Red Cat Holdings, Inc.: Form 10-Q for the period ended Sep 30, 2025

You should read the following discussion and analysis of our financial condition and results of operations together with our financial statements and the related notes appearing elsewhere in this Quarterly Report on Form 10-Q. In addition to historical information, this discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions. Our actual results may differ materially from those discussed below. Factors that could cause or contribute to such differences include, but are not limited to, those identified below, and those discussed in the section titled “Risk Factors” included in our Transition Report on Form 10-KT for the Transition Period ended December 31, 2024 as may be amended, supplemented or superseded from time to time by other reports we file with the SEC. All amounts in this report are in U.S. dollars, unless otherwise noted.

Overview

We are a drone technology company integrating robotic hardware and software for military, government and commercial operations. We were originally incorporated under the laws of the State of Colorado in 1984 under the name “Oravest International, Inc.” In November 2016, we changed our name to “TimefireVR, Inc.” and re-incorporated in Nevada. In May 2019, we completed a share exchange agreement with Propware which resulted in the Propware shareholders acquiring an 83% ownership interest, and management control, of the Company. In connection with the share exchange agreement, we changed our name to “Red Cat Holdings, Inc.”, and our operating focus to the drone industry.

Prior to the share exchange agreement, Propware was focused on the research and development of software solutions that could provide secure cloud-based analytics, storage and services for the drone industry. Following the share exchange agreement and name change, we have completed a series of acquisitions and financings which have broadened the scope of our activities in the drone industry.

Plan of Operations

Since April 2016, the Company’s primary business has been to provide products, services, and solutions to the drone industry which it presently does through its wholly owned consolidated subsidiaries.

Discussion and Analysis of the Three Months Ended September 30, 2025 Compared to the Three Months Ended September 30, 2024

Revenues

Consolidated revenues totaled $9,646,392 during the three months ended September 30, 2025 (or the “2025 period”) compared to $1,292,447 during the three months ended September 30, 2024 (or the “2024 period”) representing an increase of $8,353,945, or 646%. The increase related to higher product revenue as the Company started delivering drones to the US Army under the SRR program.

Gross Profit

Consolidated gross profit totaled $637,502 during the 2025 period compared to a gross loss of $391,963 during the 2024 period representing an increase of $1,029,465. On a percentage basis, gross profit was 7% during the 2025 period compared to a gross loss of 30% during the 2024 period. The gross profit increase was primarily due to higher revenue and lower warranty expense for the Company's product mix in the 2025 period compared to the 2024 period.

Operating Expenses

Research and development expenses totaled $5,968,131 during the 2025 period compared to $1,879,486 during the 2024 period, representing an increase of $4,088,645 or 218%. The increase was primarily due to an increase in professional fees for continued product development and higher payroll expenses due to higher headcount across all entities.

Sales and marketing costs totaled $2,984,677 during the 2025 period compared to $1,968,441 during the 2024 period, representing an increase of $1,016,236 or 52%. The increase was driven by higher payroll and stock based compensation expenses due to an increased headcount.

General and administrative expenses totaled $9,215,783 during the 2025 period compared to $4,108,844 during the 2024 period, representing an increase of $5,106,939 or 124%. The increase was mainly due to payroll expenses and stock based compensation as a result of a higher headcount.

During the 2025 period, we incurred stock-based compensation costs of $3,621,387 compared to $1,277,177 in the 2024 period, resulting in an increase of $2,344,210 or 184%.

Other Expense

Other income totaled $2,209,203 during the 2025 period compared to other expense of $3,991,934 during the 2024 period, representing a decrease of 6,201,137 or 155%. This decrease is primarily related to a loss of $4,008,357 recognized in the 2024 period on the impairment of the investment in Unusual Machines, Inc. In the 2025 period, a gain of $2,448,328 was recognized on extinguishment of convertible notes payable.

Net Loss from Continuing Operations

Net loss from continuing operations totaled $16,016,448 for the 2025 period compared to $12,433,718 for the 2024 period, resulting in an increase of $3,582,730 or 29%.

Discussion and Analysis of the Nine Months Ended September 30, 2025 Compared to the Nine Months Ended September 30, 2024

Revenues

Consolidated revenues totaled $14,494,631 during the nine months ended September 30, 2025 (or the “2025 period”) compared to $14,326,145 during the nine months ended September 30, 2024 (or the “2024 period”) representing an increase of $168,486, or 1%. The increase related to higher product revenue as the Company started delivering drones to the US Army under the SRR program.

Gross Profit

Consolidated gross profit totaled $162,146 during the 2025 period compared to a gross profit of $997,045 during the 2024 period representing a decrease of $834,899, or 84%. On a percentage basis, gross profit was 1% during the 2025 period compared to a gross profit of 7% during the 2024 period. The gross loss in the 2025 period was due to inventory write-offs occurring as we transition sales and production from the Teal 2 to the Black Widow.

Operating Expenses

Research and development expenses totaled $12,998,991 during the 2025 period compared to $4,838,004 during the 2024 period, representing an increase of $8,160,987, or 169%. The increase was primarily due to an increase in professional fees for continued product development and higher payroll expenses due to higher headcount across all entities.

Sales and marketing costs totaled $9,487,010 during the 2025 period compared to $5,582,469 during the 2024 period, representing an increase of $3,904,541 or 70%. The increase was driven by higher payroll and stock based compensation expenses due to an increased headcount.

General and administrative expenses totaled $20,331,980 during the 2025 period compared to $9,931,624 during the 2024 period, representing an increase of $10,400,356 or 105%. The increase was mainly due to payroll expenses and stock based compensation as a result of a higher headcount across all entities.

During the 2025 period, we incurred stock-based compensation costs of $7,255,420 compared to $3,041,219 in the 2024 period, resulting in an increase of $4,214,201 or 139%.

Other Expense

Other expense totaled $9,068,362 during the 2025 period compared to other expense of $6,140,259 during the 2024 period, representing an increase of $2,928,103 or 48%. This increase is primarily related to a fair value adjustment loss of

$12,939,387 recognized in the 2025 period on the February 2025 Note to Lind, based on its fair value, offset by a gain on extinguishment of convertible notes payable of $2,448,328.

Net Loss from Continuing Operations

Net loss from continuing operations totaled $52,418,759 for the 2025 period compared to $26,001,360 for the 2024 period, resulting in an increase of $26,417,399 or 102%.

Cash Flows

Operating Activities

Net cash used in operating activities was $52,656,680 during the nine months ended September 30, 2025 (or the “2025 period”) compared to net cash used in operating activities of $14,692,766 during the nine months ended September 30, 2024 (or the “2024 period”), representing an increase of $37,963,914 or 258%. The increased use of cash primarily related to lower gross profit and higher cash based operating expenses compared to the 2024 period. Net cash used in operations, net of non-cash expenses, totaled $20,094,751 during the 2025 period, compared to $11,135,324 during the 2024 period, resulting in an increase of $8,959,427, or 80%. Net cash used related to changes in operating assets and liabilities totaled $20,332,672 during the 2025 period, compared to net cash provided of $173,270 during the 2024 period, representing an increase of $20,505,942. Changes in operating assets and liabilities can fluctuate significantly from period to period depending upon the timing and level of multiple factors, including inventory purchases, vendor payments, and customer collections.

Investing Activities

Net cash used by investing activities was $1,249,217 during the 2025 period compared to net cash provided by investing activities of $5,250,314 during the 2024 period, resulting in a decrease of $6,499,531. During the 2025 period, proceeds from the divestiture of the consumer segment was $0 compared to $1,000,000 during the 2024 period and proceeds from the sale of equity method investment was $0 compared to $4,400,000 during the 2024 period.

Financing Activities

Net cash provided by financing activities totaled $251,177,596 during the 2025 period compared to net cash used in financing activities of $588,003 during the 2024 period. The increase relates to the proceeds from the issuance of common stock and convertible notes payable during the 2025 period.

Liquidity and Capital Resources

At September 30, 2025, we reported current assets totaling $248,802,498, current liabilities totaling $23,886,568 and net working capital of $224,915,930. Cash totaled $206,425,996 at September 30, 2025. Inventory related balances, including prepaid inventory, totaled $30,595,667.

Critical Accounting Policies and Estimates

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

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

Significant estimates reflected in these financial statements include those used to (i) complete purchase price accounting for acquisitions, (ii) evaluate long-term assets, including goodwill, for impairment, (iii) evaluate inventory reserves for excess and obsolescence and (iv) determine valuations of convertible notes payable and warrants.

Purchase Price Accounting – We record our acquisitions under the acquisition method of accounting, under which most of the assets acquired and liabilities assumed are initially recorded at their respective fair values and any excess purchase price is reflected as goodwill. We utilize management estimates and, in some instances, independent third-party valuation firms to assist in determining the fair values of assets acquired, liabilities assumed and contingent consideration, if any. Such estimates and valuations require us to make significant assumptions, including projections of future events and operating performance.

The fair value of brand name, backlog, customer relationships and proprietary technology acquired in our acquisitions are determined using various valuation methods, based on a number of significant assumptions. We determine which assets have finite lives and then determine the estimated useful life of finite assets. The carrying value of brand name is not being amortized but is reviewed quarterly and formally evaluated at year end for impairment. Backlog, customer relationships and proprietary technology are being amortized over seven years.

The estimated fair values are subject to change during the measurement period, which is limited to one year subsequent to the acquisition date.

Goodwill and Long-lived Assets – Goodwill represents the future economic benefit arising from other assets acquired in an acquisition that are not individually identified and separately recognized. We test goodwill for impairment in accordance with the provisions of *ASC 350, Intangibles – Goodwill and Other, (“*ASC 350”). Goodwill is tested for impairment at least annually at the reporting unit level or whenever events or changes in circumstances indicate that goodwill might be impaired. ASC 350 provides that an entity has the option to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If, after assessing the totality of events or circumstances, an entity determines it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then additional impairment testing is not required. However, if an entity concludes otherwise, then it is required to perform an impairment test. The impairment test involves comparing the estimated fair value of a reporting unit with its book value, including goodwill. If the estimated fair value exceeds book value, goodwill is considered not to be impaired. If, however, the fair value of the reporting unit is less than book value, then an impairment loss is recognized in an amount equal to the amount that the book value of the reporting unit exceeds its fair value, not to exceed the total amount of goodwill allocated to the reporting unit.

The estimate of fair value of a reporting unit is computed using either an income approach, a market approach, or a combination of both. Under the income approach, we utilize the discounted cash flow method to estimate the fair value of a reporting unit. Significant assumptions inherent in estimating the fair values include the estimated future cash flows, growth assumptions for future revenues (including gross profit, operating expenses, and capital expenditures), and a rate used to discount estimated future cash flow projections to their present value based on estimated weighted average cost of capital (i.e., the selected discount rate). Our assumptions are based on historical data, supplemented by current and anticipated market conditions, estimated growth rates, and management’s plans. Under the market approach, fair value is derived from metrics of publicly traded companies or historically completed transactions of comparable businesses. The selection of comparable businesses is based on the markets in which the reporting units operate and consider risk profiles, size, geography, and diversity of products and services.

Inventories – We measure inventory at the lower of cost or net realizable value considering judgments and estimates related to future customer demand and other market conditions. Although we believe these estimates are reasonable, any significant changes in customer demand that are less favorable than our previous estimates may require additional inventory write-downs and would be reflected in cost of sales resulting in a negative impact to our gross margin in that period.

**Convertible Notes Payable –**We measure convertible notes payable at fair value based on significant inputs not observable in the market, which causes them to be classified as Level 3 measurements within the fair value hierarchy. Changes in the fair value of the convertible notes payable relate to updated assumptions and estimates are recognized as a convertible notes payable fair value adjustment within the consolidated statements of operations and comprehensive loss.

In determining the fair value of the convertible notes payable, we use a market-based approach. The valuation method utilizes a negotiated discount rate and a market yield rate which are unobservable inputs.

An increase or decrease in any of the unobservable inputs in isolation could result in a material increase or decrease in the estimated fair value. In the future, depending on the weight of evidence and valuation approaches used, these or other inputs may have a more significant impact on the estimated fair value.

Warrants – The fair value of the warrants issued is estimated using a Monte Carlo simulation model. The significant unobservable inputs for the Monte Carlo model include the stock price, exercise price, risk-free rate of return, time to expiration, and the volatility. An increase or decrease in the unobservable inputs in isolation could result in a material increase or decrease in the estimated fair value. In the future, depending on the weight of evidence and valuation approaches used, these or other inputs may have a more significant impact on the estimated fair value.

We are not required to provide the information required by this Item as we are a “smaller reporting company,” as defined in Rule 12b-2 of the Exchange Act.

Evaluation of Disclosure Controls and Procedures

Our principal executive officer and principal financial officer evaluated the effectiveness of our “disclosure controls and procedures” as of September 30, 2025, the end of the period covered by this Quarterly Report on Form 10-Q. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by a company in the reports that it files under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files under the Exchange Act is accumulated and communicated to a company’s management, including its principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure. Based on the evaluation of our disclosure controls and procedures as of September 30, 2025, our Chief Executive Officer and our Chief Financial Officer concluded that, as of such date, our disclosure controls and procedures were not effective, specifically pertaining to the disclosed and restated financials noted in our report on internal control over financial reporting below. However, the Company continues to address ways to become more effective in managing internal financial reporting controls. This includes increasing headcount to strengthen segregation of duties and implementing better tracking and management protocols.

Management’s quarterly report on internal control over financial reporting.

Our management is responsible for establishing and maintaining adequate internal control over financial reporting. Our internal control over financial reporting is designed to provide reasonable assurances regarding the reliability of financial reporting and the preparation of our consolidated financial statements in accordance with GAAP. Our accounting policies and internal controls over financial reporting, established and maintained by management, are under the general oversight of the Board’s audit committee.

Our internal control over financial reporting includes those policies and procedures that:

• pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of our assets;
• provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with GAAP, and that receipts and expenditures are being made only in accordance with authorizations of our management and directors; and
• provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree or compliance with the policies or procedures may deteriorate.

Management assessed our internal control over financial reporting as of September 30, 2025. The standard measures adopted by management in making its evaluation are the measures in the Internal-Control Integrated Framework published by the Committee of Sponsoring Organizations (“COSO”) of the Treadway Commission.

Based on management’s assessment using the COSO criteria, our CEO and CFO concluded that our internal control over financial reporting was not effective as of September 30, 2025, which was identified during the year ended April 30, 2023 and continues through September 30, 2025. Our size has prevented us from being able to employ sufficient resources to enable us to have an adequate level of supervision and segregation of duties. Therefore, management concluded that we did not have a comprehensive and formalized accounting and financial reporting policies and procedures manual which details the information needed for our financial reporting process and that we did not have a robust review process by which management could monitor for potential errors or technical accounting requirements, which have resulted in material weaknesses in internal control over financial reporting as of September 30, 2025. Management is reviewing internal control procedures and will work to implement enhanced procedures to address the identified material weakness.

Changes In Controls Over Financial Reporting

We are in the process of implementing controls to identify, assess and review the accounting and reporting of non-recurring and complex transactions. As the implementation of these controls occurs, certain changes will be made to our processes and procedures which, in turn, result in changes to our internal control over financial reporting. Management will continue to evaluate and monitor our internal controls as processes and procedures in each of the affected areas evolve. Except for the changes in connection with this implementation of controls around non-recurring and complex transactions, there have been no other changes in our internal control over financial reporting (as defined in Rule 13a-15(f) of the Exchange Act) that occurred during the quarter ended September 30, 2025, that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting.

Limitations on Effectiveness of Controls and Procedures

In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, cannot provide absolute assurance that the objectives of the controls system are met, and no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within a company have been detected. In addition, the design of disclosure controls and procedures must reflect the fact that there are resource constraints and that management is required to apply judgment in evaluating the benefits of possible controls and procedures relative to their costs.

Risk factors that affect our business and financial results are discussed in Part I, Item 1A “Risk Factors,” in our Transition Report on Form 10-KT for the transition period ended December 31, 2024, as filed with the SEC on March 31, 2025 (“Transition Report”), as supplemented by our Quarterly Reports on Form 10-Q. There have been no material changes in our risk factors from those previously disclosed in our Transition Report. You should carefully consider the risks described in such reports which could materially affect our business, financial condition or future results. The risks described in such reports are not the only risks we face. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition, and/or operating results. If any of the risks actually occur, our business, financial condition, and/or results of operations could be negatively affected.