See accompanying notes to condensed consolidated financial statements (unaudited)

APPLIED ENERGETICS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

See accompanying notes to condensed consolidated financial statements (unaudited).

APPLIED ENERGETICS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

See accompanying notes to condensed consolidated financial statements (unaudited).

APPLIED ENERGETICS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

MarchMARCH 31, 20202021

(Unaudited)

NOTE 1 – ORGANIZATION OF BUSINESS, GOING CONCERN AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

The condensed consolidated financial statements include the accounts of Applied Energetics, Inc. and its wholly owned subsidiary North Star Power Engineering, Inc. (“North Star”) (collectively, “company,” “Applied Energetics,” “AERG”, “we,” “our” or “us”). All intercompany balances and transactions have been eliminated.

The accompanying interim unaudited condensed consolidated financial statements include the accounts of Applied Energetics, Inc. and its wholly owned subsidiary North Star Power Engineering, Inc. as of March 31, 2020(“North Star”) (collectively, “company,“Company,” “Applied Energetics,” “we,” “our” or “us”). All intercompany balances and transactionsThe unaudited condensed consolidated financial statements have been eliminated. Inprepared in accordance with accounting principles generally accepted in the opinionUnited States (“GAAP”) for interim financial information, the instructions for Form 10-Q and the rules and regulations of management,the SEC. Accordingly, since they are interim statements, the accompanying unaudited condensed consolidated financial statements do not include all of the information and notes required by GAAP for annual financial statements, but reflect all adjustments (which includeconsisting of normal, recurring adjustments)adjustments, that are necessary for a fair presentation of the financial position, results of operations and cash flows for the interim periods presented have been made. Thepresented. Interim results for the three-month period ended March 31, 2020, mayare not benecessarily indicative of the results that may be expected for any future periods. The December 31, 2020 balance sheet information was derived from the entire year. audited financial statements as of that date. The interim unaudited condensed consolidated financial statements should be read in conjunction with the company’s audited consolidated financial statements contained in our Annual Report on Form 10-K.

Going Concern

The accompanying condensed consolidated financial statements have been prepared on a going concern basis, which contemplates the realization of assets and satisfaction of liabilities in the normal course of business. For the three monthsperiod ended March 31, 2020,2021, the company incurred a net loss of approximately $1,265,000,$1,086,000, had negative cash flows from operations of $787,000approximately $646,000 and may incur additional future losses due to the reduction in Governmentgovernment contract activity. Additionally,At March 31, 2021, the Company had total current assets of approximately $4,559,000 and total current liabilities of approximately $1,600,000 resulting in working capital of approximately $2,959,000. At March 31, 2021, the Company had cash of approximately $4,394,000.

During the three months ended March 31, 2021, the Company completed the issuance of 7,056,250 total shares of its common stock at a price of $0.32 per share, or $2,258,000 in the aggregate.  Based on the Company’s current business plan, it believes its cash balance as of March 31, 2020, the company had a working capital (current assets lessdate of this filing will be sufficient to meet its anticipated cash requirements for the next twelve months. However, there can be no assurance that the current liabilities) deficit of $3,622,000. These mattersbusiness plan will be achievable. Such conditions raise substantial doubt as todoubts about the company’sCompany’s ability to continue as a going concern. The ongoing COVID-19 pandemic contributes to this uncertainty.concern for one year from the date the financial statements are issued.

The company’s existence is dependent upon management’s ability to develop profitable operations. Management is devoting substantially all of its efforts to developing its business and raising capital and there can be no assurance that the company’s efforts will be successful. No assurance can be given that management’s actions will result in profitable operations or the resolution of its liquidity problems. The accompanying consolidated financial statements do not include any adjustments that might result should the company be unable to continue as a going concern for one year from the date the financials are issued.concern.  The ongoing COVID-19 pandemic contributes to this uncertainty.

In order to improve the company’s liquidity, the company’s management is actively pursuing additional equity financing through discussions with investment bankers and private investors. There can be no assurance that the company will be successful in its effort to secure additional equity financing.

The financial statements do not include any adjustments relating to the recoverability of assets and the amount or classification of liabilities that might be necessary should the company be unable to continue as a going concern.

LIQUIDITY AND MANAGEMENT’S PLANApplied Energetics, Inc. is a corporation organized and existing under the laws of the State of Delaware. Our executive office is located at 9070 S. Rita Road Suite 1500, Tucson, Arizona, 85747, we have office and laboratory space at 4595 S Palo Verde Rd, Suite 517, Tucson, AZ 85714 as well as office space at 2480 W Ruthrauff Road, Ste 140Q, Tucson, AZ 85705 and our telephone number is (520) 628-7415.

The accompanying unaudited financial statements have been prepared on a going concern basis, which contemplates the realization of assets and satisfaction of liabilities in the normal course of business. For the three months ended March 31, 2020, the company incurred a net loss of approximately $1,265,000, had negative cash flows from operations of approximately $787,000 and conducted financing activities yielding $1,113,000 in proceeds from the issuance of common stock, partially offset by payments on notes payable of $120,000 and expects to incur additional future losses due to the reactivation of its business activities. These matters raise substantial doubt as to the company’s ability to continue as a going concern unless the company is able to obtain additional financing for its continuing operations. The financial statements do not include any adjustments relating to the recoverability of assets and the amount or classification of liabilities that might be necessary should the company be unable to continue as a going concern.

As of March 31, 2020, the company had approximately $296,000 in cash and cash equivalents.

APPLIED ENERGETICS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

MarchMARCH 31, 20202021

(Unaudited)

USE OF ESTIMATESUse of Estimates

The preparation of unaudited condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States Generally Accepted Accounting Principles (“GAAP”)of America requires management to make estimates, judgments and assumptions that affect the amounts reported in the financial statements and accompanying notes. Management bases its assumptions on historical experiences and on various other estimatesassumptions that it believes to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. In addition, management considers the basis and methodology used in developing and selecting these estimates, the trends in and amounts of these estimates, specific matters affecting the amount of and changes in these estimates, and any other relevant matters related to these estimates, including significant issues concerning accounting principles and financial statement presentation. Such estimates and assumptions could change in the future as more information becomes known which could materially impact the amounts reported and disclosed herein. Significant estimates include revenue recognition, carrying amounts of long-lived assets, valuation assumptions for share-based payments, evaluation of debt modification accounting, effective borrowing rate determinations, analysis of fair value transferred upon debt extinguishment, valuation and calculation of measurements of income tax assets and liabilities.liabilities and valuation of debt discount related to beneficial conversion features.

Multiple contract proposals were submittedNet Loss Attributable to various government agencies in 2019 and 2020. Due to the COVID-19 related closures of multiple agencies and work-from-home orders across various regions of the United States, we anticipate that reviews and funding decisions on these proposals might be delayed longer than anticipated as resources are focused on other matters within the government.Common Stockholders

REVENUE RECOGNITION

A majority of revenue under long-term government contracts is recorded under the percentage of completion method. Revenue, billable monthly under cost plus fixed fee contracts, is recorded as costs are incurred and includes estimated earned fees in the proportion that costs incurred to date bear to total estimated costs. Costs include direct labor, direct materials, subcontractor costs and manufacturing and administrative overhead allowable under the contract. General and administrative expenses allowable under the terms of contracts are allocated per contract, depending on its direct labor and material proportion to total direct labor and material of all contracts. As contracts can extend over one or more accounting periods, revisions in earnings estimated during the course of work are reflected during the accounting period in which the facts become known. When the current contract estimate indicates a loss, a provision is made for the total anticipated loss in the current period. We do not generally provide an allowance for returns from our government customers because our customer agreements do not provide for a right of return.

The asset caption “accounts receivable” includes costs and estimated earnings in excess of billings on uncompleted contracts, which represents revenue recognized in excess of amounts billed. Such revenue is billable under the terms of contracts at the end of the year, but was not invoiced until the following year and is generally expected to be collected within one year.

Revenue for other products and services is recognized when such products and services are delivered or performed and, in connection with certain sales to Government agencies, when the products and services are accepted, which is normally negotiated as part of the initial contract. Revenue from commercial, non-Governmental, customers is based on fixed price contracts where the sale is recognized upon acceptance of the product or performance of the service and when payment is probable. Contract costs are deferred in the same manner as inventory costs and are charged to operations as the related revenue from contracts is recognized. When a current contract estimate indicates a loss, a provision is made for the total anticipated loss in the period in which such facts become evident.

RECENT ACCOUNTING PRONOUNCEMENTS

The company has reviewed issued accounting pronouncements and plans to adopt those that are applicable to it. The company does not expect the adoption of any other pronouncements to have an impact on its results of operations or financial position.

Share-Based Compensation

For the three months ended March 31, 2020 and 2019, share-based compensation expense totaled approximately $440,000 and $123,000, respectively.

APPLIED ENERGETICS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

March 31, 2020

(Unaudited)

We determine the fair value of option grant share-based awards at their grant date, using a Black-Scholes-Merton Option-Pricing Model applying the assumptions in the following table:

For the three months ended March 31, 2020, no options to purchase stock were granted and no options were forfeited, additionally, no options to purchase stock were exercised or expired and no restricted stock awards were granted; no restricted stock units were granted, vested or forfeited. At March 31, 2020, options to purchase 31,400,000 shares of common stock were outstanding with a weighted average exercise price of $0.143, a weighted average remaining contract term of approximately 6.4 years with an aggregate intrinsic value of $3,811,000. At March 31, 2020 options for 21,688,000 shares were exercisable.

As of March 31, 2020, there was approximately $1,436,000 of unrecognized compensation cost related to unvested stock options granted and outstanding, net of estimated forfeitures. The cost is expected to be recognized on a weighted average basis over a period of approximately two years.

Basic net loss per common share is computed by dividing net loss availableattributable to common shareholdersstockholders by the weighted average number of common shares outstanding duringfor the period before giving effect to stock options, stock warrants, restricted stock units and convertible securities outstanding, which are considered to be dilutive common stock equivalents. Diluted net loss per common share is calculated based on the weighted average number of common and potentially dilutive shares outstanding during the period after giving effect to convertible preferreddilutive common stock stock options, warrants and restricted stock units.equivalents. Contingently issuable shares are included in the computation of basic loss per share when issuance of the shares is no longer contingent. Due to the losses from continuing operations for the three months ended March 31, 2020The number of warrants, options, restricted stock units and 2019, basic and diluted loss per common shareour Series A Convertible Preferred Stock, which were the same, as the effect of potentially dilutive securities would have been anti-dilutive.

Potentially dilutive securities not included in the diluted losscomputation of earnings per share calculation, due to net losses from continuing operations, were as follows:because the effect was antidilutive, was 32,909,390 and 35,097,466 for the years ended March 31, 2021 and 2020, respectively.

Significant Concentrations and Risks

We maintain cash balances at a commercial bank and, at times, balances exceed FDIC limits. As of March 31, 2021 approximately $4,144,000 was uninsured.

NOTE 2 – NEW ACCOUNTING STANDARDS

The company has reviewed all issued accounting pronouncements and plans to adopt those that are applicable to it. The company does not expect the adoption of any other pronouncements to have an impact on its results of operations or financial position.

In December 2019, the FASB issued amended guidance in the form of ASU No. 2019-12, “Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes.” This ASU is intended to simplify various aspects related to accounting for income taxes by removing certain exceptions to the general principles in Topic 740 and clarifying certain aspects of the current guidance to promote consistency among reporting entities. ASU 2019-12 is effective for annual periods beginning after December 15, 2020 and interim periods within those annual periods, with early adoption permitted. An entity that elects early adoption must adopt all the amendments in the same period. Most amendments within this ASU are required to be applied on a prospective basis, while certain amendments must be applied on a retrospective or modified retrospective basis. The Company is in the initial stage of evaluating the impact of this new standard however it does not believe the guidance will have a material impact on our financial statements.

On August 5, 2020, the FASB issued ASU No. 2020-06 which simplifies the accounting for certain financial instruments with characteristics of liabilities and equity, including convertible instruments and contracts on an entity’s own equity. ASU 2020-06 simplifies the guidance in U.S. GAAP on the issuer’s accounting for convertible debt instruments. Such guidance includes multiple disparate sets of classification, measurement, and derecognition requirements whose interactions are complex. ASU 2020-06 is effective for annual periods beginning after December 15, 2021 and interim periods within those annual periods, with early adoption permitted. An entity that elects early adoption must adopt all the amendments in the same period. Most amendments within this ASU are required to be applied on a prospective basis, while certain amendments must be applied on a retrospective or modified retrospective basis. The Company is in the initial stage of evaluating the impact of this new standard however it does not believe the guidance will have a material impact on our financial statements.

APPLIED ENERGETICS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

MarchMARCH 31, 20202021

(Unaudited)

Dividends on Preferred Stock are accrued when the amount and kind of dividend is determined and are payable quarterly on the first day of February, May, August and November, in cash or shares of common stock. The holders of shares of Series A Convertible Preferred Stock are entitled to receive dividends at the initial rate of 6.5% of the liquidation preference per share (the “Initial Dividend Rate”), payable, at the option of the corporation, in (i) cash, (ii) shares of our common stock (valued for such purpose at 95% of the weighted average of the last sales prices of our common stock for each of the trading days in the ten trading day period ending on the third trading day prior to the applicable dividend payment date) provided that the issuance and/or resale of all such shares of our common stock are then covered by an effective registration statement or (iii) any combination of the foregoing. If the company fails to pay dividends in the five business days following a dividend payment date (a “Payment Default”), the dividend rate shall immediately and automatically increase to 7.5% of the liquidation preference per share for as long as such Payment Default continues (or return to the Initial Dividend Rate at such time as such Payment Default no longer continues), and if a Payment Default shall occur on two consecutive Dividend Payment Dates, the dividend rate shall immediately and automatically increase to 10% of the Liquidation Preference for as long as such Payment Default continues and shall immediately and automatically return to the Initial Dividend Rate at such time as the Payment Default is no longer continuing.NOTE 3 – NOTES PAYABLE

On May 24, 2019, the Company entered into an Asset Purchase Agreement (the “APA”) with Applied Optical Sciences, LLC (“AOS”) to acquire certain assets. As consideration for the APA, the Company entered into a promissory note issued to the shareholders of March 31, 2020, we had 13,602 sharesAOS for $2,500,000. The note is non-interest bearing and shall be repaid in equal installments, the first payment is due on February 10, 2021 and subsequent payments being due May, 24, 2021 and the remainder on the last day of our 6.5% Series A Convertible Preferred Stock outstanding.each six-month period thereafter, the final such payment being due on November 24, 2022. The company has not paidPromissory Note may be prepaid at any time (in whole or in part). Upon inception, the dividends commencing withCompany recorded a debt discount in the quarterly dividend due August 1, 2013. Dividend arrearages asamount of March 31, 2020 was approximately $230,000. Our Board of Directors suspended$2,500,000 in relation to the declarationtransaction which is being amortized over the life of the dividend, commencing with the dividend payableloan as of February 1, 2015 since we did not have a surplus (as such term is defined in the Delaware General Corporation Law) as of December 31, 2014, until such time as we have a surplus or net profits for a fiscal year. Our Series A Preferred Stock has a liquidation preference of $25.00 per Share.

Other assets primarily represents prepaid assets for insurance premiums and deposits with attorneys.

In our litigation, the company was required to place a bond with a surety. The company does not have access to these funds and it is out of our control to use them (refer note 11).

Deferred compensation represents the remaining amortization of the note payable issued in the acquisition of Applied Optical Sciences.

expense. During the three months ended March 31, 2021, the Company made a payment in the amount of $500,000 for this promissory note. As of March 31, 2021 and December 31, 2020, the companynote is not in default.

On April 28, 2020, the Company entered into a premium financingloan agreement with Alliance Bank of Arizona, N.A. for a loan in the amount of $133,658 pursuant to finance its directorthe Paycheck Protection Program (the “PPP”) under the Coronavirus Aid, Relief, and officer insurance policy. The principalEconomic Security Act enacted on March 27, 2020 (the “CARES Act”). This loan is approximately $108,000, with nine monthly payments of $12,498evidenced by a promissory note dated April 27, 2020 and anmatures two years from the disbursement date. This loan bears interest at a rate of 9.7%1.00% per annum, with the balancefirst nine months of interest deferred. Principal and interest are payable monthly commencing nine months after the disbursement date and may be prepaid by the Company at March 31, 2020 is $96,000 included in current notes payable.any time prior to maturity with no prepayment penalties. This loan contains customary events of default relating to, among other things, payment defaults or breaches of the terms of the loan. Upon the occurrence of an event of default, the lender may require immediate repayment of all amounts outstanding under the note.

During the three months ended March 31, 2019, the company received $400,000 from three non-affiliated individuals based on 10% Promissory Notes (“Notes”). The Notes matured September 1, 2019. The Notes are accompanied by a Common Stock Purchase Warrant (a “Warrant”) entitling the holder to purchase one share of the company’s common stock, par value $0.001 per share (the “Common Shares”), for each $2.00 of Note principal, at an exercise price of $0.07 per share, for two years from the date of issuance. The company issued 200,000 warrants along with the notes. The company determine the fair value of warrant grant at their grant date, using a Black-Scholes-Merton Option-Pricing Model. The balance of these notes is $444,000 at Marchending December 31, 2020, and $434,000 at December 31, 2019. Interest expense on thesethe Company converted $47,499 of notes was $10,000 for the quarter ended March 31, 2020 and $4,000 for the quarter ended March 31, 2019.

APPLIED ENERGETICS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

March 31, 2020

(Unaudited)payable into 158,329 shares of common stock.

The following reconciles notes payable as of March 31, 20202021 and December 31, 2019:2020:

Future principal payments for the Company’s Notes as of March 31, 2021 are as follows:

Of the notes$2,238,172 note payable at March 31, 2020 $1,151,000 werebalance, $1,225,991 are short term of which $1,000,000 are payments on the note to acquire Applied Optical Sciences and $1,012,181 are long term, of which $1,000,000 are payments on the note to acquire Applied Optical Sciences. Of the note to acquire Applied Optical Sciences, the first payment was due September 1, 2019on February 10, 2021 and $1,267,000 were due December 1, 2019, $96,000, payable monthly over eight monthlysubsequent payments is due December 12, 2020, and $2,500,000 is payable in $500,000 semi-annual payments starting May 24, 2020 and isbeing due May, 24, 2022. The notes2021 and the remainder on the last day of each six-month period thereafter, the final such payment being due on September 1, 2019 and DecemberNovember 24, 2022.

APPLIED ENERGETICS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

MARCH 31, 2019 have an interest rate of 10%, the note due on December 12, 2020 has an interest rate of 9.7%, and the note due on2021

(Unaudited)

NOTE 4 – DEFERRED COMPENSATION

On May 24, 2022 has interest rate of 0%. All notes are unsecured and not convertible. Interest expense on these notes was $58,0002019, the company entered into the APA with AOS to acquire certain assets. As consideration for the quarterAPA, the company entered into a promissory note issued to the shareholders of AOS for $2,500,000. The company also recorded a debt discount, which is reported on the balance sheet as deferred compensation, in the amount of $2,500,000 in relation to the transaction which is being amortized over the life of the loan as compensation expense. The amortization of deferred compensation for the three months ended March 31, 2021 and 2020 was $208,335 and $4,000 for the quarter ended March 31, 2019.$208,333, respectively.

NOTE 5 – DUE TO RELATED PARTIES

It camehas come to the board’s attention that on July 31, 2018, our now deceased CEO deposited $50,000 into the company’s account. Although it has been suggested that the funds may have been intended for use toward Mr. Dearmin’s healthcare, the board does not know for certain what the purpose of the funds were or the nature of any intended investment. Accordingly, the board is investigating the appropriate disposition of the funds which will likely be to the estate of Mr. Dearmin. Until such a determination is made, the board does not intend to use these funds for any corporate purpose. For reporting purposes, the company has treated the deposit as a due to related party.

NOTE 6 – STOCKHOLDERS’ DEFICIT

OnAuthorized Capital Stock

The Company’s authorized capital stock consists of 500,000,000 shares of common stock at a par value of $.001 per share and 2,000,000 shares of preferred stock at a par value of $.001 per share.

In January 13, 2020, the company received $45,000$603,000 from an individualfive non-affiliated individuals based on a subscription agreementagreements with the company for which the company issued 150,0002,010,000 shares of its common stock.

OnIn January 13, 2020, the company received $60,000 from two individuals based on a subscription agreement with the company for which the company issued 200,000 shares of its common stock.

On January 15, 2020, the company received $30,000 from two individuals based on a subscription agreement with the company for which the company issued 100,000 shares of its common stock

On January 22, 2020, the company received $204,000 from an individual based on a subscription agreement with the company for which the company issued 680,000 shares of its common stock.

On January 23, 2020, the company received $204,000 from an individual based on a subscription agreement with the company for which the company issued 680,000 shares of its common stock.

On January 24, 2020, the company received $60,000 from an individual based on a subscription agreement with the company for which the company issued 200,000 shares of its common stock.

On January 30, 2020, the company received $1,750 from an individual based on the exercise of a warrant for which the company issued 25,000 shares upon exercise of its common stock.a warrant by a non-affiliated warrant holder at an exercise price of $0.07 per share.

OnIn February 19, 2020, the company received $510,000 from ana non-affiliated individual based on a subscription agreement with the company for which the company issued 1,700,000 shares of its common stock.

Series A Convertible Preferred Stock, $.001 par value, 2,000,000 shares authorized; 13,602 shares issued and outstanding atDuring the three months ended March 31, 2020 and2021, the Company issued 7,056,250 shares of common stock in a private placement to accredited investors for $0.32 per share or $2,258,000 of net cash proceeds, in the aggregate.

During the three months ended March 31, 2021, the Company issued 158,329 shares of common stock upon the conversion of $47,499 of convertible notes (see Note 3).

During the three months ended March 31, 2021, the Company issued 31,250 shares of common stock in relation to a restricted stock agreement with a value of $4,550.

During the three months ended March 31, 2021, the Company issued 600,000 shares of common stock upon the exercise of 600,000 warrants at Decemberan exercise price of $0.07 a share.

During the three months ended March 31, 2019.2021, the company issued 1,005,682 shares of common stock upon the exercise of 1,090,910 options at an exercise price of $0.05 a share. This exercise was performed on a cashless basis.

During the three months ended March 31, 2021, the Company recognized stock based compensation in the amount of $170,029.

APPLIED ENERGETICS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

MarchMARCH 31, 20202021

(Unaudited)

The $440,000 stock-based compensation for the quarter ended March 31, 2020 was comprised of $273,000 option expense and $167,000 was the amortization of 5,000,000 shares of stock valued at $0.4014 over three years for the acquisition of Applied Optical Sciences.Preferred Stock

On April 8, 2020, the company received $10,500 from an individual based on a warrant exercise for which the company issued 150,000 shares of its common stock.

On April 8, 2020, the company received $63,000 from an individual based on an option exercise for which the company issued 900,000 shares of its common stock.

On April 8, 2020, the company received $60,000 from an individual based on a subscription agreement with the company for which the company issued 200,000 shares of its common stock.

On April 23, 2020, the company received $72,000 from an individual based on a subscription agreement with the company for which the company issued 240,000 shares of its common stock.

On April 29, 2020, the company received $400,000 from an individual based on a subscription agreement with the company for which the company issued 1,333,333 shares of its common stock.

During January 2019, the company received $150,000 from three individuals based on subscription agreements with the company for which the company issued 2,500,000 shares of its common stock.

As of March 31, 2021 and December 31, 2020 there were 13,602 shares of Series A Redeemable Convertible Preferred Stock (the “Series A Preferred Stock”) issued and outstanding, respectively. The company has not paid the dividends commencing with the quarterly dividend due August 1, 2013. Dividend arrearages as of March 31, 2021 including previously reported, on July 3, 2018,accrued dividends included in our balance sheet are approximately $264,000. Our Board of Directors suspended the declaration of the dividend, commencing with the dividend payable as of February 1, 2015 since we commenceddid not have a lawsuitsurplus (as such term is defined in the CourtDelaware general corporation Law) as of ChanceryDecember 31, 2014, until such time as we have a surplus or net profits for a fiscal year.

Our Series A Preferred Stock has a liquidation preference of $25.00 per Share. The Series A Preferred Stock bears dividends at the rate of 6.5% of the Stateliquidation preference per share per annum, which accrues from the date of Delaware againstissuance, and is payable quarterly. Dividends may be paid in: (i) cash, (ii) shares of our common stock (valued for such purpose at 95% of the company’s former director and principal executive officer George Farley and AnneMarieCo LLC (“AMC”).

The lawsuit allegesweighted average of the last sales prices of our common stock for each of the trading days in the ten trading day period ending on the third trading day prior to the following six causesapplicable dividend payment date), provided that the issuance and/or resale of action:

This report provides an update on the progress of the litigation.

In connection with the lawsuit, the company requested a temporary restraining order prohibiting Mr. Farley and AMC from selling their 25 millionall such shares of our common stock are then covered by an effective registration statement and the company’s common stock whichis listed on a U.S. national securities exchange or the Nasdaq Stock Market at the time of issuance or (iii) any combination of the foregoing. If the company alleges were improperly issued. On July 20, 2018,fails to make a dividend payment within five business days following a dividend payment date, the Delaware Court of Chancery, Vice Chancellor Tamika Montgomery-Reeves presiding, entered a “status quo” order upon the stipulationdividend rate shall immediately and automatically increase by 1% from 6.5% of the parties, whereby Mr. Farleyliquidation preference per offered share of Series A preferred stock to 7.5% of such liquidation preference. If a payment default shall occur on two consecutive dividend payment dates, the dividend rate shall immediately and AMC agreed notautomatically increase to transfer, alienate10% of the liquidation preference for as long as such payment default continues and shall immediately and automatically return to the Initial dividend rate at such time as the payment default is no longer continuing.

Each share of Series A Preferred Stock is convertible at any time at the option of the holder into a number of shares of common stock equal to the liquidation preference (plus any unpaid dividends for periods prior to the dividend payment date immediately preceding the date of conversion by the holder) divided by the conversion price (initially $12.00 per share, subject to adjustment in the event of a stock dividend or sellsplit, reorganization, recapitalization or similar event.) If the closing sale price of the common stock is greater than 140% of the conversion price on 20 out of 30 trading days, the company may redeem the Series A Preferred Stock in whole or in part at any time through October 31, 2010, upon at least 30 days’ notice, at a redemption price, payable in cash, equal to 100% of theirthe liquidation preference of the shares pendingto be redeemed, plus unpaid dividends thereon to, but excluding, the redemption date, subject to certain conditions. In addition, beginning November 1, 2010, the company may redeem the Series A Preferred Stock in whole or in part, upon at least 30 days’ notice, at a rulingredemption price, payable in cash, equal to 100% of the liquidation preference of the Series A Preferred Stock to be redeemed, plus unpaid dividends thereon to, but excluding, the redemption date, under certain conditions.

If a change of control occurs, each holder of shares of Series A Convertible Preferred Stock that are outstanding immediately prior to the change of control shall have the right to require the corporation to purchase, out of legally available funds, any outstanding shares of Series A Convertible Preferred Stock at the defined purchase price. The purchase price is defined as: per share of Preferred Stock, 101% of the liquidation preference thereof, plus all unpaid and accumulated dividends, if any, to the date of purchase thereof. The purchase price is payable, at the corporation’s option, (x) in cash, (y) in shares of the common stock at a discount of 5% from the fair market value of Common Stock on the company’s motion forPurchase Date (i.e. valued at a preliminary injunction.95% discount of the Common Stock on the Purchase Date), or (z) any combination thereof.

On July 26, 2018,If the Delaware CourtCorporation pays all or a portion of Chancery enteredthe Purchase Price in Common Stock, no fractional shares of Common Stock will be issued; instead, the company will round the applicable number of shares of Common Stock up to the nearest whole number of shares; provided that the Corporation may pay the Purchase Price (or a scheduling order setting datesportion thereof), whether in cash or in shares of Common Stock, only if the Corporation has funds legally available for such payment and deadlines for, among other matters,may pay the Purchase Price (or a hearingportion thereof) in shares of its Common Stock only if (i) the Common Stock is listed on a U.S. national securities exchange or the Nasdaq Stock Market at the time of issuance and briefing schedule(ii) a shelf registration statement covering the issuance by the Corporation and/or resales of the Common Stock issuable as payment of the Purchase Price is effective on the amountPayment Date unless such shares are eligible for immediate resale in the public market by non-affiliates of the bond the company would be required to post to maintain the “status quo” order through the preliminary injunction hearing, a hearing and briefing scheduleCorporation.

Dividends on our Preferred Stock are payable quarterly on the motion for a preliminary injunction,first day of February, May, August and a discovery schedule.November, in cash or shares of Common Stock, at our discretion.

Also, in connection with the lawsuit, on August 8, 2018, the company filed a motion to disqualify Mr. Farley’s attorney, Ryan Whalen, who had previously represented the company.

APPLIED ENERGETICS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

MarchMARCH 31, 20202021

(Unaudited)

On August 14,Share-Based Payments

Effective November 12, 2018, the Delaware CourtBoard of Chancery issued an order requiringDirectors of Applied Energetics, Inc. adopted the company to post a bond in the total amount of $200,446.52. On August 21, 2018 the company posted the bond via Atlantic Specialty Insurance company acting as surety. Pursuant to the contract between the company and Atlantic Specialty Insurance company, the company deposited $200,446.52 in cash as collateralIncentive Stock Plan. The plan provides for the surety agreement.allocation and issuance of stock, restricted stock purchase offers and options (both incentive stock options and non-qualified stock options) to officers, directors, employees and consultants of the company. The board reserved a total of 50,000,000 shares for possible issuance under the plan.

On August 23, 2018,We have, from time to time, also granted non-plan options to certain officers, directors, employees and consultants. Total stock-based compensation expense for grants to officers, employees and consultants was approximately $174,579 and $440,000 for three months ended March 31, 2021 and 2020, respectively, which was charged to general and administrative expense.

There was no related income tax benefit recognized because our deferred tax assets are fully offset by a valuation allowance.

We determine the Delaware Courtfair value of Chancery court extended the hearingoption grant share-based awards at their grant date, using a Black-Scholes- Merton Option-Pricing Model.

At March 31, 2021, options to purchase 29,909,090 shares of common stock were outstanding with a weighted average exercise price of $0.1374 with a weighted average remaining contract term of approximately 5.4 years with an aggregate intrinsic value (amount by which Applied Energetics’ closing stock price on the company’s motion for a preliminary injunction to October 23, 2018, and simultaneously ordered an increase inlast trading day of the bond amountyear exceeds the exercise price of $55,446.52. On August 30, 2018, the company posted the increased bond amount, again with Atlantic Specialty Insurance Company acting as surety, and deposited the additional $55,446.52 in cash with the surety.option) of approximately $19,959,000.

On September 7, 2018, the Delaware CourtAs of Chancery entered an order settingMarch 31, 2021, there was approximately $541,000 of unrecognized compensation cost related to unvested stock options granted and outstanding, net of estimated forfeitures. The cost is expected to be recognized on a briefing schedule on the company’s motion to disqualify Mr. Whalen.weighted average basis over a period of approximately one year.

On September 10, 2018, the Delaware CourtThere was no activity of Chancery entered an order governing the productionour restricted stock units and exchange of confidential documentsrestricted stock grants for three months ended March 31, 2021 and information among the parties in discovery.

In another Current Report on Form 8-K filed September 13, 2018, the company updated the status of the litigation to include events that occurred up to that date. This report further updates the progress of the litigation.

On October 16, 2018, the Delaware Court of Chancery entered a scheduling order continuing the hearing date on the company’s motion for a preliminary injunction against defendants George Farley and AMC to December 14, 2018.2020.

The October 16, 2018 order also requiredfollowing table summarizes the company to increase its bond amount by an additional $185,301.86 ($80,301.86 for AMC and $105,000.00 for Mr. Farley) to accountactivity of our stock options for the continued hearing date. On October 24, 2018, the company posted the additional bond amount of $185,301.86.three months ended March 31, 2021:

On October 16, 2018, the Delaware Court of Chancery issued an order denying the company’s motion to disqualify Mr. Whalen.

On January 23, 2019, the Delaware CourtAs of Chancery issued a Memorandum Opinion, granting a preliminary injunction prohibiting Mr. FarleyMarch 31, 2021 and AMC from selling their 25 million sharesDecember 31, 2020 there was no unrecognized stock-based compensation related to unvested restricted stock agreements, net of the company’s common stock, which the company alleges were improperly issued. On January 24, 2019, the Delaware Court of Chancery issued a revised Memorandum Opinion correcting calculations regarding the increased bond amount.estimated forfeitures.

In granting the preliminary injunction, the Court found that the company met “its considerable burden” of demonstrating it was likely to win its lawsuit against Mr. Farley and AMC. Specifically, the Court found it was “reasonably probable” Mr. Farley had unlawfully issued the 25 million shares without proper authorization, Mr. Farley had breached his duty of loyalty to the company, Mr. Farley was unlikely to prove the stock issuance was procedurally or substantively “fair” to the company, and Mr. Farley had fraudulently transferred 20 million of the shares to AMC. Finally, the Court ruled because Farley and AMC’s 25 million shares represented approximately one eighth of the company’s outstanding ownership, the injunction was necessary to protect the company’s capital structure, ability to attract new investors, ability to raise new capital and continue deployment of its plans now underway to revitalize its business.

In its Memorandum Opinion, the Court also required that the company post additional bond money, bringing the total cash collateral for the surety agreement to $582,377.26. The company posted the additional bond amount, and deposited the additional cash amount with the surety, on January 29, 2019.

On March 4, 2019, the company filed an amended complaint adding claims against Mr. Farley concerning loans Mr. Farley caused the company take from PowerUp Lending Group Ltd. and Auctus Fund LLC from September 2017 through March 2018. Mr. Farley responded to the amended complaint by filing a motion to dismiss the lawsuit based on Delaware Court of Chancery Rules 12(b)(3) and 12(b)(7). On September 28, 2019, the Delaware Chancery Court denied this motion.

APPLIED ENERGETICS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

MarchMARCH 31, 20202021

(Unaudited)

On JulyAs of March 31, 2021 and December 31, 2020 there was $724,750 and $892,000, respectively, in unrecognized stock-based compensation related to a lockup agreement on 5,000,000 shares of common stock in the acquisition of AOS valued at $0.4014 a share as that was the closing price on the date of the contract and is amortized over 36 months. $167,250 and $167,250 was amortized for the three months ended March 31, 2021 and 2020, respectively.

NOTE 7 – COMMITMENTS AND CONTINGENCIES

Operating Leases

In May 2016, the Company moved and entered into a month-to-month lease agreement to lease office space in Tucson, Arizona. In May 2019, the company filed a motion to reduce or eliminateCompany acquired Applied Optical Sciences and assumed the cash bond requirement. As previously reported, the cash bond was required by the Delaware Chancery Court. On September 30, 2019, the Delaware Chancery Court denied the motion.month-to-month lease for office and laboratory space also in Tucson, Arizona.

On July 19, 2019, Mr. FarleyRent expense was approximately $13,000 for the three months ended March 31, 2021 and AMC filed answers and amended counter claims in response to the Company’s amended complaint. The amended counter claims add claims under Delaware General Corporate Law section 205, seeking to validate the stock issuances at issue in the litigation.2020, respectively.

On July 29, 2019,In March 2021, the Delaware Chancery Court enteredCompany signed a scheduling order which, among other deadlines, rescheduled the trial datefive-year lease for a 13,000 square foot laboratory/office space in Tucson. The lease term commences May 1, 2021 and ends on April 30, 2026. The base rent is $6.7626 per rentable square foot for year one, and escalates to begin on January 21, 2020. However, recently the judge presiding$9.2009 in the case, Vice Chancellor Montgomery-Reeves, was appointedyear two, $11.4806 in year three, $13.1740 in year four and confirmed to the Delaware Supreme Court. Though no formal order has yet issued, the company expects the trial date to be postponed to mid-2020.$14.9306 in year five, plus certain operating expenses and taxes.

On September 26, 2019, the company filedAt March 31, 2021, we had approximately $4,000 in future minimum lease payments due in less than a motionyear.

APPLIED ENERGETICS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

MARCH 31, 2021

(Unaudited)

Guarantees

We agree to indemnify our officers and directors for partial summary judgment concerning the issuance of company stock to Mr. Farley without having been authorized bycertain events or occurrences arising as a quorumresult of the boardofficers or directors serving in such capacity. The maximum amount of directors. The previous hearing datefuture payments that we could be required to make under these indemnification agreements is unlimited. However, we maintain a director’s and officer’s liability insurance policy that limits our exposure and enables us to recover a portion of November 20, 2019, was postponed whileany future amounts paid. As a result, we believe the case awaited a new judge assignment.

The case was reassigned to Vice Chancellor J. Travis Laster. On January 14, 2020, Vice Chancellor Laster held a scheduling conference. On January 29, 2020, the Delaware Chancery Court entered a scheduling order setting the trial dateestimated fair value of these indemnification agreements is minimal because of our insurance coverage and we have not recognized any liabilities for July 20,these agreements as of March 31, 2021 and 2020.

In a related matter, on February 8, 2019, the company filed a complaint against Stein Riso Mantel McDonough, LLP (“Stein Riso”), its former counsel, in the United States District Court for the Southern District of New York alleging the following:

The complaint against Stein Riso followed the issuance, on January 23, 2019, of a Memorandum Opinion granting the company’s motion for a preliminary injunction by the Delaware Court of Chancery in the case against George Farley and AMC. Stein Riso has responded to the complaint by filing a motion to dismiss the complaint pursuant to Federal Rule of Civil Procedure 12(b)(6). The company amended its complaint in response. On July 31, 2019, Stein Riso responded to the company’s amended complaint by filing another motion to dismiss pursuant to Federal Rule of Civil Procedure 12(b)(6). The company filed an opposition to this motion on August 14, 2019. Stein Riso filed a reply brief on September 13, 2019. The United States District Court has not yet ruled on the motion.Litigation

On July 3, 2019, Gusrae, Kaplan & Nusbaum and its partner, Ryan Whalen counsel for defendants, George Farley and AnneMarie Co. LLC, in the litigation brought by the company and pending in Delaware, filed a claim in the District Court for the Southern District of New York against the company, its directors, officers, attorneys and a consultant. The action alleges libel, securities fraud and related claims. The company believes that this suit lacks merit and intends to dispute these allegations. The company filed a motion to dismiss the complaint on October 24, 2019. On December 13, 2019, Gusrae Kaplan and Mr. Whalen filed an opposition to the Company’s motion. On January 10, 2020, the company filed a reply brief. The United States District Court has not yet ruled on the motion.

APPLIED ENERGETICS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

March 31, 2020

(Unaudited)

On September 24, 2019,January 15, 2021, the company filed a complaint in the United States District Court, Southern District of Common Pleas inNew York, against Gusrae, Kaplan & Nusbaum and Ryan Whalen for malpractice and breach of New York Rules of Professional Conduct by both parties as former counsel to the County of Beaufort, South Carolina,company. Gusrae, Kaplan & Nusbaum and Ryan Whalen have not yet responded to prevent the sale of certain property located there (or incomplaint.

As previously reported, on June 15, 2020, Grace A.C. Dearmin, as the alternative, to require payment of proceeds from any saleAdministrator of the property intoEstate of Thomas Carr Dearmin, filed a cross-complaint against the registrycompany and company directors Jonathan Barcklow and Bradford Adamczyk, alleging causes of action against them for breach of contract and conversion. On February 8, 2021, the court until a final decision is entered ingranted the matter), in ordercompany’s motion to protectdismiss on personal jurisdiction grounds as to the company, from having property disposed of. Effective January 8, 2020, this complaint was dismissed.Mr. Barcklow and Mr. Adamczyk.

As with any litigation, the company cannot predict the outcome with certainty, but the company expects to provide further updates on the status of the litigation as circumstances warrant.

We may, from time to time, be involved in legal proceedings arising from the normal course of business. 

In April 2020,NOTE 8 – SUBSEQUENT EVENT

Subsequent to March 31, 2021, the company received $10,500 from a non-affiliate individual forCompany issued 259,741 shares of common stock upon the exercise of 500,000 options at an exercise price of $0.37 a warrant for 150,000share. This exercise was performed on a cashless basis.

Subsequent to March 31, 2021, the Company issued 200,000 shares of the company’s common stock.

In April 2020, the company received $63,000 from a non-affiliate individual forstock upon the exercise of 200,000 warrants at an option for 900,000 sharesexercise price of the company’s common stock.

In April 2020, the company received $532,000 from three non-affiliate individuals for subscription agreements to purchase the company’s common stock for $0.30 a$0.07 per share.

Effective March 4, 2020, Applied Energetics, Inc. entered into the Phase I Small Business Technology Transfer (STTR) contract referred to in its prior Current Report on Form 8-K filed on January 6, 2020 with the United States Army. The contract is for the development of Standoff Electronic Denial systems. Phase I is to be completed within the first 90 days. The company will collaborate with the Laser Plasma Laboratory (LPL) at the University of Central Florida (UCF) in performing its research under the contract. The total contract amount for Phase I is $165,920. On April 20, 2020, we received $66,367.91 based on this contract with the Army.

On April 28, 2020, we received proceeds21, 2021, the company amended its Master Services Agreement, dated as of July 16, 2018, with Westpark Advisors, LLC, pursuant to a First Amendment to Master Services Agreement. The amendment grants Westpark Advisors options to purchase an additional 1,000,000 shares of common stock at an exercise price of $0.40 per share, in exchange for Westpark Advisors continued service to the company. The options vest over a period of three years from a Small Business Administration Paycheck Protection Program loanthe date of $132,760.00.the amendment.

Effective May 12, 2021, the company and Mr. Donaghey renewed his consulting agreement, extending his service on the Board of Advisors for an additional term of two sequential one-year periods. As compensation for the renewal, Mr. Donaghey is to receive for each year of service during the renewal term 70,000 shares of AERG common stock and options to purchase 200,000 shares of common stock at an exercise price of $0.61 per share, reflecting the fair market value of the common stock on the date of grant. 50% of the options vest on the first anniversary of the renewal, and the other 50% vest on the second anniversary. 50% of the common stock vests immediately and the remaining 50% on the first anniversary of the agreement.

The company’s management has evaluated subsequent events occurring after March 31, 2020,2021, the date of our most recent balance sheet, through the date our financial statements were issued.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Our discussion and analysis of the financial condition and results of operations should be read in conjunction with the unaudited condensed consolidated financial statements and the related disclosures included elsewhere herein and in the Management’s Discussion and Analysis of Financial Condition and Results of Operations included as part of our Annual Report on Form 10-K for the year ended December 31, 2019.2020 and Quarterly Report on Form 10-Q for the three months ended March 31, 2021.

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

Certain statements in this Quarterly Report on Form 10-Q constitute forward-looking statements within the meaning of the securities laws. Forward-looking statements include all statements that do not relate solely to the historical or current facts and can be identified by the use of forward-looking words such as “may”, “believe”, “will”, “would”, “could”, “should”, “expect”, “project”, “anticipate”, “estimates”, “possible”, “plan”, “strategy”, “target”, “prospect” or “continue” and other similar terms and phrases. These forward-looking statements are based on the current plans and expectations of our management and are subject to a number of uncertainties and risks that could significantly affect our current plans and expectations, as well as future results of operations and financial condition and may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. Important factors that could cause our actual results to differ materially from our expectations are described in Item 1A (Risk Factors) of our Annual Report on Form 10-K, for the year ended December 31, 2019.2020. Although we believe that the expectations reflected in such forward-looking statements are reasonable, there can be no assurance that such expectations will prove to have been correct. We do not assume any obligation to update these forward-looking statements to reflect actual results, changes in assumptions, or changes in other factors affecting such forward-looking statements.

Applied Energetics, Inc., (the “Company”) is a corporation organized and existing under the laws of the State of Delaware. Our executive office is located at 2480 W Ruthrauff9070 S. Rita Road, Suite 140 Q,1500, Tucson, Arizona 85705;85747, (520) 628-7415. www.aergs.com

Applied Energetics, Inc., specializes in the development and manufacture of advanced high-performance lasers, high voltage electronics, advanced optical systems, and integrated guided energy systems for defense, aerospace, industrial, and scientific customers worldwide.

Technology and Patents

AERG has developed, successfully demonstrated and holds all crucial intellectual property rights to a dynamic Directed Energy technology called Laser Guided Energy (“LGE^TM®”) and Laser Induced Plasma Channel (“LIPC^TM®”). LGE and LIPC are technologies that can be used in a new generation of high-tech weapons. The Department of Defense (DOD) previously recognized two key types of Directed Energy Weapon (“DEW”) technologies, High Energy Lasers (“HEL”), and High-Power Microwave (“HPM”). Neither the HEL nor the HPM intellectual property portfolio is owned by a single entity. The DOD then designated a third DEW technology, LGE. Applied Energetics’s LGE and LIPC technologies are wholly owned by Applied Energetics and patent protected with 26 current patents and an additional 11 Government Sensitive Patent Applications (“GSPA”). These GSPA’s are held under secrecy orders of the US government and allow the company greatly extended protection rights.

Applied Energetics technology is vastly different from conventional directed energy weapons, i.e. HEL, and HPM. LGE uses Ultra-Short Pulse (USP) laser technology to combine the speed and precision of lasers with the overwhelming impact ofon targeted threats with high-voltage electricity. This unique directed energy solution allows extremely high peak power and energy, with target and effects tenability, and is effective against a wide variety of potential targets. A key element of LGE is its novel ability to offer selectable and tunable properties that can help protect non-combatants and combat zone infrastructure.

As Applied Energetics moveslooks toward the future, our corporate strategic roadmap builds upon the significant value of the company’s USP capabilities and key intellectual property, including LGE and LIPC, to offer our prospective partners, co-developers and system integrators a variety of next-generation Ultra Short-Pulse and frequency-agile optical sources from the ultraviolet to the far infrared portion of the electromagnetic spectrum to address numerous challenges within the military, medical device, and advanced manufacturing market sectors.

Key Relationships and Business Development

Gregory Quarles joined Applied Energetics, to serve as its Chief Executive Officer and a member of the boardBoard of directors,Directors, effective May 6, 2019. He was elected President of the company in January 2021. He leads the company in its development of next generation advanced defense technologies based on compact ultra-short pulse optical systems and laser guided energy. Dr. Quarles is an experienced CEO, board member and renowned physicist with over 30 years of experience driving cutting-edge laser, optics, and photonics technology development and operations within advanced industrial companies. Additionally, Dr. Quarles is a globally recognized leader for his strategic partnerships with the Department of Defense and his innovative work in the progression of global materials research, specifically developing new laser and integrated photonic devices for a variety of military, medical, and industrial applications.

AERG previously entered into Teaming and Consulting Agreements with (i) Applied Optical Sciences, Inc. (“AOS”) and (ii) Stephen W. McCahon, Ph.D., one of the company’s founders, a significant stockholder of the company and owner of AOS, who was primarily responsible for development of the company’s existing intellectual property portfolio. These agreements are now superseded byPursuant to a Consulting Agreement, dated as of May 24, 2019, with SWM Consulting, LLC, an entity owned by DrStephen W. McCahon, and the purchase of related assets from AOS through an Asset Purchase Agreement of the same date. We purchased the lab equipment and took over the lease of AOS’s laboratory under the Asset Purchase Agreement.Dr. McCahon serves as our Chief Scientist. This relationship gives us the technical and industry knowhow to utilize the company’s intellectual property in the development of a next generation of Ultra-Short Pulse Lasers (“Advanced Ultra-Short Pulse Lasers” or “AUSP Lasers”).Lasers. The Consulting Agreement provides for a combination of cash and equity compensation, as we have previously disclosed, for which Dr. McCahon leads Applied Energetics’ scientific efforts including: leading the scientific team, developing new intellectual property, assisting with business development, transferring legacy knowledge to new team members, recruiting and training talent, working with executives on corporate strategy, assisting in budget development for R&D, meeting with clients on technical concepts, attending conferences, and producing thought leadership for the company. Dr. McCahon works closely with Dr. Quarles on the company’s research and development activities and in the proposal and fulfillmentfulfilment of research and development contracts for branches of the Department of Defense, agencies of the federal government and other defense contractors and in other internal research and development activities relating to lasers and advanced optical sources.

The Consulting Agreement provides for Mr. McCahon’s continued servicePursuant to the company through SWM Consulting, LLC for compensation consisting partly of cash of $180,000 for the first year and $250,000 during each of the second and third years of the term. In addition, the parties acknowledged that the company previously issued to Mr. McCahon, 20,000,000 shares of common stock, per the terms of a Consulting Agreement, dated as of February 23, 2016, and a Common Stock Subscription Agreement, dated as of February 24, 2016. The company believed it may have had claims for the return or cancellation of some or all of these 20,000,000 shares and agreed to let the Consultant retain them in exchange for the company’s agreement to repurchase 5,000,000 of them at a price of $0.06 per shares, in alignment with recent equity offerings conducted by the company. The 5,000,000-share repurchase is to be completed within 30 days of completing an equity offering. 5,000,000 of the remaining 15,000,000 shares are subject to a lock-up and are to be released pro rata each month during the term of the agreement which may be accelerated in the event of termination other than for cause or a change in control. The agreement also calls for reimbursement of accountable expenses.

In exchange for such compensation, McCahon and SWM Consulting lead Applied Energetics’ scientific efforts including: leading the scientific team, developing new intellectual property, assisting with business development, transferring legacy knowledge to new team, recruit & train talent, work with executives on corporate strategy, assist in budget development for R&D, meet with clients on technical concepts, attend conferences, and produce thought leadership for the company.

The term of the SWM Consulting Agreement began on June 1, 2019 and extends for a period of 36 months thereafter. The agreement may be terminated by either party for “cause” as defined in the agreement. In the event the company terminates without cause, it must continue to pay the cash compensation for up to 24 months from June 1, 2019 or three months from date of termination whichever is later.

Also effective May 24, 2019 and in connection with the entry into the Consulting Agreement described above, Applied Energetics, Inc. entered into an Asset Purchase Agreement with Applied Optical Sciences, Inc. (“AOS”), an Arizona corporation of which Stephen W. McCahon is the majority stockholder.

The Asset Purchase Agreement provided for purchase of specified assets from AOS, including principally intellectual property, contracts and equipment in exchange for consideration consisting of (i) cash in the amount of $2,500,000.00, payable in the form of a Promissory Note, secured by the assets, to be issued upon the Closing Date and (ii) warrants to purchase up to 2,500,000 shares of Applied Energetics’ common stock at an exercise price of $0.06 per share. The purchase of the assets under the Asset Purchase Agreement closed on July 10, 2019.

We have also reorganized the company’s Scientific Advisory Board and, effective April 30, 2019, AERG entered into a Scientific Advisory Board Agreement with Charles Hale. This agreement provides for Mr. Hale’s service on the Scientific Advisory Board for compensation consisting of a non-qualified stock option to purchase 1,500,000 shares of Company’s common stock at an exercise price equal to $0.369 per share. The option is subject to vesting annually over three years with the first installment twelve months from the date of the agreement. The option expires ten (10) years from the date of the Agreement. Prior to entering into the agreement, Applied Energetics and Mr. Hale agreed that he would forfeit options to purchase 1,500,000 shares at an exercise price of $0.25 per share which had been granted under his prior Consulting Agreement.

Onour July 16, 2018, AERG entered into a Master Services Agreement, with Westpark Advisors, LLC to assistassists the company in launching its comprehensive sales and marketing strategy for the greater Washington DC area and broader Department of Defense markets. Westpark Advisors focuses on the company’s next generation USP laser technologies, along with Laser Guided EnergyLGE and the company’s other novel laser technologies and is to provideprovides business development, program management and strategy consulting services, including sales and marketing of the company’s product line. Westpark Advisors’ Managing Director, Patrick Williams provides full-time support to the company under this agreement. As reported in its Current Report on Form 8-K filed on April 27, 2021, effective April 21, 2021, the company has amended this Master Services Agreement, pursuant to a First Amendment to Master Services Agreement. The amendment grants Westpark Advisors options to purchase an additional 1,000,000 shares of AERG common stock, par value $0.001 per share, at an exercise price of $0.40 per share, in exchange for Westpark Advisors continued service to the company. The option vests over a period of three years from the date of the amendment. Otherwise, the other provisions of the agreement remain in force and unchanged.

EffectiveUnder our February 15, 2019, AERG entered into a Consulting and Advisory Services Agreement, with WCCventures, LLC whereby WCC provides advice and guidance to management including business strategy, marketing and capital needs.

Effective February 15, 2019, AERG also retainedretains corporate communications firm Cameron Associates (“CA”), to provide investor relations services on behalf of the company including counselingcounselling, management on appropriate investor communications, preparing and distributing press releases and other public documents, orchestrating conference calls and responding to investor inquiries. CA and its principal, Kevin McGrath, worked closely with AERG as investor relations consultants starting from the company’s inception in 2004 through 2011.

Effective April 29, 2019, AERG. established its Board of Advisors and appointed Christopher Donaghey as its first member. Chris Donaghey currently serves as the senior vice president and head of corporate development for Science Applications International Corporation (“SAIC”), a $6.5$7 billion revenue defense and government agency technology integrator. As an executive of SAIC, Donaghey works closely with SAIC’s senior management to support the development and implementation of SAIC’s strategic plan with an emphasis on M&A to complement organic growth strategies and value creation. In his role on Applied Energetics’ Board of Advisors, Mr. Donaghey has significant input into the strategic direction of the company and provides assistance in building lasting relationships in our defense markets. Effective May 12, 2021, the company and Mr. Donaghey renewed his agreement, extending his service on the Board of Advisors for an additional term of two sequential one-year periods. As compensation for the renewal, Mr. Donaghey is to receive for each year of service during the renewal term 70,000 shares of AERG common stock and options to purchase 200,000 shares of common stock at an exercise price of $0.61 per share, reflecting the fair market value of the common stock on the date of grant. 50% of the options vest on the first anniversary of the renewal, and the other 50% vest on the second anniversary. 50% of the common stock vests immediately and the remaining 50% on the first anniversary of the agreement.

Recent Developments

AsEffective March 15, 2021, AERG entered into a Lease Agreement with Campus Research Corporation, for approximately 13,000 rentable square feet of March 4, 2020, AERG executedoffice, laboratory and production space located at the UA Tech Park, a contract agreement havingresearch and technology park owned and operated by the University of Arizona. The company intends to consolidate its offices and expand its R&D capacity by leasing this space which is outfitted with a valueClass 1000 (ISO Class 6) “clean room” and other turnkey laboratory and conference features.

The lease term begins May 1, 2021 and ends on April 30, 2026. The base rent is $6.7626 per rentable square foot for year one, and escalates to $9.2009 in year two, $11.4806 in year three, $13.1740 in year four and $14.9306 in year five, plus certain operating expenses and taxes.

The space was previously occupied by a global provider of $165,919.77lasers and laser-based technology which opted to vacate prior to the end of its lease term. Thus we are benefiting from millions of dollars of capital investment made by the vacating tenant, and the vacating tenant will continue to pay a portion of the full market rent, with the US Army under their STTR program for a 90-day Phase 1 research program to investigate Standoff Electronic Denial systems using ultrashort pulse lasers. The Army anticipates funding one (1) STTR Phase II for each of seven (7) “special topics” and Phase II contracts are limited to a maximum of $1,100,000 over a period between 6 and 18 months. Sequential/Subsequent Phase II funding, as well as non-SBIR/STTR funding, may also be available.company paying the balance in the amounts set forth above.

MultipleWe believe that this new strategic location will support the company’s anticipated future growth and provide greater capacity for research, product development and production activities. The move, which began on May 1, 2021, will provide the Company with an ITAR and laser safety compliant facility totaling approximately 13,000 square feet, of which approximately 4,800 square feet is dedicated to the cleanroom. We anticipate the consolidation of the two current Applied Energetics facilities in Tucson into the UA Tech Park facility will be completed by June 1, 2021.

We submitted multiple proposals have been submitted to various government agencies in 20192020 and 2020.in Q1 of 2021. Due to the closures of multiple agencies and work-from-home orders across various regions of the United States, we anticipate that reviews and funding decisions on these proposals might be delayed longer than anticipated as resources are focused on other matters within the government. AERG has received multiple notices from government agencies stating that “the vast number of proposals received, and the challenges posed by the COVID-19 pandemic have impacted the Government’s evaluation timelines.” In addition to these review-based delays, the US federal budget for 2021 was not approved by Congress by the October 1, 2020 start of the U.S. federal government fiscal year. The 2021 federal budget was signed into law on December 27, 2020 and the National Defense Authorization Act for 2021 was enacted after a congressional override of the President’s veto on January 1, 2021, a full three months after the official start of the 2021 fiscal year. This delay could also significantly impact review of proposals and awards of near-term contracts in 2021. The 2021 National Defense Authorization Act has language actually calling for funding and reports on strategies for “Development and fielding of high energy laser capabilities”, which could be addressed with AERG USP optical sources.

On January 23, 2019,April 28, 2020, AERG was awarded a loan for $132,760 through the Delaware CourtSmall Business Administration (SBA) Paycheck Protection Program (PPP). The terms of Chancerythis loan were twenty-four months with a 1% annual interest rate. These funds were issued to cover payroll costs over eight weeks covering May and June 2020. Through the utilization of this PPP loan, AERG was able to keep all employees fully engaged during these two months of the pandemic. We intend to follow the guidelines set forth by the SBA on the PPP program which will allow AERG to apply for a Memorandum Opinion, grantingwaiver of the companyloan, because of this full employment retention, and have the loan convert to a preliminary injunction,grant.

Upon the successful examination, and with no opposition, The United States Patent and Trademark Office officially entered the marks LGE^® (Reg. No. 6,289,892) and LIPC^® (Reg. No. 6,316,069) on March 9, 2021, and April 6, 2021, respectively, in our litigation against George Farley, Applied Energetics’s former CEO and AnneMarieCo LLC (“AMC”), prohibiting Mr. Farley and AMC from selling their 25 million sharesthe principal register.  

Commencing with this Quarterly Report on 10-Q for the three months ended March 31, 2021, we have engaged the CFO Squad to assist us in the maintenance of the company’s common stock, whichbooks and records, including the company alleges were improperly issued. In granting the preliminary injunction, the Court foundpreparation of our financial statements. Management believes that the company met “its considerable burden”engagement of demonstrating it was likely to winthe CFO Squad is an important step toward continuously improving the company’s internal controls over financial reporting and its lawsuit against Mr. Farleydisclosure controls and AMC. In its Memorandum Opinion, the courtprocedures which are discussed in Item 4. Controls and Procedures. We also requiredbelieve that the company post additional bond money, bringing the total cash collateral for the surety agreement to $582,377.26, which the company has done. On September 26, 2019, the company filed a motion for partial summary judgment concerning the issuance of company stock to Mr. Farley without having been authorized by a quorumaddition of the board of directors. Following assignment of a new vice chancellor in the case, we are now awaiting a July 20, 2020 trial date based on the Delaware Chancery’s January 29, 2020 scheduling order. We cannot be certain whether the recent outbreakaccountants of the Covid-19 CoronavirusCFO Squad, with their broad range of accounting expertise, will affectstrengthen the timing of the trial. For a more detailed discussion of this litigation, see “Legal Proceedings” elsewhere in this Form 10-Q.  company’s accounting team and its financial reporting.

Path Forward

We believe that USP optical sources, LGE and LIPC are the cornerstone to AERG’s future and remain the key areas of our R&D focus for the near term. We plan to continue building our management team with highly qualified individuals. We intend to recruit additional personnel in the areas of R&D, marketing and finance, and, possibly add members to our Board of Directors and our Board of Advisors. We have worked to align key innovations with our roadmap to encourage and enable internal filing for a broad, strategic and robust intellectual property portfolio of and continue surveying the literature for acquisitions of parallel intellectual property to that end. We also intend to pursue strategic corporate acquisitions in related fields and technology. Although the company has achieved its near-term capital raising goals, we continue to explore any favorable equity financing opportunities.

Our goal onwith the AERG Strategic Plan is to increase the energy, peak power and frequency agility of USP optical sources while decreasing the size, weight, and cost of these systems. We expect to developare in the process of developing this breadth of very high peak power USP lasers and additional optical sources that have a very broad range of applicability for threat disruption for the Department of Defense, commercial, and medical applications. Although the historical market for AERG’s LGE and USP technology is the U.S. Government, the USP technologies are expected to provide numerous platforms for commercial additive and subtractive manufacturing and medical device and imaging markets, creating a substantially larger market for our products to address. During 2020, the AERG team was able to develop partnership and teaming arrangements with the three leading laser and optics institutes in the United States, namely, the University of Arizona, the University of Central Florida, and the University of Rochester Laboratory for Laser Energetics. Our desire is to work on programs jointly where the strengths of each organization can assist in escalating knowledge and delivery of systems to the government sponsors, and to train the next generation of scientists and engineers to work in the Directed Energy fields.

The ongoing Coronavirus Disease 2019 (COVID-19) pandemic presentsdoes present unique risks and uncertainties that may alter or otherwise affect our path forward. Our management continues to monitor the possible effects of the Coronavirus pandemicCOVID-19 on the execution of our plan of operations, our prospective contracts, and the availability of financing to fund our strategic and operational plans going forward. Despite these challenges, we have continued to execute our business development plans and to deliver on our government contracts as per the timeline commitments. During this fiscal year, we submitted multiple proposals and have been engaged in meetings on a daily and weekly basis with various agencies and departments both remotely and in person in Washington, DC and at various other government facilities. Dr. Quarles, our President and CEO, has traveled to DC on multiple occasions during the pandemic in 2020 and during Q1 of 2021 and remains very committed to pursuing this business even in these challenging times. The interest in our technology and applications remains high, and we continue to submit proposals for all appropriate opportunities and share our vision of the disruptive capabilities of USP optical sources for both near- and far-term threats and dual-use commercial applications.

AERG’s immediate priorities going forward include the following:

Through our analysis of the market, and in discussions with potential customers, we would also conclude that customers are becoming more receptive and interested in directed energy technologies. According to the Department of Defense fiscal 2019 budget, its directed energy spending grew from approximately $500 million in 2017 to over $1 billion in 2019, an increase of 100%. The 2020 budget reflects expectedreflected directed energy spending of $1.2 billion, an additional increase of 20% over 2019, and from 2017 through 2020, the directed energy budget grew from approximately $500 million to approximately $1.2 billion, averaging approximately 40% per year. As a result, we continue to be even more optimistic about our future and the growing opportunities in directed energy applications. The AERG team anticipates a continuation of strong funding for the Directed Energy community. With our existing patent portfolio, and through further advancements of our technologies, we believe there is an opportunity for uswe have the substantial building blocks needed to become a significant and successful developer in the marketplace.

Market for Our Technology

Directed Energy Weapons

Directed energy weapon system means military action involving the use of directed energy to incapacitate, damage, or destroy enemy equipment, facilities,our USP and assets. Previous to LGE the only two viable directed energy weapon systems were High Energy Laser (HEL), which uses heat to burn targets and High Power Radio Frequency (HP-RF), weapons that use electromagnetic energy at specific frequencies to disable electronic systems.

HEL and HP-RF directed energy technologies have been under development for decades with numerous DoD and other government contractors participating. The unique attributes of directed energy weapon systems —the ability to create precise effects against multiple targets near-instantaneously and at a very low cost per shot—have great potential to help the DoD in addressing future warfare requirements. The DoD invests research and development dollars into directed energy solutions to fill gaps identified by warfighters. For example, in future conflicts with capable enemies possessing large inventories of guided missiles, it may be operationally risky and cost-prohibitive for the U.S. military to continue to rely exclusively on a limited number of kinetic missile interceptors. Such a “missile competition” could allow an adversary to impose costs on U.S. forces by compelling them to intercept each incoming missile with far more expensive kinetic munitions. The DoD has made significant leaps in both performance and maturity as a result of many years of research.

Laser Guided Energy

AERG’s Patented LGE weapon technology works via wireless electrical energy transmission through the atmosphere, to disable vehicles and other threats to our security. AERG has developed the underlying technologies that allow a user to precisely control where the directed energy goes in direction, range, and magnitude. AERG’s LGE technologies are combined to create “laser filaments” as the laser passes through the atmosphere. The filaments in turn create Laser Induced Plasma Channels (“LIPC”) which enable the transmission of electrical energy.

Our development of LGE has led to a third directed energy technology creating a generational opportunity for a completely new weapon system development. The Company uniquely owns the critical intellectual property for LGE. The unique properties and demonstrated target effects of LGE allow for mission areas and applications that are not accessible to either HEL or RF directed energy. Therefore, LGE fills numerous requirements in the urban and asymmetric warfare environment. There is a very broad range of targets and effects that LGE addresses that are uniquely different from HEL and RF directed energy and therefore we do not compete directly within those application spaces. marketplaces.

Results of Operations

Comparison of Operations for the Three Months Ended March 31, 20202021 and 2019:2020:

Revenue

Revenue increaseddecreased approximately $10,000 tofrom $10,000 for the three months ended March 31, 2020 compared to $-0- for the three months ended March 31, 2019 based on2021. Revenue in the 2020 period was from a contract we acquired in the purchase of Applied Optical Sciences.

General and Administrative

General and administrative expenses increaseddecreased approximately $633,000$147,000 to $944,000 for the three months ended March 31, 2021 compared to $1,090,000 for the three months ended March 31, 2020 compared to $457,000 for the three months ended March 31, 2019 primarily due to the increasedecreases of $504,000$169,000 of professional expenses, an increase in salaries and employee benefits$13,000 of $78,000, an increase in travel expense of $18,000, an increase in supplies and insurance expense of $18,000,expenses, partially offset by an increase in building costs of $13,000,$12,000, supplies and an increase in franchise taxinsurance of $2,000.$11,000, salaries and employee benefits of $9,000.

Selling and Marketing

Selling and marketing expenses increased approximately $30,000$13,000 to $94,000 for the three months ended March 31, 2021 compared to $82,000 for the three months ended March 31, 2020 compared to $52,000 for the three months ended March 31, 2019 primarily due to the continuation of business development activities through our Master Services Agreement with Westpark Advisors as well as the addition of other consultants in this field.

Research and Development

Research and development expenses decreased approximately $15,000$10,000 to $48,000 for the three months ended March 31, 2020 compared to $57,000 for the three months ended March 31, 2020 compared to $73,000 for the three months ended March 31, 2019 primarily due to the allocation of part of management’s pay from research and development to consulting expense.

Other Income

Other income increaseddecreased approximately $16,000 to $-0- for the three months ended March 31, 2021 compared to $16,000 for the three months ended March 31, 2020 compared to $-0- for the three months ended March 31, 2019 to reflect the income from time and effort expenses on the subcontract to the Missile Defense Agency (thru AlionSciences) as a subject matter expert on a series of program reviews.

Interest Expense

Interest expense increaseddecreased approximately $57,000$60,000 to $1,000 for the three months ended March 31, 2021 compared to $61,000 for the three months ended March 31, 2020 compared to $4,000 for the three months ended March 31, 2019 primarily due to increasedsharply decreased levels of debt.debt and elimination of the beneficial conversion feature of notes payable. The 2020 amount also included a $50,000 penalty interest on the note payable for the AOS acquisition.

Net Loss

Our operations for the three months ended March 31, 20202021 resulted in a net loss of approximately $1,265,000, an increase$1,086,000, a decrease of approximately $679,000$179,000 compared to the approximately $586,000$1,265,000 net loss for the three months ended March 31, 20192020 primarily due to an increasedecrease in professional fees, an increase in salariesgeneral and employee benefits, an increaseadministrative, research and development and interest expense which was partially offset by small increases in selling and marketing, an increasemarketing.

Trend Discussion

There are obvious costs associated with restarting the corporation and acquiring the skilled leadership and manpower to execute on new product development, as is visible in suppliesthe higher year-over-year expenses recognized in this Result of Operations. It appears with early 2020 contract booking and insurance expensethe combination of the government slow-down due to COVID-19 impacts that it is too early to determine if efforts to obtain new business under our Teaming and an increaseConsulting Agreements could be successful for the next fiscal year. The AERG team has expanded teaming arrangements in interest expense offset by a decrease2020, with agreements signed with the three most prominent optics and laser universities in the United States. This should provide greater visibility to government agencies looking for submissions with university/industry partnerships and research and development costs,. alignment.

Liquidity and Capital Resources

At March 31, 2020, we had approximately $296,000 of cash and cash equivalents, an increase of approximately $208,000 from December 31, 2019. During the first three months of 2020, the net cash outflow from operating activities was approximately $787,000. This amount was comprised primarily of our net loss of $1,265,000, an increase in prepaid expenses and deposits of $86,000, a decrease in accounts payable of $178,000, a decrease in accrued expenses and compensation of $21,000, partially offset by noncash stock based compensation of $440,000, amortization of future compensation payable of $208,000, an increase in accrued interest of $61,000, amortization of prepaid expenses of $39,000, depreciation and amortization of $4,000 and a decrease in accounts receivable of $10,000. Financing activities reflected $1,113,000 in proceeds from issuance of common stock, and proceeds from the exercise of warrants of $2,000, partially offset by repayment on notes payable of $120,000 resulting in net cash inflow of approximately $208,000.

The accompanying financial statements have been prepared on a going concern basis, which contemplates the realization of assets and satisfaction of liabilities in the normal course of business. For the three-monthsthree months ended March 31, 2020,2021, the company incurred a net loss of approximately $1,265,000,$1,086,000, had negative cash flows from operations of $981,000approximately $646,000 and may incur additional future losses due to the possible reduction in Governmentgovernment contract activity. These matters raiseactivity and the expenses discussed under Results of Operations. In their report accompanying our financial statements for the year ended December 31, 2020, our independent auditors stated that our financial statements were prepared assuming that we would continue as a going concern and that they have substantial doubt as to the company’sour ability to continue as a going concern.

The company’s existence is dependent upon management’s abilitydo so based on our recurring losses from operations and need to develop profitable operations. Management is devoting substantially all of its efforts to developing its business and raising capital and there can be no assurance that the company’s efforts will be successful. No assurance can be given that management’s actions will result in profitable operations or the resolution of its liquidity problems. The accompanying consolidated financial statements do not include any adjustments that might result should the company be unable to continue as a going concern.

In order to improve the company’s liquidity, the company’s management is actively pursuingraise additional debt and equity financing through discussions with investment bankers and private investors. There can be no assurance that the company will be successful in its effort to secure additional debt and equity financing.

capital. The financial statements do not include any adjustments relating to the recoverability of assets and the amount or classification of liabilities that might be necessary should the company be unable to continue as a going concern.

In theirAt March 31, 2021, the Company had total current assets of approximately $4,559,000 and total current liabilities of approximately $1,600,000 resulting in working capital of approximately $2,959,000. At March 31, 2021, we had approximately $4,394,000 of cash and cash equivalents, an increase of approximately $1,071,000 from $3,323,000 at December 31, 2020.

During the first three months of 2021, the net cash outflow from operating activities was approximately $646,000. This amount was comprised primarily of our net loss of approximately $1,086,000, offset by noncash stock-based compensation expense of approximately $175,000 and amortization of future compensation payable of approximately $208,000. However, compared with the three months ended March 31, 2020, we experienced a decrease in noncash stock based compensation expense of approximately $262,000 and in accounts payable of approximately $155,000. Amortization of future compensation payable of $208,000 was consistent over both periods. Accrued interest also decreased from approximately $61,000 in the three months ended March 31, 2020 to less than $1,000 for the three months ended March 31, 2021.

Investing activities reflected $71,000 for the acquisition of equipment.

Financing activities reflected $2,258,000 in proceeds from the sale of common stock and proceeds from the exercise of warrants and options of $42,000, partially offset by the repayment of notes payable of approximately $513,000, resulting in net cash inflow of approximately $1,787,000. On February 2, 2021 and February 8, 2021, the company completed the issuance of 7,056,250 total shares of its common stock at a price of $0.32 per share, or $2,258,000 in the aggregate. Based on the Company’s current business plan, it believes its cash balance as of the date of this report will be sufficient to meet its anticipated cash requirements for the next twelve months. However, there can be no assurance that the current business plan will be achievable.

The company’s existence is dependent upon management’s ability to develop profitable operations. Management is devoting substantially all of its efforts to developing its business and raising capital, as needed, and cannot be certain that these efforts will be successful. Management’s business development efforts may not result in profitable operations. To fund its research and development and marketing efforts, the company’s management continues to explore possible financing opportunities through discussions with investment bankers and private investors. The company may not be successful in its effort to secure additional financing on terms it considers favorable. The accompanying ourconsolidated financial statements our independent auditors stateddo not include any adjustments that our financial statements formight result should the year ended December 31, 2019 were prepared assuming that we would continue as a going concern, and that they have substantial doubt as to our ability to continue as a going concern. Our auditors’ have noted that our recurring losses from operations and need to raise additional capital to sustain operations raise substantial doubt about our abilitycompany be unable to continue as a going concern.

Backlog of Orders

At May 12, 2020, we had a backlog (workload remaining on signed contracts) of approximately $166,000, to be completed within the next twelve months.

ITEM 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

Our management, with the participation of our Principal Executive Officer and Principal Financial Officer, evaluated the effectiveness of our disclosure controls and procedures as of March 31, 2020.2021. Based on that evaluation, our Principal Executive Officer has concluded that our disclosure controls and procedures as of March 31, 20202021 are not effective to ensure that information required to be disclosed by us in reports that we file or submit under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms.

Changes in Internal Controls Over Financial Reporting

There was no change in our internal controls over financial reporting that occurred during the period covered by this report, which has materially affected, or is reasonably likely to materially affect, our internal controls over financial reporting.

PART II – OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

As previously reported, on July 3, 2018, we commenced a lawsuit in the Court of Chancery of the State of Delaware against the company’s former director and principal executive officer George Farley and AnneMarieCo LLC (“AMC”).

The lawsuit alleges to the following six causes of action:

This report provides an update on the progress of the litigation.

In connection with the lawsuit, the company requested a temporary restraining order prohibiting Mr. Farley and AMC from selling their 25 million shares of the company’s common stock which the company alleges were improperly issued. On July 20, 2018, the Delaware Court of Chancery, Vice Chancellor Tamika Montgomery-Reeves presiding, entered a “status quo” order upon the stipulation of the parties, whereby Mr. Farley and AMC agreed not to transfer, alienate or sell any of their shares pending a ruling on the company’s motion for a preliminary injunction.

On July 26, 2018, the Delaware Court of Chancery entered a scheduling order setting dates and deadlines for, among other matters, a hearing and briefing schedule on the amount of the bond the company would be required to post to maintain the “status quo” order through the preliminary injunction hearing, a hearing and briefing schedule on the motion for a preliminary injunction, and a discovery schedule.

Also, in connection with the lawsuit, on August 8, 2018, the company filed a motion to disqualify Mr. Farley’s attorney, Ryan Whalen, who had previously represented the company.

On August 14, 2018, the Delaware Court of Chancery issued an order requiring the company to post a bond in the total amount of $200,446.52. On August 21, 2018, the company posted the bond via Atlantic Specialty Insurance company acting as surety. Pursuant to the contract between the company and Atlantic Specialty Insurance company, the company deposited $200,446.52 in cash as collateral for the surety agreement.

On August 23, 2018, the Delaware Court of Chancery court extended the hearing date on the company’s motion for a preliminary injunction to October 23, 2018, and simultaneously ordered an increase in the bond amount of $55,446.52. On August 30, 2018, the company posted the increased bond amount, again with Atlantic Specialty Insurance Company acting as surety, and deposited the additional $55,446.52 in cash with the surety.

On September 7, 2018, the Delaware Court of Chancery entered an order setting a briefing schedule on the company’s motion to disqualify Mr. Whalen.

On September 10, 2018, the Delaware Court of Chancery entered an order governing the production and exchange of confidential documents and information among the parties in discovery.

In another Current Report on Form 8-K filed September 13, 2018, the company updated the status of the litigation to include events that occurred up to that date. This report further updates the progress of the litigation.

On October 16, 2018, the Delaware Court of Chancery entered a scheduling order continuing the hearing date on the company’s motion for a preliminary injunction against defendants George Farley and AMC to December 14, 2018.

The October 16, 2018 order also required the company to increase its bond amount by an additional $185,301.86 ($80,301.86 for AMC and $105,000.00 for Mr. Farley) to account for the continued hearing date. On October 24, 2018, the company posted the additional bond amount of $185,301.86.

On October 16, 2018, the Delaware Court of Chancery issued an order denying the company’s motion to disqualify Mr. Whalen.

On January 23, 2019, the Delaware Court of Chancery issued a Memorandum Opinion, granting a preliminary injunction prohibiting Mr. Farley and AMC from selling their 25 million shares of the company’s common stock, which the company alleges were improperly issued. On January 24, 2019, the Delaware Court of Chancery issued a revised Memorandum Opinion correcting calculations regarding the increased bond amount.

In granting the preliminary injunction, the Court found that the company met “its considerable burden” of demonstrating it was likely to win its lawsuit against Mr. Farley and AMC. Specifically, the Court found it was “reasonably probable” Mr. Farley had unlawfully issued the 25 million shares without proper authorization, Mr. Farley had breached his duty of loyalty to the company, Mr. Farley was unlikely to prove the stock issuance was procedurally or substantively “fair” to the company, and Mr. Farley had fraudulently transferred 20 million of the shares to AMC. Finally, the Court ruled because Farley and AMC’s 25 million shares represented approximately one eighth of the company’s outstanding ownership, the injunction was necessary to protect the company’s capital structure, ability to attract new investors, ability to raise new capital and continue deployment of its plans now underway to revitalize its business.

In its Memorandum Opinion, the Court also required that the company post additional bond money, bringing the total cash collateral for the surety agreement to $582,377.26. The company posted the additional bond amount, and deposited the additional cash amount with the surety, on January 29, 2019.

On March 4, 2019, the company filed an amended complaint adding claims against Mr. Farley concerning loans Mr. Farley caused the company take from PowerUp Lending Group Ltd. and Auctus Fund LLC from September 2017 through March 2018. Mr. Farley responded to the amended complaint by filing a motion to dismiss the lawsuit based on Delaware Court of Chancery Rules 12(b)(3) and 12(b)(7). On September 28, 2019, the Delaware Chancery Court denied this motion.

On July 7, 2019, the company filed a motion to reduce or eliminate the cash bond requirement. As previously reported, the cash bond was required by the Delaware Chancery Court. On September 30, 2019, the Delaware Chancery Court denied the motion.

On July 19, 2019, Mr. Farley and AMC filed answers and amended counter claims in response to the Company’s amended complaint. The amended counter claims add claims under Delaware General Corporate Law section 205, seeking to validate the stock issuances at issue in the litigation.

On July 29, 2019, the Delaware Chancery Court entered a scheduling order which, among other deadlines, rescheduled the trial date to begin on January 21, 2020. However, recently the judge presiding in the case, Vice Chancellor Montgomery-Reeves, was appointed and confirmed to the Delaware Supreme Court. Though no formal order has yet issued, the company expects the trial date to be postponed to mid-2020.

On September 26, 2019, the company filed a motion for partial summary judgment concerning the issuance of company stock to Mr. Farley without having been authorized by a quorum of the board of directors. The previous hearing date of November 20, 2019, was postponed while the case awaited a new judge assignment.

The case was reassigned to Vice Chancellor J. Travis Laster. On January 14, 2020, Vice Chancellor Laster held a scheduling conference. On January 29, 2020, the Delaware Chancery Court entered a scheduling order setting the trial date for July 20, 2020.

In a related matter, on February 8, 2019, the company filed a complaint against Stein Riso Mantel McDonough, LLP (“Stein Riso”), its former counsel, in the United States District Court for the Southern District of New York alleging the following:

The complaint against Stein Riso followed the issuance, on January 23, 2019, of a Memorandum Opinion granting the company’s motion for a preliminary injunction by the Delaware Court of Chancery in the case against George Farley and AMC. Stein Riso has responded to the complaint by filing a motion to dismiss the complaint pursuant to Federal Rule of Civil Procedure 12(b)(6). The company amended its complaint in response. On July 31, 2019, Stein Riso responded to the company’s amended complaint by filing another motion to dismiss pursuant to Federal Rule of Civil Procedure 12(b)(6). The company filed an opposition to this motion on August 14, 2019. Stein Riso filed a reply brief on September 13, 2019. The United States District Court has not yet ruled on the motion.

On July 3, 2019, Gusrae, Kaplan & Nusbaum and its partner, Ryan Whalen counsel for defendants, George Farley and AnneMarie Co. LLC, in the litigation brought by the company and pending in Delaware, filed a claim in the District Court for the Southern District of New York against the company, its directors, officers, attorneys and a consultant. The action alleges libel, securities fraud and related claims. The company believes that this suit lacks merit and intends to dispute these allegations. The company filed a motion to dismiss the complaint on October 24, 2019. On December 13, 2019, Gusrae Kaplan and Mr. Whalen filed an opposition to the Company’s motion. On January 10, 2020, the company filed a reply brief. The United States District Court has not yet ruled on the motion.

On September 24, 2019,January 15, 2021, the company filed a complaint in the United States District Court, Southern District of Common Pleas inNew York, against Gusrae, Kaplan & Nusbaum and Ryan Whalen for malpractice and breach of New York Rules of Professional Conduct by both parties as former counsel to the County of Beaufort, South Carolina,company. Gusrae, Kaplan & Nusbaum and Ryan Whalen have not yet responded to prevent the sale of certain property located there (or incomplaint.

As previously reported, on June 15, 2020, Grace A.C. Dearmin, as the alternative, to require payment of proceeds from any saleAdministrator of the property intoEstate of Thomas Carr Dearmin, filed a cross-complaint against the registrycompany and company directors Jonathan Barcklow and Bradford Adamczyk, alleging causes of action against them for breach of contract and conversion. On February 8, 2021, the court until a final decision is entered ingranted the matter), in ordercompany’s motion to protectdismiss on personal jurisdiction grounds as to the company, from having property disposed of. Effective January 8, 2020, this complaint was dismissed.Mr. Barcklow and Mr. Adamczyk.

As with any litigation, the company cannot predict the outcome with certainty, but the company expects to provide further updates on the status of the litigation as circumstances warrant.

We may, from time to time, be involved in legal proceedings arising from the normal course of business.business.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

On January 13, 2020,The company has reported all information pertaining to all issuances of equity securities sold during the company received $45,000 from an individual basedperiod covered by this Quarterly Report on a subscription agreement with the company for which the company issued 150,000 shares of its common stock.Form 10-Q in previously filed report on Forms 10-K, 10-Q and 8-K.

On January 13, 2020, the company received $60,000 from two individuals based on a subscription agreement with the company for which the company issued 200,000 shares of its common stock.

On January 15, 2020, the company received $30,000 from two individuals based on a subscription agreement with the company for which the company issued 100,000 shares of its common stock

On January 22, 2020, the company received $204,000 from an individual based on a subscription agreement with the company for which the company issued 680,000 shares of its common stock.

On January 23, 2020, the company received $204,000 from an individual based on a subscription agreement with the company for which the company issued 680,000 shares of its common stock.

On January 24, 2020, the company received $60,000 from an individual based on a subscription agreement with the company for which the company issued 200,000 shares of its common stock.

On January 30, 2020, the company received $1,750 from an individual based on the exercise of a warrant for which the company issued 25,000 shares of its common stock.

On February 19, 2020, the company received $510,000 from an individual based on a subscription agreement with the company for which the company issued 1,700,000 shares of its common stock.

On April 8, 2020, the company received $10,500 from an individual based on a warrant exercise for which the company issued 150,000 shares of its common stock.

On April 8, 2020, the company received $63,000 from an individual based on an option exercise for which the company issued 900,000 shares of its common stock.

On April 8, 2020, the company received $60,000 from an individual based on a subscription agreement with the company for which the company issued 200,000 shares of its common stock.

On April 23, 2020, the company received $72,000 from an individual based on a subscription agreement with the company for which the company issued 240,000 shares of its common stock.

On April 29, 2020, the company received $400,000 from an individual based on a subscription agreement with the company for which the company issued 1,333,333 shares of its common stock.

ITEM 6. EXHIBITS