Surna Reports Q2 2017 Results

The fixed cost component represents engineering, manufacturing and project management salaries and benefits, which totaled $273,000, or 16% of total revenue, for the three months ended June 30, 2017 as compared to $240,000, or 13% of total revenue, for three months ended June 30, 2016.

The variable cost component represents our cost of equipment, outside engineering costs, shipping and handling, travel and warranty costs, which was $1,054,000, or 61% of total revenue, in the three months ended June 30, 2017 as compared to $1,339,000, or 71% of total revenue, in the three months ended June 30, 2016. The second quarter costs were higher due to a warranty charge of $455,000 to replace a customer's system. Additionally, we increased our allowance for slow moving and obsolete inventory by $208,000 for specifically-built inventory sold to a customer, who would not accept delivery.

Our standard controlled environment agriculture project consists of small chillers, fan-coils, and dehumidifiers, the major equipment items which we manufacture.  Other required equipment items typically consist of large chillers, pumps, air separators and expansion tanks, which we purchase from outside vendors.  We believe our core competency is to provide integration services for these equipment items delivering a fully engineered, turn-key, single-source solution to our customers.

This integrated solution can create gross profit margin fluctuations depending on project design and the mix between our proprietary equipment, which typically generates a higher gross profit margin, and the equipment manufactured by outside vendors, which has a lower gross profit margin.  Further, quarterly fluctuations in gross profit margins can occur based on the timing of a project's needs for our manufactured equipment versus third party manufactured equipment.

Operating expenses increased by 163% from $612,000 for three months ended June 30, 2016 to $1,610,000 for three months ended June 30, 2017.

The most significant component of our increased operating expenses in the three months ended June 30, 2017 were selling, general and administrative expenses ("SG&A expenses"). SG&A expenses increased by $845,000, or 184%, from $459,000 for the three months ended June 30, 2016 to $1,304,000 for three months ended June 30, 2017. The increase in SG&A expenses for the three months ended June 30, 2017 is due primarily to the following: (i) $474,000 in additional compensation to our independent directors (comprised of $249,000 for equity retention awards for new directors, $18,000 in cash retainer fees, and $207,000 for equity awards to a former director), (ii) $92,000 for additional sales personnel, (iii) an increase in travel cost of $40,000, (iv) increased professional fees of $134,000, (v) an increase of $65,000 for a one-time cash and equity-based payment to an investment banking firm, and (vi) an increase of $40,000 for other related costs.

Marketing expenses increased by $150,000, from $59,000 in the three months ended June 30, 2016 to $210,000 for the three months ended June 30, 2017, an increase of 254%.  We have invested in re-branding the Surna name, including the redevelopment of our website and marketing materials.  We have also increased our presence at industry trade shows and events.

Overall, we realized a net loss of $1,073,000 for three months ended June 30, 2017 as compared to a net loss of $704,000 for three months ended June 30, 2016, an increase of $369,000, or 52%.

Regulatory Changes are Leading Indicator for New Facility Construction 

The demand for our products and services is primarily based on the new construction of cannabis cultivation facilities in certain states in the U.S. and Canada.

Recent and anticipated regulatory changes involving medicinal and/or recreational cannabis use in various jurisdictions, such as California, tends to be a leading indicator for the granting of licenses for new facility construction. As more new cultivation facilities become licensed, we in turn have more opportunities to sell our systems.

For 2017, we are focused on new facility construction in California, where recreational cannabis use was approved in November 2016, and in Canada, where federal legalization legislation has been introduced and recreational cannabis use appears to be gaining support.

Contract Milestones and Revenue Model 

While our typical project sales contract is non-cancellable, there are risks that we may not realize the full contract value in a timely manner, or at all. Completion of a sales contract is dependent upon our customers' ability to secure, license and build their growing facility and take possession of the equipment. In order to address these risks, we have three key milestones built into our contracts.

- First, we provide our customer with engineering plans for which we require an upfront deposit before we begin our services. In many cases, the engineering phase is done as part of the license application or building permit process, and which represents on average approximately 10% of the total contract value, and takes approximately four to six weeks to complete. We previously required a larger initial deposit that covered engineering and initial equipment items. However, beginning in early 2017, we began offering our customers a lower initial deposit for engineering services only. Our strategy is to lock in the sales contract and commence the engineering portion of the project earlier, which is important for a number of reasons: (i) we can assist our customers with their engineering and design plans as part of their licensing application process, (ii) we are better positioned to lock in our technology for the project at an earlier stage, and (iii) we are able to help reduce a customer's time to market.

- Second, upon completion of the engineering phase, it may take our customer on average five months to complete the facility build-out, with possible delays due to financing or other aspects which are beyond our control. Customer delays in obtaining financing and completing facility build-out make the timing of completion of our sales contract unpredictable. For our protection, before we begin manufacturing our proprietary equipment items, we require an upfront deposit that brings the total to approximately 50% of the contract value.

- And third, the last phase of our contract involves procurement and drop-ship delivery of third party manufactured equipment items and commissioning of the system after installation, performed by third parties, is completed. We undertake this step only upon payment of the third and final deposit of the remaining 50% of the contract value.

Sales Contract Backlog  

As of June 30, 2017, we have executed sales contracts with a total unearned contract value of approximately $3,933,000 ("Q2 2017 backlog"), an increase of approximately $143,000 over our Q1 2017 backlog.  Of the total Q2 2017 backlog, approximately $2,012,000 was attributable to sales contracts executed during the three months ended June 30, 2017 and the remaining $1,921,000 is attributed to prior quarters.

About 30% of our Q2 2017 backlog (down from 78% in Q1 2017) is attributable to projects for which we have not received a further deposit on our proprietary equipment and, as a result, there are potential risks of project cancellation or delays. In April 2017, we entered into a sales contract with a value of $1,300,000.  This project is currently in the engineering phase.  Further, a substantial portion of our Q2 2017 backlog is not expected to be recognized as revenue until the fourth quarter of 2017 or the first half of 2018.

In an effort to increase our bookings and grow our revenue, we have (i) recently hired a new director of sales and business development, (ii) are in the process upgrading our lead generation and business development system, (iii) upgrading our technology platform, (iv) overhauling our project management processes, (v) hiring more experienced sales personnel, and (vi) implementing improved management information systems to increase sales pipeline visibility and associated accountability for each salesman.

Balance Sheet; Capital Requirements 

We had a deficit in working capital (current liabilities in excess of current assets) of $778,000 as of June 30, 2017 as compared to a working capital deficit of $2,860,000 as of December 31, 2016. This change in working capital is primarily related to the $2,685,000 we raised in a private placement of our common stock and attached warrants and the conversion, to common stock, of the convertible promissory notes and related interest payable during the six months ended June 30, 2017.

Management has determined our June 30, 2017 cash balance of $1,353,000 and cash flow from operations will not be sufficient to fund our operations over the next 12 months. Based on management's estimate for our operational cash requirements and assuming we will not have to make payments for the promissory notes in the principal amount of $537,500 which were issued in February 2017 and mature in November 2017 (see "Other Developments" below), we may require additional capital as early as the fourth quarter of 2017.

If we are unable to generate sufficient cash flow from operations, make adjustments to our payment arrangements or raise sufficient additional capital through future debt and equity financings or strategic and collaborative ventures with potential partners, we will likely have to reduce the size and scope of our operations. Our officers and shareholders have not made any written or oral agreement to provide us additional financing. There can be no assurance that we will be able to continue to raise capital on terms and conditions that are deemed acceptable to us, or at all.

Other Developments  

On August 8, 2017, we executed an amendment (the "Amendment") with both holders of our outstanding promissory notes, each in the original principal amount of $268,750.  The Amendment provides for each of the holders notes to convert its principal into 2,800,000 shares, or 5,600,000 shares in the aggregate, of the Company's common stock, at a price per share of approximately $0.096.  In connection with this Amendment, the holders are also each willing to surrender to the Company the portion of the promissory notes representing the accrued interest as the consideration for this Amendment, which approximates $16,900 in total.  The closing of the transactions contemplated by the Amendment is expected to occur on or about August 15, 2017.  Following this conversion, the Company will have no debt outstanding.

About Surna, Inc. 

Surna Inc. ( http://www.surna.com ) develops innovative technologies and products that monitor, control and or address the energy and resource intensive nature of indoor cannabis cultivation. Currently, our revenue stream is based on our main product offerings - supplying industrial technology and products to commercial indoor cannabis grow facilities.

Headquartered in Boulder, Colorado, our diverse engineering team is tasked with creating novel energy and resource efficient solutions, including our signature water-cooled climate control platform. Our engineers continuously seek to create technology that solves the highly specific demands of the cannabis industry for temperature, humidity, light and process control.

Our goal is to provide intelligent solutions to improve the quality, the control and the overall yield and efficiency of controlled environment agriculture.  Though our customers do, we neither produce nor sell cannabis.

Forward Looking Statements 

This press release may contain statements of a forward-looking nature relating to future events.  These forward-looking statements are subject to the inherent uncertainties in predicting future results and conditions.  These statements reflect Surna's current beliefs, and a number of important factors could cause actual results to differ materially from those expressed in this press release, including the factors set forth in "Risk Factors" set forth in Surna's Form 10-K and Form 10-Q filed with the Securities and Exchange Commission ("SEC"), and subsequent filings with the SEC.  Please refer to Surna's SEC filings for a more detailed discussion of the risks and uncertainties associated with its business, including but not limited to the risks and uncertainties associated with Surna's ability to monetize service components, Surna's support of premium prices for existing products, commercialization of research and development efforts and continued expansion of legal cannabis markets. Other risks and uncertainties include, among others, risks related to new products, services, and technologies, government regulation and taxation, and fraud. In addition, the current global economic climate amplifies many of these risks. Except as required by the federal securities laws, Surna undertakes no obligation to revise or update any forward-looking statements, whether as a result of new information, future events or otherwise.  The reference to Surna's website has been provided as a convenience, and the information contained on such website is not incorporated by reference into this press release. 

Statement about Cannabis Markets 

The use, possession, cultivation, and distribution of cannabis is prohibited by federal law. This includes medical and recreational cannabis. Although certain states have legalized medical and recreational cannabis, companies and individuals involved in the sector are still at risk of being prosecuted by federal authorities. Further, the landscape in the cannabis industry changes rapidly. What was the law last week is not the law today and what is the law today may not be the law next week. This means that at any time the city, county, or state where cannabis is permitted can change the current laws and/or the federal government can supersede those laws and take prosecutorial action. Given the uncertain legal nature of the cannabis industry, it is imperative that investors understand that the cannabis industry is a high-risk investment. A change in the current laws or enforcement policy can negatively affect the status and operation of our business, require additional fees, stricter operational guidelines and unanticipated shut-downs.

Surna Inc. 

Condensed Consolidated Balance Sheets 

   
                                                 June 30, 2017        December 31, 2016
                                                   Unaudited
    ASSETS
    Current Assets
    Cash and cash equivalents               $         1,353,072    $            319,546
    Accounts receivable (net of allowance
    for doubtful accounts of $91,000 and
    $91,000 respectively)                               170,802                  47,166
    Notes receivable                                          -                 157,218
    Inventory, net                                      583,593                 747,905
    Prepaid expenses                                    150,465                  84,976
    Total Current Assets                              2,257,932               1,356,811

    Noncurrent Assets
    Property and equipment, net                          78,733                  93,565
    Intangible assets, net                              684,498                 667,445
    Total Noncurrent Assets                             763,231                 761,010

    TOTAL ASSETS                            $         3,021,163    $          2,117,821

    LIABILITIES AND SHAREHOLDERS' EQUITY
    (DEFICIT)

    Current Liabilities
    Accounts payable and accrued
    liabilities                             $         1,543,048    $          1,337,853
    Deferred revenue                                    696,881               1,421,344
    Notes Payable, net                                  500,835                       -
    Amounts due shareholders                             36,205                  57,398
    Convertible promissory notes, net                         -                 761,440
    Convertible accrued interest                              -                 161,031
    Derivative liability on warrants                    259,099                 477,814
    Total Current Liabilities                         3,036,068               4,216,880

    Noncurrent Liabilities
    Amounts due shareholders-long term                        -                  11,985
    Total Noncurrent Liabilities                              -                  11,985

    TOTAL LIABILITIES                                 3,036,068               4,228,865

    SHAREHOLDERS' EQUITY (DEFICIT)
    Preferred stock, $0.00001 par value;
    150,000,000 shares authorized;
    77,220,000 shares issued and
    outstanding                                             772                     772
    Common stock, $0.00001 par value;
    350,000,000 shares authorized;
    183,294,028 and 160,744,916 shares
    issued and outstanding, respectively                  1,832                   1,607
    Additional paid in capital                       16,392,812              12,222,789
                                                    
    Accumulated deficit                             (16,410,321)            (14,336,212)
    Total Shareholders' Equity (Deficit)                (14,905)             (2,111,044)

    TOTAL LIABILITIES AND SHAREHOLDERS'
    EQUITY(DEFICIT)                         $         3,021,163    $          2,117,821

Surna Inc. 

Condensed Consolidated Statements of Operations and Comprehensive Loss 

(Unaudited) 

   
                       For the Three Months
                               Ended                      For the Six Months Ended
                             June 30,                             June 30,
                        2017             2016           2017                 2016
                                                                
    Revenue        $   1,741,893    $  1,891,472    $  3,334,985       $   4,390,077

    Cost of                                                     
    revenue            1,328,895       1,578,753       2,493,651           2,988,697

                                                                
    Gross margin         412,998         312,719         841,334           1,401,380

    Operating
    expenses:
    Advertising
    and marketing                             
    expenses             209,737          59,190         315,942             109,995
    Product
    development                               
    costs                 96,294          93,947         190,083             200,226
    Selling,
    general and
    administrativ                                               
    e expenses         1,303,611         458,779       2,121,571           1,025,376
    Total
    operating                                                   
    expenses           1,609,642         611,916       2,627,596           1,335,597

    Operating                                 
    income (loss)     (1,196,644)       (299,197)     (1,786,262)             65,783

    Other income
    (expense):
    Interest and
    other income,
    net                      342           2,319           3,293               8,484
    Interest                                                    
    expense              (14,620)        (61,709)        (41,734)           (334,681)
    Amortization
    of debt
    discount on
    convertible
    promissory                                                  
    notes                (26,072)       (480,533)        (53,120)           (903,202)
    Loss on
    extinguishment                                       
    of debt                    -               -        (415,000)                  -
    (Loss) gain
    on change in
    derivative                                                  
    liabilities          163,714         135,420         218,714            (286,297)
    Total other
    income                                                      
    (expense)            123,364        (404,503)       (287,847)         (1,515,696)

    Loss before
    provision for                                               
    income taxes      (1,073,280)       (703,700)     (2,074,109)         (1,449,913)

    Provision for
    income taxes               -               -               -                   -

                                                                
    Net loss          (1,073,280)       (703,700)     (2,074,109)         (1,449,913)

    Other
    comprehensive
    income
    (expense)                  -               -               -                   -
    Comprehensive                                               
    loss           $  (1,073,280)    $  (703,700)  $  (2,074,109)     $   (1,449,913)

    Loss per
    common share
    - basic and
    dilutive            $  (0.01)      $   (0.00)     $    (0.01)      $       (0.01)

    Weighted
    average
    number of
    shares
    outstanding,                     
    both basic                                     
    and dilutive     183,294,028     143,516,260     175,955,929         136,889,845

Surna Inc. 

Condensed Consolidated Statements of Cash Flows 

(Unaudited) 

   
                                                 For the Six Months Ended
                                                         June 30,
                                            2017                              2016
    Cash Flows from Operating
    Activities:
                                                                       
    Net loss                     $         (2,074,109)           $         (1,449,913)

    Adjustments to reconcile
    net loss to net cash (used
    in) provided by operating
    activities:
    Depreciation and intangible                                        
    asset amortization expense                 23,042                          29,360
    Amortization of debt
    discounts on convertible                                           
    notes                                      32,957                       1,003,591
    Amortization of original
    issue discount on notes                                            
    payable                                    20,163                          40,806
    (Gain) loss on change in                                           
    derivative liability                     (218,715)                        286,297
                                          
    Compensation paid in equity               391,969                           4,028
    Provision for doubtful                                                  
    accounts                                        -                          44,127
    Gain on sale of assets
    other                                           -                           1,850
    Loss on extinguishment of             
    debt                                      415,000                               -
    Changes in operating assets
    and liabilities:
    Accounts and note                                                  
    receivable                               (101,530)                       (627,804)
                                                                       
    Inventory                                 164,312                         428,733
                                                                       
    Prepaid expenses                          (87,595)                         44,405
    Accounts payable and                                               
    accrued liabilities                       188,320                        (590,724)
                                                                       
    Deferred revenue                         (724,463)                        683,505
                                                                       
    Accrued interest                           (9,602)                        189,713
                                                                            
    Deferred compensation                           -                         (25,600)
                                                                            
    Other liabilities                               -                          (2,213)
    Cash (used in) provided by                                         
    operating activities                   (1,980,251)                         60,161

    Cash Flows From Investing
    Activities:
    Cash disbursed for patent                                          
    fees                                      (19,431)                         (3,813)
    Purchase of property and                                           
    equipment                                  (5,832)                        (15,126)
    Proceeds from the sale of                                               
    property and equipment                          -                          31,000
    Cash disbursed for note                                                 
    receivable                                                                (20,000)
    Cash received from
    repayment of note                                                  
    receivable                                157,218                          50,000
    Cash provided by investing                                         
    activities                                131,955                          42,061

    Cash Flows From Financing
    Activities:
    Proceeds from exercise of
    stock options                                   -                             358
    Cash proceeds from sale of            
    common stock and warrants               2,685,000                               -
    Payments on convertible               
    notes payable                            (270,000)                              -
    Proceeds from issuance of             
    notes payable                             500,000                               -
                                                                            
    Payments on loans                                                         (34,115)
    Payments on loans from                                             
     shareholders                              (33,178)                        (96,168)
    Cash provided by (used in)                                         
    financing activities                    2,881,822                        (129,925)

    Net change in cash and cash                                        
    equivalents                             1,033,526                         (27,703)
    Cash and cash equivalents,                                         
    beginning of period                       319,546                         330,557
    Cash and cash equivalents,                                         
    end of period                $          1,353,072                   $     302,854

    Supplemental cash flow
    information:
    Interest paid                $                  -                   $           -
    Income tax paid              $                  -                   $           -

    Non-cash investing and
    financing activities:
    Conversions of promissory
    notes and accrued interest                                         
    to common stock              $            639,155                   $      889,905
    Derivative liability on
    convertible promissory                                                  
    notes and warrants           $                  -                   $      673,050

Surna Marketing
Jamie English
Marketing Manager
jamie.english@surna.com
+1(303)993-5271

SOURCE Surna, Inc.