flow forecasts to ensure that we have sufficient cash to meet our operational needs while maintaining sufficient liquidity. At this time, we do not use any derivative financial instruments to hedge our currency risk.
At June 30, 2023, our cash position was $1.8 million, an increase of $1.6 million since September 30, 2022 primarily due to net proceeds from the U.S. IPO and Canadian Offering, offset partially by repayment of all outstanding loans, payments of overdue accounts payables and certain accrued liabilities, and net operating loss for YTD Fiscal 2023.
On December 9, 2022, we closed both the U.S. IPO and Canadian Offering pursuant to which we received aggregate gross proceeds of USD$14.1 million (or CAD$19.4 million), before underwriting and offering costs (see below, Capital Resources, for further details including our expected use of proceeds). With the remaining cash position at June 30, 2023 along with the USD$5.6 million private placement closed in July 2023, collections of outstanding receivables, the new Canadian Government Contract and other anticipated contracts, and the commercial launch of PARA OPS in Fiscal 2023, we believe we have sufficient liquidity and capital to timely fund our working capital and contractual obligations, over the next twelve months. However, we may require additional capital in the event we fail to implement our business plan, which could have a material adverse effect on our financial condition and/or financial performance. There is no assurance that we will be able to raise additional capital as they are required in the future. Potential sources of capital may include additional equity and/or debt financings. In our view, the availability of capital will be affected by, among other things, capital market conditions, the success of our PARA OPS system commercialization efforts, timing for winning new customer contracts, potential acquisitions, and other relevant considerations (see Risk Factors). In the event we raise additional funds by issuing equity securities, our existing shareholders will likely experience dilution, and any additional incurrence of indebtedness would result in increased debt service obligations and could require us to agree to operational and financial covenants that could further restrict our operations. Any failure to raise additional funds on terms favorable to us or at all may require us to significantly change or curtail our current or planned operations in order to conserve cash until such time, if ever, that sufficient proceeds from operations are generated, and could result in us not being in a position to advance our commercialization strategy or take advantage of business opportunities.
Consolidated Statements of Cash Flows
The following table summarizes our consolidated statements of cash flows for the respective periods:
| Nine months ended June 30, | ||||||
| 2023 | 2022 | |||||
| Total cash provided by (used in): | ||||||
| Operating activities | $ | (11,346,319 | ) | $ | (3,947,752 | ) |
| Investing activities | (990,463 | ) | (614,028 | ) | ||
| Financing acitivities | 13,925,926 | 2,063,262 | ||||
| Net cash outflows | $ | 1,589,143 | $ | (2,498,518 | ) | |
| Cash, beginning of period | 170,545 | 2,688,105 | ||||
| Cash, end of period | $ | 1,759,688 | $ | 189,587 | ||
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KWESST MICRO SYSTEMS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS THREE AND NINE MONTHS ENDED JUNE 30, 2023 |
Cash used by operating activities
Cash flow used in operating activities increased by $7.4 million to $11.3 million for the nine months ended June 30, 2023 primarily due to payments on overdue payables as well as unpaid voluntary deferred wages, consulting fees, and bonuses until we closed the U.S. IPO and Canadian Offering, coupled with significant prepaid expenses during the nine months ended June 30, 2023. Prepaid expenses increased by $1.1 million mainly due to the renewal of D&O and commercial insurance coverage, royalties relating to future Phantom sales, capital market advisory services, and retention bonus for our head of PARA OPS (refundable in the event he voluntarily terminates prior to a specified date as set by us).
Cash used by investing activities
Cash flow used in investing activities was $1.0 million for the nine months ended June 30, 2023, an increase of $0.4 million from the comparable period, mainly due to additional investment in the product development of our PARA OPS, coupled with additional low-rate initial production equipment for PARA OPS.
Cash provided by financing activities
Cash flow provided by financing activities was $13.9 million in YTD Fiscal 2023 compared to $2 million in Fiscal 2022 primarily due to net proceeds generated from the U.S. IPO and Canadian Offering, partially offset by repayment of all outstanding borrowings during the nine months ended June 30, 2023.
Capital Resources
Our objective in managing our capital is to safeguard our ability to continue as a going concern and to sustain future development of the business. Our senior management is responsible for managing the capital through regular review of financial information to ensure sufficient resources are available to meet operating requirements and investments to support its growth strategy. Our Board of Directors is responsible for overseeing this process. From time to time, we could issue new common shares or debt to maintain or adjust our capital structure. We are not subject to any externally imposed capital requirements.
Our primary sources of capital to date have been from borrowings, security offerings, exercise of stock options and warrants, and, to a lesser extent, pre-commercial revenue. The following is a breakdown of our capital:
| June 30, | September 30, | |||||
| 2023 | 2022 | |||||
| Debt: | ||||||
| Lease obligations | $ | 216,069 | $ | 275,621 | ||
| Borrowings | - | 2,278,774 | ||||
| Warrant liabilities | 3,027,148 | - | ||||
| Equity: | ||||||
| Share capital | 30,950,307 | 19,496,640 | ||||
| Warrants | 2,089,388 | 1,959,796 | ||||
| Contributed surplus | 3,460,772 | 3,551,330 | ||||
| Accumulated other comprehensive loss | (75,281 | ) | (101,418 | ) | ||
| Accumulated deficit | (32,796,690 | ) | (25,909,239 | ) | ||
| Total capital | $ | 6,871,713 | $ | 1,551,504 |
During YTD Fiscal 2023, we fully repaid all outstanding loans following the closing of the U.S. IPO and Canadian Offering. Contractual Obligations and Commitments
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KWESST MICRO SYSTEMS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS THREE AND NINE MONTHS ENDED JUNE 30, 2023 |
At June 30, 2023, our contractual obligations and commitments were as follows:
| 5 years and | |||||||||||||||
| Payment due: | Total | Within 1 Year | 1 to 3 years | 3 to 5 years | beyond | ||||||||||
| Minimum royalty commitments | $ | 1,050,000 | $ | 150,000 | $ | 400,000 | $ | 500,000 | $ | 1,300,000 | |||||
| Accounts payable and accrued liabilities | 2,460,099 | 2,460,099 | - | - | - | ||||||||||
| Lease obligations | 562,088 | 167,236 | 371,019 | 23,833 | - | ||||||||||
| Short-term rental obligations | 35,158 | 35,158 | - | - | - | ||||||||||
| Total contractual obligations | $ | 4,107,345 | $ | 2,812,493 | $ | 771,019 | $ | 523,833 | $ | 1,300,000 | |||||
Shares Outstanding
At June 30, 2023, our authorized capital consists of an unlimited number of Common Shares with no stated par value.
The following table shows the outstanding Common Shares and dilutive securities at June 30, 2023:
| Average | |||||||||
| June 30, | price | Proceeds if | |||||||
| 2023(1) | (CAD $) | Exercised | |||||||
| Common shares | 4,074,588 | ||||||||
| Founders' warrants | 106,000 | $ | 14.00 | $ | 1,484,000 | ||||
| Broker warrants | 643 | $ | 139.97 | $ | 90,000 | ||||
| Warrants | 32,714 | $ | 84.20 | $ | 2,754,399 | ||||
| Pre-funded warrants | 199,000 | $ | 0.01 | $ | 1,990 | ||||
| Warrant liabilities | 3,282,533 | $ | 6.62 | $ | 21,730,368 | ||||
| Over-allotment warrants | 375,000 | $ | 6.62 | $ | 2,482,500 | ||||
| U.S. Underwriter warrants | 134,950 | $ | 6.84 | $ | 923,058 | ||||
| Stock options | 59,907 | $ | 4.10 | $ | 245,619 | ||||
| Restricted stock units (RSUs) | 6,214 | $ | - | $ | - | ||||
| Agents' compensation options: | |||||||||
| Common shares | 50,848 | $ | 5.47 | $ | 278,127 | ||||
| Warrants | 50,848 | $ | 6.62 | $ | 336,715 | ||||
| Total common shares and dilutive securities | 8,373,245 | $ | 30,326,776 | ||||||
(1) Represents the number of shares to be issued upon exercise.
U.S. IPO and Canadian Offering
On December 9, 2022, we closed an underwritten U.S. public offering (the "U.S. IPO") and an underwritten Canadian offering (the "Canadian Offering"). In the U.S. IPO, we sold 2.5 million units at a public offering price of US$4.13 per unit (the "Unit"), consisting of one share of common stock and one warrant to purchase one share of common stock ("Warrant"). The Warrants have a per share exercise price of US$5.00, can be exercised immediately, and expire five years from the date of issuance. In connection with the closing of the U.S. IPO, the underwriter partially exercised its over-allotment option to purchase an additional 199,000 pre-funded common share purchase warrants and 375,000 warrants to purchase Common Shares. All these warrants will expire on December 8, 2027.
In the Canadian Offering, we sold 726,392 units, each consisting of one Common Share and one warrant to purchase one Common Share, at a price to the public of US$4.13 per unit. The warrants will have a per Common Share exercise price of US$5.00, are exercisable immediately and expire five years from the date of issuance.
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KWESST MICRO SYSTEMS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS THREE AND NINE MONTHS ENDED JUNE 30, 2023 |
The closing of the U.S. IPO and Canadian Offering resulted in aggregate gross proceeds of US$14.1 million (CAD $19.4 million). After underwriting discounts and offering expenses, the net proceeds were US$11.2 million (CAD $15.2 million). See Note 13 of Q3 Fiscal 2023 FS for further details.
For the estimated use of proceeds from the U.S. IPO and Canadian Offering, refer to our annual MD&A for Fiscal 2022 dated January 27, 2023.
Shares for Debt Settlement
On December 13, 2022, we issued 56,141 Units to settle $12,000 of the March 2022 loans and USD$223,321 of the August 2022 loans, including unpaid accrued interest and 10% premium at maturity. See Note 13(a) of Q2 Fiscal 2023 for further details.
| OFF-BALANCE SHEET ARRANGEMENTS |
We have no off-balance sheet arrangements that have or are reasonably likely to have, a current or future effect on our results of operations, financial condition, revenues or expenses, liquidity, capital expenditures or capital resources.
| RELATED PARTY TRANSACTIONS |
Refer to Note 9 of Q3 Fiscal 2023 FS for disclosure about KWESST's related party transactions conducted in the normal course of business.
| FINANCIAL INSTRUMENTS AND OTHER INSTRUMENTS |
We recognize financial assets and liabilities when we become party to the contractual provisions of the instrument. On initial recognition, financial assets and liabilities are measured at fair value plus transaction costs directly attributable to the financial assets and liabilities, except for financial assets or liabilities at fair value through profit and loss, whereby the transactions costs are expensed as incurred.
Refer to Note 17 of the Q3 Fiscal 2023 FS for further disclosure our financial instruments.
| CRITICAL ACCOUNTING POLICIES AND ESTIMATES |
Refer to Note 2(f) of the Fiscal 2022 audited consolidated financial statements for a discussion of the accounting policies and estimates that are critical to the understanding of our business operations and the results of our operations.
| OUTSTANDING SHARE INFORMATION |
At June 30, 2023, KWESST's authorized capital consists of an unlimited number of common shares with no stated par value. There were 4,074,588 outstanding and issued common shares as at June 30, 2023.
| SUBSEQUENT EVENT |
On July 21, 2023, the Company announced the closing of a US$5.688 million private placement in the United States. As part of the offering the Company issued 1,542,194 common shares at a price of US$2.26 (CAD$2.98) per common share and 930,548 pre-funded warrants at a price of us$2.26 (CAD$2.98) per pre-funded warrant, with each common share and pre- funded warrant being bundled with one common share purchase warrant of the Company. Each pre-funded warrant entitles the holder to acquire one common share at an exercise price of US$0.01 per common share, and each common warrant is immediately exercisable and entitles the holder to acquire one common share at an exercise price of US$2.66 (CAD$3.50) per common share for a period of 60 months following the closing of the offering.
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KWESST MICRO SYSTEMS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS THREE AND NINE MONTHS ENDED JUNE 30, 2023 |
ThinkEquity acted as sole placement agent for the Offering. As compensation for services rendered, the Company paid to ThinkEquity a cash fee of US$475,013.14 representing 8.5% of the aggregate gross proceeds of the Offering and issued 123,637 warrants to purchase a number of Common Shares (the "Placement Agent Warrants", representing 5% of the Common Shares and Pre-Funded Warrants sold in the Offering. The Placement Agent Warrants, will be exercisable, in whole or in part, immediately upon issuance and will expire 60 months after the closing date of the Offering at an initial exercise price of US$2.66 (CAD$3.50) per Common Share.
During the period ending June 30, 2023, and subsequent to period end, the Company reached settlements in two separate litigation cases involving a former employee and former consultant. The Company accrued approximately $267,000 related to these settlements at June 30. The Company expects to finalize all payments related to the settlements in Q4.
| DISCLOSURE CONTROLS AND PROCEDURES AND INTERNAL CONTROLS OVER FINANCIAL REPORTING |
As a result of our Nasdaq listing on December 6, 2022, KWESST ceased to be a "venture issuer", resulting in KWESST becoming subject to additional requirements under applicable laws relating to the establishment and maintenance of disclosure controls and procedures and internal controls over financial reporting, as defined in National Instrument NI 52- 109 "Certification of Disclosures in Issuers' Annual and Interim Filings" ("NI 52-109"), starting with this interim filing. During the three months ended March 31, 2023, we hired a third party consulting firm to assist management with the review and assessment of the following, which remains ongoing and additional matters may come to our attention.
Disclosure controls and procedures ("DC&P")
Our CEO and Interim CFO are responsible for establishing and maintaining our DC&P. These DC&P are designed to provide reasonable assurance that information required to be publicly disclosed is recorded, processed, summarized and reported on a timely basis. Our CEO and Interim CFO have evaluated the design and effectiveness of our DC&P at the end of the quarter and based on the evaluation have concluded that, as a result of the material weakness described below, our DC&P were not effective as at June 30, 2023.
We had an aggregation of deficiencies within our IT general controls across multiple systems, including deficiencies related to segregation of duties and user access. As a result, we concluded that the process-level automated and manual controls in the areas of journal entries, revenue and inventory costing that are dependent on IT general controls, information, and data derived from affected IT systems were also ineffective because they could have been adversely impacted. This material weakness creates a reasonable possibility that material misstatements in interim or annual financial statements would not be prevented or detected on a timely basis. As a result of the identification of this material weakness, we performed additional analysis and other post-closing procedures.
Internal controls over financial reporting ("ICFR")
Our ICFR are designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with IFRS. Our management is responsible for establishing and maintaining adequate ICFR. Management, including CEO and Interim CFO, does not expect that our ICFR will prevent or detect all errors and all fraud or will be effective under all future conditions. A control system is subject to inherent limitations and even those systems determined to be effective can provide only reasonable, but not absolute, assurance that the control objectives will be met with respect to financial statement preparation and presentation.
NI 52-109 requires the CEO and Interim CFO to certify that they are responsible for establishing and maintaining ICFR for KWESST and that those internal controls have been designed and are effective in providing reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements in accordance with IFRS. Our CEO and Interim CFO are also responsible for disclosing any changes to our internal controls during the most recent period that have materially affected, or are reasonably likely to materially effect, our ICFR. Our management under the supervision of our CEO and Interim CFO has evaluated the design of our ICFR based on the Internal Control - Integrated Framework issued in 2013 by the Committee of Sponsoring Organizations of the Treadway Commission.
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KWESST MICRO SYSTEMS INC. MANAGEMENT'S DISCUSSION AND ANALYSIS THREE AND NINE MONTHS ENDED JUNE 30, 2023 |
As at June 30, 2023, management assessed the design of our ICFR and concluded that our ICFR includes a material weakness as previously noted above. To compensate for this material weakness, management continues to perform additional account reconciliations and other analytical and substantive procedures to ensure reliable financial reporting and the preparation of financial statements in accordance with IFRS. The material weakness will not be considered remediated until the applicable controls operate for a sufficient period of time and management has concluded, through testing, that these controls are operating effectively.
Remediation Plan
In Q2 the Company announced the upcoming departure of its CFO who formally left at the beginning of Q3. His replacement was not hired and onboarded until the end of Q3. Given this, and the fact that the conclusion regarding the material weakness was identified late in Q2, we have not had adequate time to develop a remediation plan to remedy the material weakness described above. We expect to complete the remediation plan by the end of Fiscal 2023 and remedy the material weakness throughout Fiscal 2024 until the material weakness is remedied.
Although there can be no assurance that we will timely implement the remediation plan or that additional material weaknesses in our ICFR will not be identified in the future, management believes the foregoing efforts will, when implemented, strengthen our ICFR and DC&P and effectively remediate the identified material weakness. Management will take additional remedial actions as necessary as they continue to evaluate and work to improve KWESST's ICFR environment.
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FORM 52-109F2 CERTIFICATION OF INTERIM FILINGS FULL CERTIFICATE |
I, Jeffrey MacLeod, Chief Executive Officer of KWESST Micro Systems Inc., certify the following:
1. Review: I have reviewed the interim financial report and interim MD&A (together, the "interim filings") of KWESST Micro Systems Inc. (the "issuer") for the financial quarter ended June 30, 2023.
2. No misrepresentations: Based on my knowledge, having exercised reasonable diligence, the interim filings do not contain any untrue statement of a material fact or omit to state a material fact required to be stated or that is necessary to make a statement not misleading in light of the circumstances under which it was made, with respect to the period covered by the interim filings.
2. Fair presentation: Based on my knowledge, having exercised reasonable diligence, the interim financial report together with the other financial information included in the interim filings fairly present in all material respects the financial condition, financial performance and cash flows of the issuer, as of the date of and for the periods presented in the interim filings.
3. Responsibility: The issuer's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (DC&P) and internal control over financial reporting (ICFR), as those terms are defined in National Instrument 52-109 Certification of Disclosure in Issuers' Annual and Interim Filings, for the issuer.
5. Design: Subject to the limitations, if any, described in paragraphs 5.2 and 5.3, the issuer's other certifying officer(s) and I have, as at the end of the period covered by the interim filings
(a) designed DC&P, or caused it to be designed under our supervision, to provide reasonable assurance that
(i) material information relating to the issuer is made known to us by others, particularly during the period in which the interim filings are being prepared; and
(ii) information required to be disclosed by the issuer in its annual filings, interim filings or other reports filed or submitted by it under securities legislation is recorded, processed, summarized and reported within the time periods specified in securities legislation; and
(b) designed ICFR, or caused it to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with the issuer's GAAP.
5.1 Control framework: The control framework the issuer's other certifying officer(s) and I used to design the issuer's ICFR is the Internal Control - Integrated Framework (COSO Framework 2013) published by The Committee of Sponsoring Organizations of the Treadway Commission (COSO).
5.2 ICFR - material weakness relating to design: The issuer has disclosed in its interim MD&A for each material weakness relating to design existing at the end of the interim period:
(a) a description of the material weakness;
(b) the impact of the material weakness on the issuer's financial reporting and its ICFR; and
(c) the issuer's current plans, if any, or any actions already undertaken, for remediating the material weakness.
5.3 Limitation on scope of design: N/A
6. Reporting changes in ICFR: The issuer has disclosed in its interim MD&A any change in the issuer's ICFR that occurred during the period ended June 30, 2023 that has materially affected, or is reasonably likely to materially affect, the issuer's ICFR.
Date: August 14, 2023
| (s) Jeffrey MacLeod | ||
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Jeffrey MacLeod Chief Executive Officer |
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FORM 52-109F2 CERTIFICATION OF INTERIM FILINGS FULL CERTIFICATE |
I, Sean Homuth, Chief Financial Officer of KWESST Micro Systems Inc., certify the following:
1. Review: I have reviewed the interim financial report and interim MD&A (together, the "interim filings") of KWESST Micro Systems Inc. (the "issuer") for the financial quarter ended June 30, 2023.
2. No misrepresentations: Based on my knowledge, having exercised reasonable diligence, the interim filings do not contain any untrue statement of a material fact or omit to state a material fact required to be stated or that is necessary to make a statement not misleading in light of the circumstances under which it was made, with respect to the period covered by the interim filings.
2. Fair presentation: Based on my knowledge, having exercised reasonable diligence, the interim financial report together with the other financial information included in the interim filings fairly present in all material respects the financial condition, financial performance and cash flows of the issuer, as of the date of and for the periods presented in the interim filings.
3. Responsibility: The issuer's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (DC&P) and internal control over financial reporting (ICFR), as those terms are defined in National Instrument 52-109 Certification of Disclosure in Issuers' Annual and Interim Filings, for the issuer.
5. Design: Subject to the limitations, if any, described in paragraphs 5.2 and 5.3, the issuer's other certifying officer(s) and I have, as at the end of the period covered by the interim filings
(a) designed DC&P, or caused it to be designed under our supervision, to provide reasonable assurance that
(i) material information relating to the issuer is made known to us by others, particularly during the period in which the interim filings are being prepared; and
(ii) information required to be disclosed by the issuer in its annual filings, interim filings or other reports filed or submitted by it under securities legislation is recorded, processed, summarized and reported within the time periods specified in securities legislation; and
(b) designed ICFR, or caused it to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with the issuer's GAAP.
5.1 Control framework: The control framework the issuer's other certifying officer(s) and I used to design the issuer's ICFR is the Internal Control - Integrated Framework (COSO Framework 2013) published by The Committee of Sponsoring Organizations of the Treadway Commission (COSO).
5.2 ICFR - material weakness relating to design: The issuer has disclosed in its interim MD&A for each material weakness relating to design existing at the end of the interim period:
(a) a description of the material weakness;
(b) the impact of the material weakness on the issuer's financial reporting and its ICFR; and
(c) the issuer's current plans, if any, or any actions already undertaken, for remediating the material weakness.
5.3 Limitation on scope of design: N/A
6. Reporting changes in ICFR: The issuer has disclosed in its interim MD&A any change in the issuer's ICFR that occurred during the period ended June 30, 2023 that has materially affected, or is reasonably likely to materially affect, the issuer's ICFR.
Date: August 14, 2023
| (s) Sean Homuth |
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Sean Homuth Chief Financial Officer |