Palladyne AI Corp. (PDYN)

Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.

You should read the following discussion and analysis of our financial condition and results of operations in conjunction with our consolidated financial statements and related notes thereto included elsewhere in this Annual Report. In addition to historical information, the following discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of certain factors, including those set forth in Part I Item 1A Risk Factors and elsewhere in this Annual Report. See also Part I Special Note Regarding Forward-Looking Statements in this Annual Report.

Overview

Our mission is to deliver artificial intelligence software products that enable robotic and unmanned platforms, or robotic systems, in the industrial and defense sectors to perform complex tasks in arbitrary (i.e., unstructured and dynamic) human environments. Our AI/ML Foundational Technology enhances the utility and functionality of third-party stationary and mobile robotic systems by allowing these systems to quickly observe, learn, reason and act in structured and unstructured environments. Our AI/ML Foundational Technology is designed with artificial intelligence ("AI"), and machine learning ("ML"), technologies to enable robotic systems to perceive their environment and quickly adapt to changing circumstances by generalizing (i.e., learning) from their past experience using dynamic real-time operations "on the edge" (i.e., on the robotic system and not in the cloud) without extensive programming, training or the latency associated with processing in the cloud. We believe this "human-like" ability to learn, reason and adapt will be a key differentiator in assisting our customers to enhance productivity in dynamic or unstructured environments, where human reasoning has traditionally been required to complete the task. We designed our AI/ML Foundational Technology to be hardware agnostic, meaning that our AI/ML software products are designed so that with a minimal integration effort they will be able to function on a wide variety of industrial robots, cobots, unmanned aerial vehicles ("UAV"), unmanned ground vehicles ("UGV") and other remotely operated vehicles ("ROV").

Our AI/ML Foundational Technology is the foundational technology for our two software products. The first, Palladyne IQ, has been developed for use with industrial robots and cobots, and the second, Palladyne Pilot, is being developed for use with unmanned platforms with our current focus being Class 1 UAVs. We released the initial commercial version of our Palladyne IQ product in October 2024 and expect to release the initial commercial version of Palladyne Pilot by the end of the first quarter of 2025. Our Palladyne IQ product continues to undergo reliability testing, debugging and other stabilizing improvements as we continue internal testing and learn from customer trials.

We believe that our initial customer base will be comprised of innovators and early adopters in the industrial manufacturing, defense, infrastructure maintenance, repair and surveillance, energy and aerospace and aviation industries. We believe that if we are successful in demonstrating the value of our products with these early adopters, there will be many potential customers that follow. Palladyne IQ is being offered through a term-based licensing model that would result in a recurring revenue stream. We may also offer add-on functionality for an additional license fee. We may charge an upfront fee for the hardware associated with Palladyne IQ or embed the cost into the license fee. We anticipate offering Palladyne Pilot through a device-based licensing model. We expect to begin generating revenues from commercial customers of Palladyne IQ and Palladyne Pilot in 2025. The majority of our sales and marketing efforts are focused initially on U.S. markets, but we are also exploring opportunities in select non-U.S. markets on a more limited basis.

We have U.S. government revenue-generating contracts related to various aspects of our AI/ML Foundational Technology and our Palladyne IQ and Palladyne Pilot products. As scheduled to date, we have timely met all the development milestones associated with these contracts and recognized revenue based on work completed. Please see Part II Item 1A Risk Factors for a discussion of the risks related to these activities, in particular those discussed under "Risks Related to our Business".

As a result of our business evaluation and refined product strategy announced in 2023, we reorganized our operations to focus on the development and commercialization of our AI/ML Foundational Technology and have taken actions to reduce costs, including the 2023 RIFs and winding down substantially all of our operations in Pittsburgh, Pennsylvania. For additional information around the risks associated with our strategy decision-making see Part I Item 1A Risk Factors "Our management team has broad discretion in making strategic decisions to execute our growth plans, and our management's decisions have not always led to the desired result. Current and future decisions may not be successful in achieving our business objectives or may have unintended consequences that negatively impact our growth prospects".

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Key Factors Affecting Operating Results

We believe that our performance and future success depend on several factors that present significant opportunities for us but also pose risks and challenges, including those discussed below and in Part I Item 1A Risk Factors of this Annual Report on Form 10-K.

Development, Testing and Commercial Launch of our AI/ML Foundational Technology

We currently expect to derive commercial licensing revenues from Palladyne IQ and Palladyne Pilot beginning in 2025. We expect to continue commercialization efforts, internal testing and customer trials for both products throughout 2025. Whether we are successful in these efforts depends on many factors, including those discussed under Part I Item 1A Risk Factors "Risks Related to Our Business." Such risks may result in delay in achieving product revenues, which would adversely affect our financial condition and operating results.

Financing of Operations

We intend to use our cash on hand to continue to enhance our software products, conduct product development activities, pursue marketing and sales opportunities and fund operations as we seek to commercialize and achieve revenue from our products. The amount and timing of our future funding requirements will depend on many factors, including the pace and results of our product development efforts, our ability to sell our software products and thereby recognize associated revenue, capital and human capital requirements to develop and sell products prior to receiving payments sufficient to cover our costs and our ability to lower product costs as volumes increase.

We have taken and continue to take numerous steps to manage our use of cash. For example, the 2023 RIFs allowed us to further conserve our cash resources and manage operating expenses. The last cash payments related to the 2023 RIFs were paid during the first quarter of 2024. Additionally, during the fourth quarter of 2024 we raised approximately $25 million in gross proceeds from the sale of our Common Stock and warrants. For further information on our financing activities in the year ended December 31, 2024, see "Liquidity and Capital Resources."

We believe we have sufficient liquidity to operate for at least the next 12 months without the need to raise additional capital. However, we may decide to seek additional financing during that time to bolster our cash reserves and increase our ability to continue to pursue our business objectives. As a result, we intend to continue monitoring our liquidity, financial and business results and outlook and market conditions, and may be opportunistic and raise capital when we consider market conditions are good or a favorable opportunity exists. Any delays in the successful commercialization and sales of our AI/ML software products will negatively impact our ability to generate revenue, our profitability, our cash flows, our overall operating performance and our ability to continue operations and may result in the need to raise additional capital. We will continue to carefully evaluate our use of cash and liquidity.

Customer Demand

Although demand for AI/ML software products has grown in recent years, the market continues to evolve. The market demand for our software is unproven, and important assumptions about the characteristics of targeted markets, pricing and sales cycles may be inaccurate. While we believe that our products will provide significant benefits and return on investment to customers, as it is a new technology, we are dependent on customers who are willing to adopt, purchase and implement new technologies and products. If customer demand does not develop as expected or we do not accurately estimate pricing, adoption rates and sales cycles for our products, our business, results of operations and financial condition will be adversely affected.

Continued Investment and Innovation

We are a pioneer in the robotic systems industry and benefit from lessons learned over 30-plus years and significant investment in research and development. Through our hardware development efforts over many years, including our AI-related software development efforts, we developed a significant amount of advanced technology that we are leveraging to develop our AI/ML Foundational Technology and related products. We believe our financial performance is dependent on our ability to successfully develop and commercialize our products. It is important that we continually identify and respond to rapidly evolving customer requirements and competitive threats, develop and introduce innovative products, enhance our products and generate active market demand for and sell our products. If we fail to do this, our market and financial position and revenue may be adversely affected, and our investments in these technologies will not be recovered.

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Geopolitical and Macro-economic Environment

Geopolitical and macro-economic factors, such as inflation, tariffs or the threat of tariffs, interest rates, oil prices, unemployment rates, international conflicts, such as the current wars between Russia and Ukraine and in the middle east, volatility in the stock market and political or social unrest, can have significant impacts on economic activity, which in turn could affect demand for our products or our ability to cost-effectively develop and sell our products. Among other things, these and similar factors can affect our ability to hire or retain qualified personnel, our labor and materials costs, the prices we charge for our software products and the budgets of our customers and their expected return-on-investment from the purchase of a license for our software product. Many of these factors are outside of our control but can have a significant impact on our business success and operating results. If we are unable to manage our business successfully in response to any such factors, our business and results of operations would be adversely affected.

Basis of Presentation

Currently, we conduct business through one operating segment. All long-lived assets are maintained in, and all losses are attributable to, the United States of America. See Note 13, Segment Information, in the accompanying consolidated financial statements for more information about our operating segment.

Components of Results of Operations

Revenue, Net

We have historically derived our revenue from two sources. First, we enter into research and development agreements primarily with the government and leverage these contracts to further our product development efforts. We expect to continue to derive revenue from research and development agreements in future periods. Product development contract revenue consists of revenue arising from different types of contractual arrangements, including cost-type contracts and fixed-price contracts.

Second, we have historically sold our legacy hardware products and related parts and repair services. Product revenue primarily consists of sales of our legacy hardware products. Due to our recent shift in focus away from sales of our hardware products and to licensing of our software products, in the future we expect to derive revenue from licensing fees. We have not yet recognized any such licensing revenue.

Product Development Contract Revenue

Cost-type contracts – Research, development and/or testing service contracts, including cost-plus-fixed-fee and time and material contracts, relate primarily to the development of our robotics systems, software and related technology. Cost-type contracts are generally entered into with the U.S. government. These contracts are billed at cost plus a margin as defined by the contract and the FAR. The FAR establishes regulations around procurement by the government and provides guidance on the types of costs that are allowable in establishing prices for goods and services delivered under government contracts. Revenue on cost-type contracts is recognized over time as goods and services are provided.

Fixed-price contracts – Fixed-price development contracts relate primarily to the development of technology in the area of robotic systems and software. Fixed-price development contracts generally require a significant service of integrating a complex set of tasks and components into a single deliverable. Revenue on fixed-price contracts is generally recognized over time as goods and services are provided. To the extent our actual costs vary from the fixed fee, we will generate more or less profit or could incur a loss. In accordance with Accounting Standards Codification 606, for fixed price contracts, we recognize losses at the contract level in earnings in the period in which they are incurred.

Product Revenue

Product revenue has related to sales of our legacy hardware products, and certain miscellaneous parts, accessories and repair services. We have generally provided a limited one-year warranty on hardware product sales. Product warranties are considered assurance-type warranties and are not considered to be separate performance obligations. Product revenue is recognized at the point in time when ownership of the goods is transferred, generally at the time of shipment to the customer. At the time product revenue is recognized, an accrual is established for estimated warranty expenses based on historical experience as well as anticipated product performance.

Operating Expenses

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Cost of Revenue

Our cost of revenue consists of direct and overhead expenses related to either the sale of our legacy hardware products or our product development contract revenue. Direct expenses include direct labor used in the production of a product or in our product development contracts, benefits expense associated with direct labor and materials directly tied to our product sale or product development contracts. Overhead expenses include allocable supervisory labor, benefits expense associated with supervisory labor, allocation of facilities expense including rent and utilities and allocation of IT labor support and equipment. Overhead expenses not allocated to cost of revenue are expensed across research and development, general and administrative and sales and marketing expenses, as applicable.

Research and Development

Research and development expenses are mainly comprised of costs from the continuing development and refinement of our AI/ML Foundational Technology and related products, the continuing research and development costs associated with current and future products and now suspended development of our robotic systems. These expenses include labor and related benefit expenses, materials and supplies used in our laboratories, patent expenses and related overhead expenses. Our research and development expenses may fluctuate as a percentage of our revenue from period to period due to the timing and extent of these expenses.

General and Administrative

Our general and administrative expenses consist primarily of employee-related costs for our finance, legal, human resources and other administrative teams, as well as certain executives. In addition, general and administrative expenses include insurance, public company compliance related costs, including outside legal and accounting expenses, other professional fees, facilities and IT expense not allocated to other operating expense categories and related overhead expense.

Sales and Marketing

Our sales and marketing expenses arise from our activities relating to our efforts to market and sell our products and services. The expenses consist primarily of labor, benefits and employee-related costs, marketing programs and events, customer service, lead generation fees, product marketing expense, public relations fees and travel associated with sales generation and marketing support and related overhead expense.

We plan to continue to invest in sales and marketing to grow our customer base and increase our brand awareness. The trend and timing of sales and marketing expenses will depend in part on the timing of the commercial launch of our products and their reception by the market. As our product sales grow, we expect that sales and marketing expenses will increase in absolute dollars in future periods; however, we expect our sales and marketing expenses to decrease as a percentage of our revenue over the long term, although our sales and marketing expenses may fluctuate as a percentage of our revenue from period to period due to the timing and extent of these expenses.

Intangible Amortization Expense

Amortization of intangible assets primarily consists of amortization of identified finite-lived trade name and trademarks, developed technology and customer relationship assets that were acquired as part of the acquisition of RE2, Inc. These costs were amortized on a straight-line basis over their expected useful lives.

Asset Write-down and Restructuring

Asset write-down and restructuring expenses consist primarily of severance and benefit payments, and acceleration of stock-based compensation expense related to the 2023 RIFs, the write-down of inventory, accelerated amortization of our intangible assets, accelerated depreciation of our property, plant and equipment and the write-off of certain assets as a result of our product development reprioritization and pivot in strategy to focus on our AI/ML Foundational Technology and related products.

Other (Loss) Income

Interest Income, Net

Interest income consists primarily of interest received or earned on our cash and marketable securities balances. Portions of our cash resided in money market investments and in U.S. Treasury securities at various points during the year.

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(Loss) Gain on Warrant Liabilities

(Loss) gain on warrant liabilities consists of the change in fair value of the deSPAC Warrants and the 2024 Warrants.

Other Income, Net

Other income, net consists primarily of other miscellaneous non-operating items such as proceeds from the CARES Act employee retention credit.

Income Tax Expense

Income taxes consist of taxes currently due plus deferred income taxes related primarily to differences between the tax bases and financial reporting bases of assets and liabilities. Deferred income taxes represent the future tax return consequences of those differences, which will either be taxable or deductible when the assets and liabilities are recovered or settled.

Results of Operations

Comparison of the Years Ended December 31, 2024 and 2023

Revenue, net

The following table presents our revenue for the years ended December 31, 2024 and 2023:

Revenue increased by $1.6 million, or 27%, from $6.1 million in the year ended December 31, 2023 to $7.8 million in the year ended December 31, 2024, as explained below.

Product Development Contract Revenue

Revenue derived from product development contracts decreased by $0.1 million, or 3%, from $5.3 million for the year ended December 31, 2023 to $5.1 million for the year ended December 31, 2024. The decrease was primarily due to the completion of certain product development contracts during 2023 that have not yet been replaced with new contracts. We expect future revenue from product development contracts to fluctuate due to the timing of additional development contracts signed and the completion of existing contracts. For the time being, we intend to take on only those development contracts that we believe support and contribute to our AI/ML Foundational Technology and related product development efforts. As a result, there may be fewer opportunities to replace completed contracts.

Product Revenue

Revenue derived from product sales increased by $1.8 million, or 200%, from $0.9 million for the year ended December 31, 2023 to $2.7 million for the year ended December 31, 2024. The increase was primarily due to one-time legacy hardware product sales during the year ended December 31, 2024.

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Operating Expenses

The following table presents our operating expenses for the years ended December 31, 2024 and 2023:

Cost of Revenue

Cost of revenue decreased by $1.6 million, or 31%, from $5.0 million for the year ended December 31, 2023 to $3.5 million for the year ended December 31, 2024. Cost of revenue decreased mainly due to decreased labor and material expenses charged to product development contracts due to contract mix, partially offset by increased product costs associated with our product revenue during the year ended December 31, 2024.

Research and Development

Research and development expenses decreased by $28.6 million, or 73%, from $39.0 million for the year ended December 31, 2023 to $10.4 million for the year ended December 31, 2024. The decrease was driven primarily by reduced labor and labor related expenses due to the 2023 RIFs. Also contributing to the decrease were lower materials and outside professional services expenses due to the suspension of robotic systems and hardware projects beginning in 2023.

General and Administrative

General and administrative expenses decreased by $14.6 million, or 46%, from $31.5 million for the year ended December 31, 2023 to $16.8 million for the year ended December 31, 2024. General and administrative expense decreased primarily due to reduced labor and labor related expenses, including stock-based compensation, due to the 2023 RIFs. Legal and business insurance expenses also decreased due to the overall decrease in operations as compared to the prior year.

Sales and Marketing

Sales and marketing expenses decreased by $6.7 million, or 62%, from $10.8 million for the year ended December 31, 2023 to $4.1 million for the year ended December 31, 2024. This decrease was driven by decreases in professional service fees related to third-party platform expense utilized in data management of our products and services, labor and labor-related expenses due to the 2023 RIFs and events and public relations expenses.

Intangible Amortization Expense

As a result of our product development reprioritization announced in November 2023, our intangible assets were fully amortized as of December 31, 2023.

Asset Write-down and Restructuring

Asset write-down and restructuring expenses were $37.9 million for the year ended December 31, 2023, as a result of the prior year product development reprioritization. There were no significant asset write-down and restructuring costs for the year ended December 31, 2024.

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Other (Loss) Income

The following table presents other (loss) income for the years ended December 31, 2024 and 2023:

Other (loss) income decreased by $51.1 million from other income of $5.4 million to other loss of $45.7 million for the year ended December 31, 2024 as compared to the prior year period as a result of increased unrealized mark-to-market losses on our outstanding warrants, the lack of employee retention credit refunds received in 2024 as compared to 2023 and decreased interest income from our investments in marketable securities due to the reduction in invested funds during 2024.

Income Tax Benefit (Expense)

We had no significant income tax expense for the years ended December 31, 2024 and 2023. For the years ended December 31, 2024 and 2023, our recognized effective tax rate differs from the U.S. federal statutory rate as the Company recorded net losses during the period with a corresponding full valuation allowance on the net deferred tax assets created from the losses.

Backlog and Total Estimated Contract Value

Our backlog, as of December 31, 2024, was $3.0 million, $2.4 million of which was funded and $0.6 million of which was unfunded. Our backlog is equal to our remaining performance obligations under contracts or the expected value of exercised contracts, both funded and unfunded, less revenue recognized to date. Our total estimated contract value, which combines backlog with estimated potential contract value, including unexercised options from existing firm contracts, was $9.9 million as of December 31, 2024.

Liquidity and Capital Resources

As of December 31, 2024, we had $40.1 million in cash, cash equivalents and marketable securities. We have incurred losses and negative cash flows from operations since inception and are likely to continue to incur losses and negative cash flows from operations in the near term. As of December 31, 2024, we had an accumulated deficit of approximately $490.8 million and working capital of $38.3 million. On October 31, 2024, we announced that we raised approximately $7.0 million in gross proceeds from the sale of our Common Stock and warrants pursuant to the Investor Purchase Agreement and the Insider Purchase Agreement.

On November 13, 2024, we entered into an open market sale agreement (the "Sales Agreement") with Jefferies to sell shares of our common stock from time to time through an "at-the-market" equity offering program under which Jefferies is acting as our sales agent and on November 13, 2024, we filed a prospectus supplement with the SEC in connection with the offer and sale of up to $18.0 million of shares of our common stock pursuant to the Sales Agreement. As of December 31, 2024, we had sold a total of 3,680,543 shares of our common stock under the Sales Agreement for gross sales proceeds of approximately $18.0 million, before deducting commission and other expenses. On December 31, 2024 we filed a prospectus supplement in connection with offering for sale an additional $30.0 million of shares pursuant to the Sales Agreement. From January 1, 2025 through the date of this Report, we had sold a total of 1,335,807 shares of our common stock under the Sales Agreement for gross sales proceeds of approximately $14.4 million, before deducting commission and other expenses. We believe that our cash, cash equivalents and marketable securities on hand will be sufficient to support operations, working capital and capital expenditure requirements for at least the next 12 months from the date of this Report.

Our primary use of cash is for operations and administrative activities including employee-related expenses and general, operating and overhead expenses. While we do not have any debt, we do have a long-term lease for our facilities in Salt Lake City, Utah. Future capital requirements will depend on many factors, including the timing and extent of development efforts, the expansion and results of sales and marketing activities, the sales cycle for our products, customer acquisition and revenues, revenue growth rate, customer retention, the introduction of new and enhanced product offerings and market acceptance of our products.

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We have taken many steps to reduce our use of cash, for example, we suspended our hardware product development efforts and focusing those efforts on our AI/ML Foundational Technology and related products, conducted the 2023 RIFs and terminated our operations in Pittsburgh, Pennsylvania. We plan to use our existing capital to complete the development of the initial commercial version of Palladyne Pilot and conduct sales and marketing efforts for both Palladyne IQ and Palladyne Pilot, as well as continue product development efforts for the next versions of our products.

The amount and timing of our future funding requirements will depend on many factors, including the pace and results of our product development efforts, our ability to release and license our commercial products and thereby recognize associated revenue and capital requirements to conduct marketing and sales activities prior to receiving payments sufficient to cover our costs. Any delays in the successful commercialization of our software products will negatively impact our ability to generate revenue, profitability, overall operating performance and financial condition. If we are unable to raise additional capital when desired or needed, our business, results of operations and financial condition would be materially and adversely affected.

We may enter into arrangements to acquire or invest in complementary businesses, services and technologies, which may require acquisition capital as well as operational capital for these acquisitions or arrangements. We may be required to seek additional equity or debt financing to facilitate these arrangements. If additional financing is required from outside sources in connection with these arrangements, we may not be able to raise it on terms acceptable to us, or at all.

We currently primarily use cash from equity financings to fund operations and capital expenditures and meet working capital requirements. If additional funds are required to support our working capital requirements, for acquisitions or for other purposes, we may seek to raise funds through additional debt or equity financings or from other sources. We have taken numerous steps to manage our use of cash, including conducting the 2023 RIFs and other related actions. However, we may decide to seek additional financing, and we intend to continue monitoring our liquidity, financial and business results and outlook and market conditions, and may be opportunistic and raise capital when market conditions are good or a favorable opportunity exists including under our "at-the-market" equity offering programs. Any delays in the successful commercialization and sales of our software products will negatively impact our ability to generate revenue, our profitability and our overall operating performance and result in the need to raise additional capital sooner than expected. If we raise additional funds through the issuance of equity or convertible debt securities, the percentage ownership of our equity holders could be significantly diluted and these newly issued securities may have rights, preferences or privileges senior to those of existing equity holders. If we raise additional funds by obtaining loans from third parties, the terms of those financing arrangements may include negative covenants or other restrictions on our business that could impair our operating flexibility and would also require us to incur additional interest expense. Additional financing may not be available at all or, if available, may not be available on terms favorable to us or that we find acceptable. For additional information around the risks associated with our capital needs see Part I Item 1A Risk Factors "Our business plans require a significant amount of capital. We may sell additional equity or debt securities to meet capital needs or as we may otherwise determine to be advisable that may dilute our stockholders or introduce covenants that may restrict our operations or our ability to pay dividends. If we require additional capital and are not able to secure new funding, we may not be able to continue our business operations."

As of December 31, 2024, our total minimum lease payments are $13.7 million, of which $1.6 million are due in the next 12 months. For detail regarding our lease obligations refer to Note 4 Leases to the consolidated financial statements included elsewhere in this Annual Report on Form 10-K.

Cash Flows

The following table summarizes our cash flow data for the periods presented:

Net Cash Used in Operating Activities

Cash flows used in operating activities during the twelve months ended December 31, 2024, decreased by $54.0 million to $22.6 million from $76.6 million during the prior year. The decrease in net cash used in operating activities was primarily attributable to a $43.0 million decrease in net loss, which was driven by the 2023 RIFs, and a net increase of $6.5 million in

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non-cash expenses due to increases in the change in fair value of our warrant liabilities, partially offset by a decrease in asset write-down expenses. Additionally, net cash used in operating activities related to changes in operating assets and liabilities decreased by $4.5 million, primarily the result of decreased inventory purchases.

Net Cash Provided by Investing Activities

Our net cash provided by investing activities during the twelve months ended December 31, 2024 decreased by $57.8 million. The decrease in cash provided by investing activities is predominantly due to the maturities, net of purchases, of $65.5 million of marketable securities during the twelve months ended December 31, 2023, as compared to the maturities, net of purchases, of $7.1 million of marketable securities during the twelve months ended December 31, 2024.

Net Cash Provided by (Used in) Financing Activities

Our net cash provided in financing activities during the twelve months ended December 31, 2024 increased by $23.9 million as compared to the prior year period. The increase in cash provided by financing activities is predominantly due to the $23.8 million in net proceeds from the sale of our Common Stock and warrants, after deducting transaction costs related to the issuance of our Common Stock during the twelve months ended December 31, 2024.

Emerging Growth Company Status

Section 102(b)(1) of the Jumpstart our Business Startups Act of 2012 (the "JOBS Act") exempts emerging growth companies from being required to comply with new or revised financial accounting standards until private companies are required to comply with the new or revised financial accounting standards. The JOBS Act provides that a company can choose not to take advantage of the extended transition period and comply with the requirements that apply to non-emerging growth companies, and any such election to not take advantage of the extended transition period is irrevocable.

We are an "emerging growth company" as defined in Section 2(a) of the Securities Act, and have elected to take advantage of the benefits of the extended transition period for new or revised financial accounting standards. We will remain an emerging growth company until the earliest of (1) the last day of the fiscal year in which the market value of Common Stock that is held by non-affiliates exceeds $700 million as of the end of that year's second fiscal quarter, (2) the last day of the fiscal year in which we have total annual gross revenue of $1.235 billion or more during such fiscal year (as indexed for inflation), (3) the date on which we have issued more than $1 billion in non-convertible debt in the prior three-year period and (4) December 31, 2026, and we expect to continue to take advantage of the benefits of the extended transition period, although we may decide to early adopt such new or revised accounting standards to the extent permitted by such standards. This may make it difficult or impossible to compare our financial results with the financial results of another public company that is either not an emerging growth company or is an emerging growth company that has chosen not to take advantage of the extended transition period exemptions because of the potential differences in accounting standards used.

Critical Accounting Policies and Estimates

Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles ("GAAP"). The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets and liabilities and related disclosure of contingent assets and liabilities, revenue and expenses at the date of the financial statements. Generally, we base our estimates on historical experience and on various other assumptions in accordance with GAAP that we believe to be reasonable under the circumstances. Actual results may differ from these estimates.

Critical accounting policies and estimates are those that we consider the most important to the portrayal of our financial condition and results of operations because they require our most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. Our critical accounting policies and estimates include those related to:

Revenue Recognition

We have historically recognized revenue from our legacy hardware products and from contractual arrangements to perform product development contract services that are fully funded by our customers. We recognize revenue when promised goods or services are transferred to customers in an amount that reflects the consideration to which we expect to be entitled in exchange for those goods or services. Revenue from product development contracts is recognized over time as products and services are provided. For fixed priced contracts we measure progress toward satisfaction of performance obligations using costs incurred

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to date relative to total estimated costs ("cost-to-cost"). Research and development contracts may last multiple years and estimation of the total transaction price and expected cost requires management's judgment. Based on the nature of our research and development contracts, the work to be performed is often complex and may involve new processes, procedures, and tasks which creates uncertainty in estimating contract costs. All estimates impacting revenue recognition, including estimates of total expected costs, are reviewed on a periodic basis, at least quarterly.

For those performance obligations for which revenue is recognized using a cost-to-cost input method, changes in total estimated costs, and related progress towards complete satisfaction of the performance obligation, are recognized on a cumulative catch-up basis in the period in which the revisions to the estimates are made. Changes in judgments with respect to these assumptions and estimates could impact the timing or amount of revenue recognition.

Warrant Liabilities

We issued the 2024 Warrants on November 1, 2024. The 2024 Warrants were determined to be liability classified instruments upon issuance. The fair value of the 2024 Warrants were initially and subsequently measured using a Monte Carlo valuation model, which includes assumptions that are based on the individual characteristics of the 2024 Warrants on the valuation date, and assumptions related to probability of a fundamental transaction occurring, expected volatility, expected life, risk-free interest rate and expected dividends. These estimates, especially the expected volatility, are highly judgmental and could differ materially in the future. Any changes in the fair value of the 2024 Warrants are recorded as a component of other income and expense.

Recent Accounting Pronouncements

See Note 1, Basis of Presentation and Summary of Significant Accounting Policies, to consolidated financial statements included elsewhere in this Annual Report on Form 10-K for recently adopted accounting pronouncements and recently issued accounting pronouncements not yet adopted as of the date of this Annual Report on Form 10-K.

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

You should read the following discussion and analysis of our financial condition and results of operations in conjunction with our consolidated financial statements and related notes thereto included elsewhere in this Annual Report. In addition to historical information, the following discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of certain factors, including those set forth in Part I Item 1A Risk Factors and elsewhere in this Annual Report. See also Part I Special Note Regarding Forward-Looking Statements in this Annual Report.

Overview

Our mission is to deliver software to our customers that enhances the utility and functionality of third-party stationary and mobile robotic systems by enabling these systems to quickly observe, learn, reason and act in structured and unstructured environments. Our AI/ML Software Platform is being designed with artificial intelligence (AI) and machine learning (ML) techniques to enable robotic systems to perceive their environment and quickly adapt to changing circumstances by generalizing (i.e., learning) from their past experience using dynamic real-time operations “on the edge” (i.e., on the robotic system) without extensive programming and with minimal robot training. We believe this “human-like” ability to learn and adapt will be a key differentiator in helping our customers maintain optimal productivity in dynamic or unstructured environments, where new situations and unexpected challenges are more likely to cause delays and costly downtime. Our value proposition is further enhanced relative to other competitive solutions because robotic systems using our AI/ML Software Platform are not required to be continuously connected to the cloud for our software to function, thereby reducing the performance issues associated with poor connectivity and latency typically associated with processing in the cloud. Our approach also reduces the expense typically associated with transmitting large amounts of data to and from the cloud.

As a pioneer in the robotic systems industry, we benefit from both experiences and lessons gained from our 30-plus years, as well as significant investment in our internal research and development efforts. Software has been an integral part of our development efforts over the years. Our vision for our AI/ML Software Platform began in 2017 as a foundational technology to enhance training for the autonomous operation of our own internally developed hardware solutions and progressed to our first CYTAR (Cybernetic Training for Autonomous Robots) government project in 2019. Significant design and development work began in 2020 when our Chief Technology Officer, Dr. Denis Garagic, joined our team. We have since continued to develop our AI/ML software both for the U.S. Department of Defense and in connection with our development of commercial robotic systems. As previously disclosed, in November 2023, we decided to suspend our hardware product development efforts to focus on commercializing our AI/ML Software Platform, although some de minimis hardware-related research and development efforts continue. By de-coupling our AI/ML Software Platform from our own hardware systems and applying it to a wide range of third-party robotics systems, from industrial robots and cobots to mobile systems potentially including drones, autonomous mobile robots (AMR), autonomous underwater vehicles (AUV) and remotely operated vehicles (ROV), we believe we can reach a much broader market more quickly and better utilize our remaining cash resources.

We are designing our AI/ML Software Platform to be hardware agnostic in order to be compatible with most industrial robots being sold today and to support specific types of commercially available robots with additional development and the necessary application programming interface (API). The AI/ML Software Platform is expected to enable robotic systems to perform tasks that involve variations in the environment and the objects being manipulated by the robot. Specifically, we expect our AI/ML Software Platform to incorporate internal and external environmental inputs that allow robots to comprehend their environment, determine reasonable behavior given these inputs and to act in real time to achieve the expected task. Each newly learned task will then be incorporated and used to perform future tasks. We believe this closed-loop autonomy approach is the key to how our software can expedite robot training, expand the tasks that a robot can perform, reduce costly workflow stoppages, mitigate downtimes and reduce human labor requirements.

As a result of our refined strategy we are optimizing our organization in pursuit of this AI/ML Software Platform opportunity and are reducing costs, including our recent RIFs, shifting all operations to the Salt Lake City, Utah location and winding down substantially all of our operations in Pittsburgh, Pennsylvania. For additional information around the risks associated with our strategy decision-making see Part I Item 1A Risk Factors “Due to our limited resources and access to capital, and our failure to properly estimate the time and expense required to commercialize our hardware-centric industrial robotics solutions, we must make decisions on the allocation of resources and have discontinued development and commercialization of certain products; these decisions may prove to be wrong and may adversely affect our business.”

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Key Factors Affecting Operating Results

We believe that our performance and future success depend on several factors that present significant opportunities for us but also pose risks and challenges, including those discussed below and in Part I Item 1A Risk Factors of this Annual Report on Form 10-K.

Development, Testing and Commercial Launch of our AI/ML Software Platform

We currently expect to derive revenue from our AI/ML Software Platform, which is in its development phase. Prior to commercialization, we must complete the development and testing of our product. Whether we are successful depends on many factors, including those discussed under Part I Item 1A Risk Factors “Risks Related to Our Business.” Such risks may result in delay of the anticipated commercial launch of our software platform, which would adversely affect our financial condition and operating results.

Financing of Operations

Prior to commercialization, we must complete the development and testing of our AI/ML Software Platform. As a result, we will use our cash on hand to develop our software platform and fund operations as we seek to commercialize and achieve revenue from the sale of the product. The amount and timing of our future funding requirements will depend on many factors, including the pace and results of our product development efforts, our ability to sell our software products and thereby recognize associated revenue, capital and human capital requirements to develop a commercial version of our software platform prior to receiving payments sufficient to cover our costs and our ability to lower product costs as volumes increase. In addition, we have taken numerous steps to manage our use of cash. For example, on July 12, 2023 and on November 14, 2023 we announced reductions in force intended to further conserve our current cash resources and manage operating expenses. The majority of the cash payments related to the expenses from the RIF announced on July 12, 2023 were paid out during the third quarter of 2023. The majority of the cash payments related to the RIF announced on November 14, 2023 were paid out during the fourth quarter of 2023 and the first quarter of 2024. The November RIF is expected to be completed by the end of the first quarter of 2024. We believe we have sufficient liquidity to operate for at least the next twelve months without the need to raise additional capital. However, we may need to seek additional financing during that time to bolster our cash reserves and increase our ability to continue to pursue our business objectives. As a result, we intend to continue monitoring our liquidity, financial and business results and outlook and market conditions, and may be opportunistic and raise capital when we consider market conditions are good or a favorable opportunity exists. Any delays in the successful commercialization and sales of our AI/ML Software Platform will negatively impact our ability to generate revenue, our profitability, our cash flows and our overall operating performance and result in the need to raise additional capital sooner than expected.

Customer Demand

Although demand for AI/ML platforms and applications has grown in recent years, the market for these platforms and applications continues to evolve. The market demand for our software platform is unproven, and important assumptions about the characteristics of targeted markets, pricing and sales cycles may be inaccurate. While we believe that our AI/ML Software Platform will provide significant benefits and return on investment to customers, as it is a new technology and product, we are dependent on customers who are willing to adopt, purchase, and implement new technologies and products. If customer demand does not develop as expected or we do not accurately forecast pricing, adoption rates and sales cycles for our AI/ML Software Platform, our business, results of operations and financial condition will be adversely affected.

Continued Investment and Innovation

We are a pioneer in the robotic systems industry and benefit from lessons learned over 30-plus years and significant investment in research and development in our proprietary technologies. Through our development efforts on our hardware products such as the Guardian XO, Guardian XT, Guardian XM and Guardian Sea Class, we have developed a significant amount of advanced technology that we are leveraging to develop our AI/ML Software Platform. We believe our financial performance is significantly dependent on our ability to successfully commercialize our advanced AI/ML technologies and further dependent on the investments we make in research and development. It is important that we continually identify and respond to rapidly evolving customer requirements and competitive threats, develop and introduce innovative products, enhance our products and generate active market demand for our products. If we fail to do this, our market position and revenue may be adversely affected, and our investments in these technologies will not be recovered.

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Geopolitical and Macro-economic Environment

Geopolitical and macro-economic factors, such as inflation, interest rates, oil prices, unemployment rates, international conflicts, such as the wars between Israel and Hamas and between Russia and Ukraine, volatility in the stock market and political or social unrest, can have significant impacts on economic activity, which in turn could affect demand for our AI/ML Software Platform or our ability to cost-effectively develop and sell our software platform. Among other things, these and similar factors can affect our ability to hire or retain qualified personnel, our labor and materials costs, the prices we charge for our software platform and the budgets of our customers and their expected return-on-investment from the purchase of a license for our software platform. Many of these factors are outside of our control but can have a significant impact on our business success and operating results. If we are unable to manage our business successfully in response to any such factors, our business and results of operations would be adversely affected.

Basis of Presentation

Currently, we conduct business through one operating segment. All long-lived assets are maintained in, and all losses are attributable to, the United States of America. See Note 13, Segment Information, in the accompanying consolidated financial statements for more information about our operating segment.

Components of Results of Operations

Revenue, net

We historically derived our revenue from two sources. First, we enter into research and development agreements primarily relating to the commercialization of our products. We expect to continue to derive revenue from research and development agreements in future periods. Product development contract revenue consists of revenue arising from different types of contractual arrangements, including cost-type contracts and fixed-price contracts.

Second, we have historically sold our products and related parts and repair services. Product revenue primarily consists of sales of our products. Due to our recent shift in focus away from sales of our hardware products and to licensing of our AI/ML Software Platform, in the future we expect to derive revenue from licensing fees. We have not yet recognized any such licensing revenue.

Product Development Contract Revenue

Cost-type contracts – Research, development and/or testing service contracts, including cost-plus-fixed-fee and time and material contracts, relate primarily to the development of our robotics systems, software and related technology. Cost-type contracts are generally entered into with the U.S. government. These contracts are billed at cost plus a margin as defined by the contract and Federal Acquisition Regulation (“FAR”). The FAR establishes regulations around procurement by the government and provides guidance on the types of costs that are allowable in establishing prices for goods and services delivered under government contracts. Revenue on cost-type contracts is recognized over time as goods and services are provided.

Fixed-price contracts – Fixed-price development contracts relate primarily to the development of technology in the area of robotic systems. Fixed-price development contracts generally require a significant service of integrating a complex set of tasks and components into a single deliverable. Revenue on fixed-price contracts is generally recognized over time as goods and services are provided. To the extent our actual costs vary from the fixed fee, we will generate more or less profit or could incur a loss. In accordance with Accounting Standards Codification 606, for fixed price contracts, we will recognize losses at the contract level in earnings in the period in which they are incurred.

Product Revenue

Product revenue has related to sales of our products, and certain miscellaneous parts, accessories and repair services. We have generally provided a limited one-year warranty on hardware product sales. Product warranties are considered assurance-type warranties and are not considered to be separate performance obligations. Product revenue is recognized at the point in time when ownership of the goods is transferred, generally at the time of shipment to the customer. At the time product revenue is recognized, an accrual is established for estimated warranty expenses based on historical experience as well as anticipated product performance.

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Operating Expenses

Cost of Revenue

Our cost of revenue consists of direct and overhead expenses related to either the sale of our products or our product development contract revenue. Direct expenses include direct labor used in the production of a product or in our product development contracts, benefits expense associated with direct labor and materials directly tied to our product sale or product development contracts. Overhead expenses include allocable supervisory labor, benefits expense associated with supervisory labor, allocation of facilities expense including rent and utilities and allocation of IT labor support and equipment. Overhead expenses not allocated to cost of revenue are expensed across research and development, general and administrative and sales and marketing expenses, as applicable.

Research and Development

Research and development expenses are mainly comprised of costs from the continuing development and refinement of robotic systems, which are now suspended, and our AI/ML Software Platform and the continuing research and development costs associated with future products. These expenses include labor and related benefit expenses, materials and supplies used in our laboratories, patent expenses and related overhead expenses. Our research and development expenses may fluctuate as a percentage of our revenue from period to period due to the timing and extent of these expenses.

General and Administrative

Our general and administrative expenses consist primarily of employee-related costs for our finance, legal, people success and other administrative teams, as well as certain executives. In addition, general and administrative expenses include insurance, public company compliance related costs, including outside legal and accounting expenses, other professional fees, facilities and IT expense not allocated to other operating expense categories, and related overhead expense.

Sales and Marketing

Our sales and marketing expenses arise from our activities relating to our efforts to market and sell our products and services. The expenses consist primarily of labor, benefits and employee-related costs, marketing programs and events, customer service, lead generation fees, product marketing expense, public relations fees and travel associated with sales generation and marketing support and related overhead expense.

We plan to continue to invest in sales and marketing to grow our customer base and increase our brand awareness. The trend and timing of sales and marketing expenses will depend in part on the timing of the commercial launch of our products and their reception by the market. As our product sales grow, we expect that sales and marketing expenses will increase in absolute dollars in future periods; however, we expect our sales and marketing expenses to decrease as a percentage of our revenue over the long term, although our sales and marketing expenses may fluctuate as a percentage of our revenue from period to period due to the timing and extent of these expenses.

Intangible Amortization Expense

Amortization of intangible assets primarily consists of amortization of identified finite-lived trade name and trademarks, developed technology, and customer relationship assets that were allocated a portion of the purchase price from the acquisition of RE2. These costs are amortized on a straight-line basis over their expected useful lives.

Asset Write-down and Restructuring

Asset write-down and restructuring expenses consist primarily of severance and benefit payments, and acceleration of stock-based compensation expense related to the RIFs announced during 2023, the write-down of inventory, accelerated amortization of our intangible assets, accelerated depreciation of our property, plant and equipment and the write-off of certain assets as a result of our product development reprioritization and pivot in strategy.

Goodwill Impairment

Goodwill represents the excess of consideration transferred over the fair value of tangible and identifiable intangible net assets acquired and the liabilities assumed in a business combination. All of our goodwill was recognized from the acquisition of RE2. During the fourth quarter of 2022, due to the sustained decreases in our publicly quoted share price and market

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capitalization, we performed a quantitative goodwill impairment test. Based on the results of the quantitative goodwill impairment assessment we concluded that the carrying value of our goodwill exceeded its fair value and that our goodwill was fully impaired as of December 31, 2022.

Other Income (Loss)

Interest Income, net

Interest income consists primarily of interest received or earned on our cash and marketable securities balances. Portions of our cash resided in money market investments and in U.S. Treasury securities at various points during the year.

Gain (Loss) Warrant Liability

Gain (loss) on warrant liability consists of the change in fair value of the private placement warrants we assumed as part of the Business Combination.

Other Income, net

Other income, net consists primarily of other miscellaneous non-operating items such as proceeds from the CARES Act employee retention credit.

Income Tax Benefit (Expense)

Income taxes consist of taxes currently due plus deferred income taxes related primarily to differences between the tax bases and financial reporting bases of assets and liabilities. The deferred income taxes represent the future tax return consequences of those differences, which will either be taxable or deductible when the assets and liabilities are recovered or settled.

Results of Operations

The discussion below regarding our results of operations for the twelve months ended December 31, 2022, includes the financial results of RE2 beginning on the acquisition date of April 25, 2022 through December 31, 2022. Our results do not include RE2’s financial information prior to the acquisition.

Comparison of the Years Ended December 31, 2023 and 2022

Revenue, net

The following table presents our revenue for the years ended December 31, 2023 and 2022:

Revenue decreased by $8.4 million, or 58%, from $14.6 million in the year ended December 31, 2022, to $6.1 million in the year ended December 31, 2023, as explained below.

Product Development Contract Revenue

Revenue derived from product development contracts decreased by $9.0 million, or 63%, from $14.2 million for the year ended December 31, 2022 to $5.3 million for the year ended December 31, 2023. The decrease was primarily due to the completion of certain product development contracts during 2023 that have not yet been replaced with new contracts. We expect future revenue from product development contracts to fluctuate due to the timing of additional development contracts signed and the completion of existing contracts. For the time being, we intend to take on only those development contracts that we believe support and contribute to our AI/ML Software Platform development efforts under our refined sales and product development strategy.

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Product Revenue

Revenue derived from product sales increased by $0.6 million, or 170%, from $0.3 million for the year ended December 31, 2022 to $0.9 million for the year ended December 31, 2023. The increase was primarily due to the sale of two Guardian Sea Class systems during 2023.

Operating Expenses

The following table presents our operating expenses for the years ended December 31, 2023 and 2022:

*NM - Not Meaningful

Cost of Revenue

Cost of revenue decreased by $6.6 million, or 57%, from $11.6 million for the year ended December 31, 2022, to $5.0 million for the year ended December 31, 2023. Cost of revenue decreased mainly due to decreased labor and material expense charged to product development contracts during the year ended December 31, 2023.

Research and Development

Research and development expenses increased by $4.9 million, or 14%, from $34.1 million for the year ended December 31, 2022, to $39.0 million for the year ended December 31, 2023. The increase was driven primarily by an increase in labor and overhead expense as a result of increased headcount (due in part to the RE2 acquisition) and the shift of labor from cost of revenue to research and development due to the timing of new product development contracts being signed and the focus on new product development and commercialization efforts. As a result, allocated overhead and fringe related costs also increased due to the increase in labor costs. We expect that future research and development costs will decrease significantly due to the reduction in headcount actions taken during 2023 and early 2024 and other cost savings resulting from the pivot in strategy to prioritize development of our AI/ML Software Platform and discontinue substantially all other research and development efforts.

General and Administrative

General and administrative expenses decreased by $32.0 million, or 50%, from $63.5 million for the year ended December 31, 2022, to $31.5 million for the year ended December 31, 2023. General and administrative expense decreased primarily due to reduced stock-based compensation expense of $28.4 million due to certain awards vesting in the prior year. In addition to the decrease in stock-based compensation expense, business insurance expenses decreased during the current year period to more favorable rates resulting from the latest renewal and legal fees decreased in comparison to the prior year primarily due to the lack of acquisition-related legal expenses arising from the RE2 acquisition during the prior year period. We also expect that future general and administrative expenses will decrease significantly due to the reduction in headcount actions taken during 2023 and early 2024 and other cost savings resulting from our pivot in strategy to prioritize development of our AI/ML Software Platform with a lower overall cost structure.

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Sales and Marketing

Sales and marketing expenses increased by $0.9 million, or 9%, from $9.9 million for the year ended December 31, 2022, to $10.8 million for the year ended December 31, 2023. This increase was driven by an increase in professional service fees related to third-party platform expense utilized in data management of our products and services, increased promotional and event expense during the current year period, and increased expenses related to additional headcount due in part to our RE2 acquisition. Even considering the expected launch of the AI/ML Software Platform, we expect that future sales and marketing expenses will decrease significantly due to the reduction in headcount actions taken during 2023 and other cost savings resulting from our pivot in strategy to prioritize development of our AI/ML Software Platform with a lower overall cost structure.

Intangible Amortization Expense

Intangible amortization expenses increased by $0.6 million, from $2.2 million for the year ended December 31, 2022, to $2.8 million for the year ended December 31, 2023. The increase in intangible amortization expense is due to the recognition of amortization expenses on identified intangible assets recorded as part of the RE2 acquisition.

Asset Write-down and Restructuring

Asset write-down and restructuring expenses were $37.9 million for the year ended December 31, 2023, which includes a write-down of inventory of $11.3 million, a $17.6 million charge for the accelerated amortization and write-off of our intangibles and certain other assets as a result our product development reprioritization, $1.2 million of accelerated depreciation related to the shutting down our facilities in Pittsburgh, Pennsylvania, $0.5 million for contract restructuring accruals, $2.9 million in severance and benefit payments, and $4.4 million due to the acceleration of stock-based compensation expense resulting from the early termination of our redemption right over certain shares held by our former Chief Operating Officer in connection with the termination of his employment.

Goodwill Impairment

During the year ended December 31, 2022, we fully impaired our goodwill and recorded a non-cash goodwill impairment of $70.2 million. The non-cash goodwill impairment was primarily driven by the sustained decrease in our publicly quoted share price and market capitalization.

Other Income (Loss)

The following table presents other income (loss) for the years ended December 31, 2023 and 2022:

Other income decreased by $10.6 million for the year ended December 31, 2023 as compared to the prior year period as a result of decreased unrealized mark-to-market gains on our outstanding private placement warrants, partially offset by increased interest income from our investments in marketable securities and increased other income related to employee retention credit refunds received during the current year.

Income Tax Benefit (Expense)

Income tax benefit decreased to $7,000 for the year ended December 31, 2023, compared to $3.9 million in income tax benefit for the year ended December 31, 2022. The income tax benefit recorded during the year ended December 31, 2022 was due to the removal of a portion of our previously recorded valuation allowance on our net deferred tax assets associated with net deferred tax liabilities recorded as part of the acquisition of RE2, resulting in an income tax benefit recognized during the prior year period.

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Backlog and Total Estimated Contract Value

Our backlog, as of December 31, 2023, was $8.1 million, $6.5 million of which was funded and $1.6 million of which was unfunded. Our backlog is equal to our remaining performance obligations under contracts or the expected value of exercised contracts, both funded and unfunded, less revenue recognized to date. Our total estimated contract value, which combines backlog with estimated potential contract value, including unexercised options from existing firm contracts, was $18.1 million as of December 31, 2023.

Liquidity and Capital Resources

We currently use cash to fund operations and capital expenditures and meet working capital requirements. As of December 31, 2023, we had $39.1 million in cash, cash equivalents and marketable securities. We believe that our cash, cash equivalents and marketable securities on hand will be sufficient to support operations, working capital and capital expenditure requirements for at least the next 12 months from the date of this Report.

The amount and timing of our future funding requirements will depend on many factors, including the pace and results of our product development efforts, our ability to develop and deliver our commercial AI/ML Software Platform and thereby recognize associated revenue and capital requirements to develop our commercial AI/ML Software Platform prior to receiving payments sufficient to cover our costs. Any delays in the successful commercialization of our software product will negatively impact our ability to generate revenue, our profitability and our overall operating performance.

In addition, we may enter into arrangements to acquire or invest in complementary businesses, services and technologies, which may require acquisition capital as well as operational capital for these acquisitions or arrangements. We may be required to seek additional equity or debt financing to facilitate these arrangements. In the event that additional financing is required from outside sources, we may not be able to raise it on terms acceptable to us, or at all. If we are unable to raise additional capital when desired or needed, our business, results of operations and financial condition would be materially and adversely affected.

If additional funds are required to support our working capital requirements, for acquisitions or for other purposes, we may seek to raise funds through additional debt or equity financings or from other sources. We have taken numerous steps to manage our use of cash, including conducting the RIFs announced on July 12, 2023 and November 14, 2023, and other related actions, and believe we have sufficient capital to fund our business for at least the next 12 months without seeking additional capital. However, we may need to seek additional financing during that time to bolster our cash reserves and increase our ability to continue to pursue our business objectives. As a result, we intend to continue monitoring our liquidity, financial and business results and outlook and market conditions, and may be opportunistic and raise capital when we consider market conditions are good or a favorable opportunity exists. Any delays in the successful commercialization and sales of our software platform will negatively impact our ability to generate revenue, our profitability and our overall operating performance and result in the need to raise additional capital sooner than expected. If we raise additional funds through the issuance of equity or convertible debt securities, the percentage ownership of our equity holders could be significantly diluted and these newly issued securities may have rights, preferences or privileges senior to those of existing equity holders. If we raise additional funds by obtaining loans from third parties, the terms of those financing arrangements may include negative covenants or other restrictions on our business that could impair our operating flexibility and would also require us to incur additional interest expense. Additional financing may not be available at all or, if available, may not be available on terms favorable to us or that we find acceptable. For additional information around the risks associated with our capital needs see Part I Item 1A Risk Factors “Our business plans require a significant amount of capital. Our future capital needs may require us to sell additional equity or debt securities that may dilute our stockholders or introduce covenants that may restrict our operations or our ability to pay dividends. If we require additional capital and are not able to secure new funding, we may not be able to continue our business operations.”

As of December 31, 2023, our total minimum lease payments are $15.6 million, of which $2.0 million are due in the next 12 months. For detail regarding our lease obligations refer to Note 4 Leases to the consolidated financial statements included elsewhere in this Annual Report on Form 10-K.

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Cash Flows

The following table summarizes our cash flow data for the periods presented:

Net Cash Used in Operating Activities

Cash flows used in operating activities during the twelve months ended December 31, 2023, increased by $11.2 million to $76.6 million from $65.4 million during the same period in 2022. The increase to net cash used in operating activities was primarily attributable to a net decrease of $50.2 million in non-cash expenses driven mainly by decreases in goodwill impairment and stock-based compensation, offset partially by a $41.5 million decrease to net loss, a decrease to gains on warrant liability revaluation and an increase in asset write-down expenses. Additionally, net cash used in operating activities related to changes in operating assets and liabilities increased by $2.5 million, driven mainly by increased inventory purchases, offset partially by decreases in unbilled receivables.

Net Cash Provided by (Used in) Investing Activities

Our net cash provided by investing activities during the twelve months ended December 31, 2023 increased by $173.7 million. The increase in cash provided by investing activities is predominantly due to $65.5 million of maturities of marketable securities, net of purchases, during the twelve months ended December 31, 2023, as compared to the $77.9 million of purchase of marketable securities, net of maturities, and $29.7 million of net cash that was included as part of the purchase consideration for the RE2 acquisition during the twelve months ended December 31, 2022.

Net Cash Used In Financing Activities

Our net cash used in financing activities during the twelve months ended December 31, 2023 decreased by $7.4 million as compared to the prior year period. The decrease in financing activities was mainly due to a $8.0 million decrease in funds used to remit taxes due upon vesting of equity awards resulting from the withholding of shares valued at such amount from the applicable employees, consultants or directors, to cover such taxes.

Emerging Growth Company Status

Section 102(b)(1) of the Jumpstart our Business Startups Act of 2012 (the “JOBS Act”) exempts emerging growth companies from being required to comply with new or revised financial accounting standards until private companies are required to comply with the new or revised financial accounting standards. The JOBS Act provides that a company can choose not to take advantage of the extended transition period and comply with the requirements that apply to non-emerging growth companies, and any such election to not take advantage of the extended transition period is irrevocable.

We are an “emerging growth company” as defined in Section 2(a) of the Securities Act, and have elected to take advantage of the benefits of the extended transition period for new or revised financial accounting standards. We will remain an emerging growth company until the earliest of (i) the last day of the fiscal year in which the market value of Common Stock that is held by non-affiliates exceeds $700 million as of the end of that year’s second fiscal quarter, (ii) the last day of the fiscal year in which we have total annual gross revenue of $1.235 billion or more during such fiscal year (as indexed for inflation), (iii) the date on which we have issued more than $1 billion in non-convertible debt in the prior three-year period or (iv) December 31, 2025, and we expect to continue to take advantage of the benefits of the extended transition period, although we may decide to early adopt such new or revised accounting standards to the extent permitted by such standards. This may make it difficult or impossible to compare our financial results with the financial results of another public company that is either not an emerging growth company or is an emerging growth company that has chosen not to take advantage of the extended transition period exemptions because of the potential differences in accounting standards used.

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Critical Accounting Policies and Estimates

Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with GAAP. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets and liabilities and related disclosure of contingent assets and liabilities, revenue and expenses at the date of the financial statements. Generally, we base our estimates on historical experience and on various other assumptions in accordance with GAAP that we believe to be reasonable under the circumstances. Actual results may differ from these estimates.

Critical accounting policies and estimates are those that we consider the most important to the portrayal of our financial condition and results of operations because they require our most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. Our critical accounting policies and estimates include those related to:

Revenue Recognition

We have historically recognized revenue from our products and from contractual arrangements to perform product development contract services that are fully funded by our customers. We recognize revenue when promised goods or services are transferred to customers in an amount that reflects the consideration to which we expect to be entitled in exchange for those goods or services. Revenue from product development contracts is recognized over time as products and services are provided. For fixed priced contracts we measure progress toward satisfaction of performance obligations using costs incurred to date relative to total estimated costs (“cost-to-cost”). Research and development contracts may last multiple years and estimation of the total transaction price and expected cost requires management’s judgment. Based on the nature of the Company’s research and development contracts, the work to be performed is often complex and may involve new processes, procedures, and tasks which creates uncertainty in estimating contract costs. All estimates impacting revenue recognition, including estimates of total expected costs, or Estimates at Completion, are reviewed on a periodic basis, at least quarterly.

For those performance obligations for which revenue is recognized using a cost-to-cost input method, changes in total estimated costs, and related progress towards complete satisfaction of the performance obligation, are recognized on a cumulative catch-up basis in the period in which the revisions to the estimates are made. Changes in judgments with respect to these assumptions and estimates could impact the timing or amount of revenue recognition.

Stock-Based Compensation

We use the fair value approach to account for stock-based compensation in accordance with current accounting guidance and recognize stock-based compensation expenses over the period the recipient is required to provide service in exchange for the award. The Black-Scholes option pricing model is used to estimate the fair value of stock options, which requires the use of a number of assumptions, including expected volatility, expected life, risk-free interest rate and expected dividends. The fair value of restricted stock grants is based on the closing market price of our stock on the date of grant less the expected dividend yield. For awards with market based vesting conditions, we estimate the grant date fair value using a Monte-Carlo simulation model or other similar valuation model. These models require the use of assumptions such as the risk-free rate, expected volatility, expected dividends and the correlation coefficient. As we accumulate additional employee stock-based awards data over time and as we incorporate market data related to our common stock, we may calculate significantly different volatilities and expected lives, which could materially impact the valuation of our stock-based awards and the stock-based compensation expense that we will recognize in future periods.

Recent Accounting Pronouncements

See Note 1, Basis of Presentation and Summary of Significant Accounting Policies, to consolidated financial statements included elsewhere in this Annual Report on Form 10-K for recently adopted accounting pronouncements and recently issued accounting pronouncements not yet adopted as of the date of this Annual Report on Form 10-K.

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

You should read the following discussion and analysis of our financial condition and results of operations in conjunction with our consolidated financial statements and related notes thereto included elsewhere in this Annual Report. In addition to historical information, the following discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of certain factors, including those set forth in Part I Item 1A Risk Factors and elsewhere in this Annual Report. See also Part I Special Note Regarding Forward-Looking Statements in this Annual Report.

Overview

We are a technology leader in the design, development and manufacture of advanced robotic systems and solutions that redefine human possibilities. Our mission is to increase worker productivity and longevity and prevent injuries through robotics. Our robotic systems are designed to augment and increase human productivity, rather than replace humans, by combining human intelligence, instinct and judgment with the strength, endurance and precision of machines.

Our core systems consist of the Guardian XM, Guardian XT and Guardian Sea Class teleoperated/semi-autonomous systems and the Guardian XO exoskeleton. We adapt these core systems for specific use-cases based on the capabilities and characteristics of each system to create solutions. We may also combine aspects of multiple systems or create a specific system for a particular solution.

Based on feedback from our development customers and potential commercial customers, we have decided to offer our systems and solutions primarily through a sales business model where the customer purchases a system or solution for a one-time, upfront amount. We also plan to offer software upgrades and additional capabilities and to offer for sale add-on hardware components (such as additional interchangeable end-effectors).

Business Combination

On September 24, 2021 (the “Closing Date”), we consummated a business combination (the “Business Combination”) pursuant to the terms of the Agreement and Plan of Merger, dated as of April 5, 2021, by and among Rotor Acquisition Corp. (“Rotor”), Rotor Merger Sub Corp., a Delaware corporation, and a direct, wholly-owned subsidiary of Rotor (“Merger Sub”), and Sarcos Corp., a Utah corporation (“Old Sarcos”) and Amendment No. 1 to the Agreement and Plan of Merger, dated as of August 28, 2021 (the “Amendment” and the Original Merger Agreement, as amended, the “Merger Agreement”), by and among Rotor, Merger Sub and Old Sarcos. Pursuant to the terms of the Merger Agreement, the Business Combination between Rotor and Old Sarcos was effected through the merger of Merger Sub with and into Old Sarcos, with Old Sarcos continuing as the surviving corporation (the “Merger”) and a wholly-owned subsidiary of the Company. On the Closing Date, Rotor changed its name to Sarcos Technology and Robotics Corporation.

The Business Combination was accounted for as a reverse capitalization, with no goodwill or other intangible assets recorded, in accordance with U.S. GAAP. Under this method of accounting, Rotor is treated as the “acquired” company for financial reporting purposes. Accordingly, for accounting purposes, the financial statements of the combined entity represent a continuation of the financial statements of Old Sarcos with the Business Combination being treated as the equivalent of Old Sarcos issuing stock for the net assets of Rotor, accompanied by a recapitalization. The net assets of Old Sarcos and Rotor are stated at historical cost, with no goodwill or other intangible assets recorded. Financial statement information, including results of operations prior to the Business Combination are those of Old Sarcos.

Response to COVID-19

On January 30, 2020, the World Health Organization declared the COVID-19 outbreak a “Public Health Emergency of International Concern” and on March 11, 2020, declared it to be a pandemic. Actions taken around the world to help mitigate the spread of COVID-19 include restrictions on travel, quarantines in certain areas and forced closures for certain types of public places and businesses. COVID-19 and actions taken to mitigate its spread have had and may continue to have an adverse impact on the economies and financial markets of many countries, including the geographies in which Sarcos operates.

We took several actions in response to the COVID-19 pandemic that resulted in significant disruptions to how we operate our business. Our customers and partners adopted similar policies. These actions and policies of ours and our customers and partners are evolving as laws, regulations and recommendations evolve. Although many of these measures are no longer in effect, we have experienced, and may continue to experience, an adverse impact on certain parts of our business as a result of

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measures to mitigate the COVID-19 pandemic and their resulting economic effects. Further, discontinued measures could be reinstituted, for example as a result of government requirements or in response to new variants of COVID-19.

We have experienced and may continue to experience disruptions in our supply chain, due in part to the global impact of the COVID-19 pandemic. Depending upon the duration of the ongoing COVID-19 pandemic and the associated business interruptions, our customers, suppliers, manufacturers and partners may suspend or delay their engagements with us, which could result in a material adverse effect on our financial condition and ability to meet current timelines. In an effort to manage potential supply chain risks, in particular increasing and unpredictable lead-times, we have accelerated and expect to continue to accelerate purchases of various materials, parts and components for the foreseeable future to support product development and current and future production of our commercial units, which has and will likely continue to increase our use of cash. In addition, the COVID-19 pandemic has affected and may continue to affect our ability to recruit skilled employees to join our team. The conditions caused by the pandemic have adversely affected and may continue to adversely affect, among other things, demand for our products and the ability to test and assess our robotic systems with potential customers any of which adversely affects our business, results of operations and financial condition. The duration and extent of the COVID-19 pandemic and its impacts cannot be accurately predicted at this time, and the ultimate direct and indirect impacts on our business, results of operations and financial condition will depend on future developments that are highly uncertain.

The global impact of COVID-19 continues to rapidly evolve, and we will continue to monitor the situation and the effects on our business and operations closely. We do not yet know the full extent of potential impacts on our business or operations. In particular, the effect of the COVID-19 pandemic may not be fully reflected in our operating results until future periods. Given this uncertainty, we cannot reasonably estimate the impact of the COVID-19 pandemic on our future results of operations, cash flows, or financial condition.

Key Factors Affecting Operating Results

We believe that our performance and future success depend on several factors that present significant opportunities for us but also pose risks and challenges, including those discussed below and in Part I Item 1A Risk Factors of this Annual Report on Form 10-K.

Development, Testing and Commercial Launch of our Core Products

We expect that revenue from the commercial launch of three of our core products, the Guardian XT, Guardian XM and Guardian Sea Class, will determine our near-term financial success. We began initial production of commercial units of the Guardian XM during September 2022 and initial production of commercial units of the Guardian XT during December 2022. We expect that we will have units of both of these systems available for delivery to customers in the first half of 2023. In large part due to significant supply chain disruptions that have limited our supply of parts common to both the Guardian XO and Guardian XT and certain parts pertaining to the Guardian XO, we have prioritized the commercialization of the Guardian XT and Guardian XM and delayed the commercial launch of the Guardian XO. We chose to prioritize the Guardian XT and Guardian XM as we were closer to completing development of commercial units for those products and initial demand for those products appears strong, and our ongoing re-design of the Guardian XO in order to decrease its weight and integrate customer feedback will require additional time to complete. Timelines may be delayed, including due to challenges in recruiting skilled employees, difficulties in securing components and materials, development delays, difficulties relating to manufacturing of the units and other factors discussed under Part I Item 1A Risk Factors “Risks Related to Our Business and Industry.” Such challenges may result in further delay of the anticipated commercial launch of one or more of our products, which would adversely affect our financial condition and operating results.

Financing of Operations

Prior to commercialization, we must complete the development, testing and manufacturing requirements of our products. As a result, we will spend a material portion of our cash on hand to develop our products and fund operations for the foreseeable future. The amount and timing of our future funding requirements will depend on many factors, including the pace and results of our product development efforts, our ability to manufacture, sell and deliver commercial products and thereby recognize associated revenue, capital requirements to build commercial products prior to receiving payments sufficient to cover our costs and our ability to lower product costs as volumes increase. We currently expect to obtain outside financing to help cover production costs for product orders. In addition, although we believe we have sufficient capital to fund our business for at least the next 12 months, we expect to seek additional financing during that time to bolster our cash reserves and ensure our ability to continue to pursue our business objectives. Any delays in the successful completion of the commercialization of our Guardian XT, Guardian XM, Guardian Sea Class and Guardian XO products will negatively impact our ability to generate revenue, our profitability and our overall operating performance.

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Acquisition and Integration of RE2

On April 25, 2022, we acquired RE2, Inc., a Pittsburgh, PA based developer of manipulator arms with human-like performance, intuitive robot interfaces and advanced autonomy capabilities for use in any environment. At closing, we paid approximately $30 million in cash, net of cash acquired, issued approximately 10.8 million shares of Common Stock and assumed certain outstanding options to acquire RE2 common stock which, following such assumption, represent rights to acquire 3.9 million shares of Common Stock. The results presented and discussed below include the activity for RE2 from the acquisition date through December 31, 2022. Our results do not include RE2’s financial information prior to the acquisition.

Customer Demand

Although our Guardian XT and Guardian XM units are not yet commercially available and we have only recently begun production of commercial units in limited quantities, we have received interest from potential customers that have tested or witnessed demonstrations of our pre-commercial units. However, because our robotic systems represent a new product category in markets that currently rely generally on conventional, manual systems, the market demand for our products is unproven, and important assumptions about the characteristics of targeted markets, pricing and sales cycles may be inaccurate. If customer demand does not develop as expected or we do not accurately forecast pricing, adoption rates and sales cycles for our products, our business, results of operations and financial condition will be adversely affected.

Manufacturing of Our Products

To the extent we obtain commercial orders for our products, we will need to manufacture and deliver them to our customers. We have recently entered into an agreement with a third-party contract manufacturer and expect to generally outsource manufacturing of our products over time. However, engaging with a manufacturing partner will likely require significant time, ramp-up, testing and coordination before high-volume production capability by the partner is achieved. We currently do not anticipate high-volume production by a contract manufacturing partner to be in place until at least the end of 2023. We expect that this contract manufacturing partner will initially focus on helping us produce sub-systems for the Guardian XT. We expect that in 2023 we will have the internal capability to manufacture a total of between 300 – 500 systems, depending on the mix. However, we do not believe that we will use all of that capacity in 2023. For additional information around the risks associated with contract manufacturing see Part I Item 1A Risk Factors “Our expected transition to an outsourced manufacturing business model may not be successful, which could harm our ability to deliver products and recognize revenue.”

Continued Investment and Innovation

We are a pioneer in the robotic systems industry and benefit from lessons learned over 30 years and significant investment in research and development in our proprietary technologies and our extensive patent portfolio. However, our financial performance is significantly dependent on our ability to maintain this leading position and further dependent on the investments we make in research and development. It is important that we continually identify and respond to rapidly evolving customer requirements, develop and introduce innovative new products, enhance and service existing products and generate active market demand for our robotic systems. If we fail to do this, our market position and revenue may be adversely affected, and our investments into these technologies will not be recovered.

Geopolitical and Macro-economic Environment

Geopolitical and macro-economic factors, such as inflation, rising interest rates, oil prices, unemployment rates, the war in Ukraine, volatility in the stock market and political or social unrest, can have significant impacts on economic activity, which in turn could affect demand for our products or our ability to cost-effectively develop, sell and manufacture our products. Among other things, these and similar factors can affect our supply chain, our ability to hire qualified personnel, our labor and materials costs, the prices we charge for our products and the budgets of our customers and their expected return-on-investment from the purchase of or subscription for our products. Many of these factors are outside of our control but can have a significant impact on our business success and operating results. If we are unable to manage our business successfully in response to any such factors, our business and results of operations would be adversely affected.

Basis of Presentation

Currently, we conduct business through one operating segment. All long-lived assets are maintained in, and all losses are attributable to, the United States of America. See Note 14, Segment Information, in the accompanying consolidated financial statements for more information about our operating segment.

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Components of Results of Operations

Revenue, net

We derive our revenue from two sources. First, we enter into research and development agreements primarily relating to the commercialization of our products. Second, we sell our products and related parts and repair services. Product development contract revenue consists of revenue arising from different types of contractual arrangements, including cost-type contracts and fixed-price contracts. Product revenue primarily consists of sales of the Company’s products.

Product Development Contract Revenue

Cost-type contracts – Research, development and/or testing service contracts, including cost-plus-fixed-fee and time and material contracts, relate primarily to the development of our robotics systems and related technology. Cost-type contracts are generally entered into with the U.S. government. These contracts are billed at cost plus a margin as defined by the contract and Federal Acquisition Regulation (“FAR”). The FAR establishes regulations around procurement by the government and provides guidance on the types of costs that are allowable in establishing prices for goods and services delivered under government contracts. Revenue on cost-type contracts is recognized over time as goods and services are provided.

Fixed-price contracts – Fixed-price development contracts relate primarily to the development of technology in the area of robotic systems. Fixed-price development contracts generally require a significant service of integrating a complex set of tasks and components into a single deliverable. Revenue on fixed-price contracts is generally recognized over time as goods and services are provided. To the extent our actual costs vary from the fixed fee, we will generate more or less profit or could incur a loss. In accordance with Accounting Standards Codification 606, for fixed price contracts, we will recognize losses at the contract level in earnings in the period in which they are incurred.

Product Revenue

Product revenue relates to sales of our products, and certain miscellaneous parts, accessories and repair services. We provide a limited one-year warranty on product sales. Product warranties are considered assurance-type warranties and are not considered to be separate performance obligations. Product revenue is recognized at the point in time when ownership of the goods is transferred, generally at the time of shipment to the customer. At the time product revenue is recognized, an accrual is established for estimated warranty expenses based on historical experience as well as anticipated product performance.

Operating Expenses

Cost of Revenue

Our cost of revenue consists of direct and overhead expenses related to either the sale of our products or our product development contract revenue. Direct expenses include direct labor used in the production of a product or in our product development contracts, benefits expense associated with direct labor and materials directly tied to our product sale or product development contracts. Overhead expenses include allocable supervisory labor, benefits expense associated with supervisory labor, allocation of facilities expense including rent and utilities and allocation of IT labor support and equipment. Overhead expenses not allocated to cost of revenue are expensed across research and development, general and administrative and sales and marketing expenses, as applicable.

Research and Development

Research and development expenses are mainly comprised of costs from the continuing development and refinement of our existing robotic systems and the continuing research and development costs associated with our future products. These expenses include labor and related benefit expenses, materials and supplies used in our laboratories, patent expenses and related overhead expenses. Our research and development expenses may fluctuate as a percentage of our revenue from period to period due to the timing and extent of these expenses.

General and Administrative

Our general and administrative expenses consist primarily of employee-related costs for our finance, legal, people success and other administrative teams, as well as certain executives. In addition, general and administrative expenses include insurance,

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public company compliance related costs, including outside legal and accounting expenses, other professional fees, facilities and IT expense not allocated to other operating expense categories, and related overhead expense.

Sales and Marketing

Our sales and marketing expenses arise from our activities relating to our efforts to market and sell our products and services. The expenses consist primarily of labor, benefits and employee-related costs, marketing programs and events, customer service, lead generation fees, product marketing expense, public relations fees and travel associated with sales generation and marketing support and related overhead expense.

We plan to continue to invest in sales and marketing to grow our customer base and increase our brand awareness. The trend and timing of sales and marketing expenses will depend in part on the timing of the commercial launch of our products and their reception by the market. As our product sales grow, we expect that sales and marketing expenses will increase in absolute dollars in future periods; however, we expect our sales and marketing expenses to decrease as a percentage of our revenue over the long term, although our sales and marketing expenses may fluctuate as a percentage of our revenue from period to period due to the timing and extent of these expenses.

Intangible Amortization Expense

Amortization of intangible assets primarily consists of amortization of identified finite-lived trade name and trademarks, developed technology, and customer relationship assets that were allocated a portion of the purchase price from the acquisition of RE2. These costs are amortized on a straight-line basis over 5 to 9 year useful lives and, as a result, amortization expense on these assets is expected to increase slightly next year and then remain stable over the coming years.

Goodwill Impairment

Goodwill represents the excess of consideration transferred over the fair value of tangible and identifiable intangible net assets acquired and the liabilities assumed in a business combination. All of our goodwill was recognized from the acquisition of RE2. Goodwill is tested for impairment at the reporting unit level annually or more frequently if events or changes in circumstances indicate that it is more likely than not that the fair value of the reporting unit is less than its carrying amount.

We currently operate as a single reporting unit. When testing goodwill for impairment, we have the option of first performing a qualitative assessment to determine whether it is more likely than not that the fair value of the reporting unit is less than its carrying amount. If we elect to bypass the qualitative assessment, or if a qualitative assessment indicates it is more likely than not that carrying value exceeds its fair value, we perform a quantitative goodwill impairment test. Under the quantitative goodwill impairment test, if our reporting unit’s carrying amount exceeds its fair value, we will record an impairment charge based on that difference. During the fourth quarter of 2022, due to the sustained decreases in our publicly quoted share price and market capitalization, we performed a quantitative goodwill impairment test. Based on the results of the quantitative goodwill impairment assessment we concluded that the carrying value of the single reporting unit exceeded its fair value and that our goodwill was fully impaired as of December 31, 2022. We recorded a $70.2 million non-cash goodwill impairment charge during the twelve months ended December 31, 2022.

Other Income (Loss)

Interest Income (Expense), net

Interest income consists primarily of interest received or earned on our cash and marketable securities balances. Portions of our cash resided in money market investments and in U.S. Treasury securities at various points during the year. Interest expense is primarily due to interest paid on leased equipment used for our software platforms.

Gain (Loss) Warrant Liability

Gain (loss) on warrant liability consists of the change in fair value of the private placement warrants we assumed as part of the Business Combination.

Gain on Forgiveness of Notes Payable

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Gain on forgiveness of notes payable consists of gains recognized as a result of the forgiveness of our loans received under the Paycheck Protection Program (“PPP”).

Other Income, net

Other income, net consists primarily of other miscellaneous non-operating items such as proceeds from the CARES Act employee retention credit.

Income Tax Benefit (Expense)

Income taxes consist of taxes currently due plus deferred income taxes related primarily to differences between the tax bases and financial reporting bases of assets and liabilities. The deferred income taxes represent the future tax return consequences of those differences, which will either be taxable or deductible when the assets and liabilities are recovered or settled.

Results of Operations

The discussion below regarding our results of operations for the twelve months ended December 31, 2022, includes the financial results of RE2 beginning on the acquisition date of April 25, 2022 through December 31, 2022. Our results do not include RE2’s financial information prior to the acquisition.

Comparison of the Year Ended December 31, 2022, and 2021

Revenue, net

The following table presents our revenue for the twelve months ended December 31, 2022 and 2021:

Revenue increased by $9.5 million, or 187%, from $5.1 million in the twelve months ended December 31, 2021, to $14.6 million in the twelve months ended December 31, 2022, as explained below.

Product Development Contract Revenue

Revenue derived from product development contracts increased by $10.7 million, or 297%, from $3.6 million for the twelve months ended December 31, 2021 to $14.2 million for the twelve months ended December 31, 2022. The increase was primarily due to revenue recognized by RE2 from the acquisition date through December 31, 2022 pertaining to ongoing product development contracts. We expect future revenue from product development contracts to increase on a year over year basis due to the inclusion of RE2 product development contract revenue for the full year and as we bring on additional development contracts that support our commercialization efforts. As we focus on initial commercial product sales of our core product portfolio, our product development contract revenue will decrease as a percentage of total revenue.

Product Revenue

Revenue derived from product sales decreased by $1.2 million, or 78%, from $1.5 million for the twelve months ended December 31, 2021 to $0.3 million for the twelve months ended December 31, 2022. The decrease was a result of reduced sales of our legacy products to focus on the commercialization of our core product portfolio.

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Operating Expenses

The following table presents our operating expenses for the twelve months ended December 31, 2022 and 2021:

*NM - Not Meaningful

Cost of Revenue

Cost of revenue increased by $7.7 million, or 200%, from $3.9 million for the twelve months ended December 31, 2021, to $11.6 million for the twelve months ended December 31, 2022. Cost of revenue increased significantly mainly due to the increase in revenue from the inclusion of RE2's product development contract revenue and the costs associated with that revenue beginning April 25, 2022.

Research and Development

Research and development expenses increased by $16.6 million, or 95%, from $17.5 million for the twelve months ended December 31, 2021, to $34.1 million for the twelve months ended December 31, 2022. The increase was driven primarily by an increase in labor and overhead expense as a result of increased headcount (due in part to the RE2 acquisition) and third-party service provider costs as we focused on the development and commercialization of our Guardian XT, Guardian XM, Guardian Sea Class and Guardian XO products. We expect research and development expenses to decrease slightly during 2023 on a year-over-year basis as we continue to develop and refine our existing products and further enhance our efforts on our future products and software.

General and Administrative

General and administrative expenses increased by $5.4 million, or 9%, from $58.1 million for the twelve months ended December 31, 2021, to $63.5 million for the twelve months ended December 31, 2022. General and administrative expenses increased due to increased legal expenses, business insurance expenses, increased headcount (due in part to the acquisition of RE2) and related expenses. With the exception of stock-based compensation expense, we expect our general and administrative expenses to increase slightly during 2023 on a year-over-year basis as we work on our commercialization pathway and maintain public-company compliance requirements, but to decrease as a percentage of revenue.

Sales and Marketing

Sales and marketing expenses increased by $3.3 million, or 50%, from $6.6 million for the twelve months ended December 31, 2021, to $9.9 million for the twelve months ended December 31, 2022. This increase was driven by an increase in professional service fees due to the engagement of a third-party vendor utilized in data management of our products and services, and increased headcount expenses, including increased stock-based compensation expense and increased expenses related to additional headcount due in part to our RE2 acquisition. We expect our sales and marketing expenses to increase during 2023 on a year-over-year basis as our revenue increases.

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Intangible Amortization Expense

Intangible amortization expenses increased by $2.2 million, from $0.0 million for the twelve months ended December 31, 2021, to $2.2 million for the twelve months ended December 31, 2022. The increase in intangible amortization expense is due to the recognition of amortization expenses for the identified intangible assets recorded as part of the RE2 acquisition.

Goodwill Impairment

We fully impaired our goodwill and recorded a non-cash goodwill impairment of $70.2 million for the twelve months ended December 31, 2022 compared to no impairment for the twelve months ended December 31, 2021. The non-cash goodwill impairment was primarily driven by the sustained decrease in the Company’s publicly quoted share price and market capitalization.

Other Income (Loss)

The following table presents other income (loss) for the twelve months ended December 31, 2022 and 2021:

Other income was $16.0 million for the twelve months ended December 31, 2022, as compared to other loss of $0.5 million for the twelve months ended December 31, 2021, as a result of the increase in unrealized mark-to-market gain on our outstanding private placement warrants and increased interest income, partially offset by the gain on forgiveness of notes payable recorded in the prior year period in connection with the forgiveness of our PPP loans.

Income Tax Benefit (Expense)

Income tax benefit increased to $3.9 million for the twelve months ended December 31, 2022, compared to $0.0 million in income tax expense for the twelve months ended December 31, 2021. The income tax benefit recorded during the twelve months ended December 31, 2022 is due to the removal of a portion of our previously recorded valuation allowance on our net deferred tax assets associated with net deferred tax liabilities recorded as part of the acquisition of RE2, resulting in an income tax benefit recognized during the period. The future reversal of the net deferred tax liabilities is a source of taxable income to be considered by us when determining whether a valuation allowance is needed for our existing net deferred tax assets.

Liquidity and Capital Resources

Prior to the closing of the Business Combination, Old Sarcos financed its operations through private placements of redeemable convertible preferred stock, from the limited sale of Guardian S units and other commercially available products and by providing product development contract services and as a subcontractor for prime contractors working with the U.S. Department of Defense.

Upon the closing of the Business Combination, we retained approximately $228.8 million in cash proceeds, net of fees and expenses related to the Business Combination, including $220 million from the PIPE Financing.

We currently use cash to fund operations and capital expenditures and meet working capital requirements. As of December 31, 2022, we had $114.5 million in cash, cash equivalents and marketable securities. We believe that our cash, cash equivalents and marketable securities on hand will be sufficient to support operations, working capital and capital expenditure requirements for at least the next 12 months from the date of this report; however, we may need to secure additional financing prior to achieving positive operating cash flows, which we do not expect to occur until 2025 at the earliest.

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The amount and timing of our future funding requirements will depend on many factors, including the pace and results of our product development efforts, our ability to manufacture and deliver commercial products and thereby recognize associated revenue, capital requirements to build commercial products prior to receiving payments sufficient to cover our costs and our ability to lower product costs as volumes increase. Any delays in the successful completion of the commercialization of our products will negatively impact our ability to generate revenue, our profitability and our overall operating performance.

In addition, we may enter into arrangements to acquire or invest in complementary businesses, services and technologies, which may require acquisition capital as well as operational capital for these acquisitions or arrangements. We may be required to seek additional equity or debt financing to facilitate these arrangements. In the event that additional financing is required from outside sources, we may not be able to raise it on terms acceptable to us, or at all. If we are unable to raise additional capital when desired, our business, results of operations and financial condition would be materially and adversely affected.

We expect our operating and capital expenditures to increase as we increase headcount, expand our operations and grow our customer base. If additional funds are required to support our working capital requirements, for acquisitions or for other purposes, we may seek to raise funds through additional debt or equity financings or from other sources. We currently expect to obtain outside financing to help cover production costs for product orders. In addition, although we believe we have sufficient capital to fund our business for at least the next 12 months, we may seek additional financing during that time to bolster our cash reserves and ensure our ability to continue to pursue our business objectives. We are satisfied with our liquidity and currently have no plans to do an equity financing in 2023. We will continue monitoring our liquidity, financial and business results and outlook and market conditions, and could change our plans if we determine it to be necessary or advisable. If we raise additional funds through the issuance of equity or convertible debt securities, the percentage ownership of our equity holders could be significantly diluted and these newly issued securities may have rights, preferences or privileges senior to those of existing equity holders. If we raise additional funds by obtaining loans from third parties, the terms of those financing arrangements may include negative covenants or other restrictions on our business that could impair our operating flexibility and would also require us to incur additional interest expense. Additional financing may not be available at all or, if available, may not be available on terms favorable to us or that we find acceptable.

As of December 31, 2022, our total minimum lease payments are $17.2 million, of which $1.5 million are due in the next 12 months. Additionally, as of December 31, 2022, we had unconditional purchase commitments of $36.0 million, of which $8.0 million is due in the next twelve months. For detail regarding our lease obligations and unconditional purchase commitments refer to Note 4 Leases and Note 13, Commitments and Contingencies, to the consolidated financial statements included elsewhere in this Annual Report on Form 10-K.

Cash Flows

The following table summarizes our cash flow data for the periods presented:

Net Cash Used in Operating Activities

Cash flows used in operating activities during the twelve months ended December 31, 2022, increased by $23.3 million to $65.4 million from $42.1 million during the same period in 2021. The increase to net cash used in operating activities was primarily attributable to a $75.6 million increase to net loss, an $18.4 million increase to gains on warrant liability revaluation and a $7.5 million decrease in stock-based compensation, partially offset by goodwill impairment of $70.2 million and $6.0 million of other non-cash expenses. Additionally, net cash used in operating activities related to changes in operating assets and liabilities decreased by $2.0 million, driven mainly by decreases prepaid expenses, partially offset by decreases in accrued liabilities and other non-current liabilities and increases in inventory and billed and unbilled receivables.

Net Cash Used in Investing Activities

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Our net cash used in investing activities increased by $104.4 million. The increase in cash used in investing activities is due to the purchase of marketable securities during the twelve months ended December 31, 2022 of $77.9 million, net of maturities, and $29.7 million of net cash used as part of the purchase consideration for the RE2 acquisition.

Net Cash (Used In) Provided by Financing Activities

Our overall cash provided by financing activities decreased by $237.8 million. The decrease was due mainly to the cash proceeds from the Business Combination and PIPE Financing of approximately $228.8 million, net of expenses and fees, which was completed during the third quarter of 2021 and $2.0 million of proceeds from loans received under the PPP for the twelve months ended December 31, 2021. During the twelve months ended December 31, 2022, $8.1 million was used to repurchase shares of common stock that were withheld for payment of tax withholding obligations upon the vesting of equity awards, partially offset by proceeds from the exercise of stock options.

Emerging Growth Company Status

Section 102(b)(1) of the Jumpstart our Business Startups Act of 2012 (the “JOBS Act”) exempts emerging growth companies from being required to comply with new or revised financial accounting standards until private companies are required to comply with the new or revised financial accounting standards. The JOBS Act provides that a company can choose not to take advantage of the extended transition period and comply with the requirements that apply to non-emerging growth companies, and any such election to not take advantage of the extended transition period is irrevocable.

We are an “emerging growth company” as defined in Section 2(a) of the Securities Act, and have elected to take advantage of the benefits of the extended transition period for new or revised financial accounting standards. We will remain an emerging growth company until the earliest of (i) the last day of the fiscal year in which the market value of Common Stock that is held by non-affiliates exceeds $700 million as of the end of that year’s second fiscal quarter, (ii) the last day of the fiscal year in which we have total annual gross revenue of $1.235 billion or more during such fiscal year (as indexed for inflation), (iii) the date on which we have issued more than $1 billion in non-convertible debt in the prior three-year period or (iv) December 31, 2025, and we expect to continue to take advantage of the benefits of the extended transition period, although we may decide to early adopt such new or revised accounting standards to the extent permitted by such standards. This may make it difficult or impossible to compare our financial results with the financial results of another public company that is either not an emerging growth company or is an emerging growth company that has chosen not to take advantage of the extended transition period exemptions because of the potential differences in accounting standards used.

Critical Accounting Policies and Estimates

Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with GAAP. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets and liabilities and related disclosure of contingent assets and liabilities, revenue and expenses at the date of the financial statements. Generally, we base our estimates on historical experience and on various other assumptions in accordance with GAAP that we believe to be reasonable under the circumstances. Actual results may differ from these estimates.

Critical accounting policies and estimates are those that we consider the most important to the portrayal of our financial condition and results of operations because they require our most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. Our critical accounting policies and estimates include those related to:

Revenue Recognition

We recognize revenue from the sale of our robotic systems and from contractual arrangements to perform product development contract services that are fully funded by our customers. We recognize revenue when promised goods or services are transferred to customers in an amount that reflects the consideration to which we expect to be entitled in exchange for those goods or services. Revenue from product development contracts is recognized over time as products and services are provided. For fixed priced contracts we measure progress toward satisfaction of performance obligations using costs incurred to date relative to total estimated costs (“cost-to-cost”). Research and development contracts may last multiple years and estimation of the total transaction price and expected cost requires management’s judgment. Based on the nature of the Company’s research and development contracts, the work to be performed is often complex and may involve new processes, procedures, and tasks which

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creates uncertainty in estimating contract costs. All estimates impacting revenue recognition, including estimates of total expected costs, or Estimates at Completion, are reviewed on a periodic basis, at least quarterly.

For those performance obligations for which revenue is recognized using a cost-to-cost input method, changes in total estimated costs, and related progress towards complete satisfaction of the performance obligation, are recognized on a cumulative catch-up basis in the period in which the revisions to the estimates are made. Changes in judgments with respect to these assumptions and estimates could impact the timing or amount of revenue recognition.

Stock-Based Compensation

We use the fair value approach to account for stock-based compensation in accordance with current accounting guidance and recognize stock-based compensation expenses over the period the recipient is required to provide service in exchange for the award. The Black-Scholes option pricing model is used to estimate the fair value of stock options, which requires the use of a number of assumptions, including expected volatility, expected life, risk-free interest rate and expected dividends. The fair value of restricted stock grants is based on the closing market price of our stock on the date of grant less the expected dividend yield. For awards with market based vesting conditions, we estimate the grant date fair value using a Monte-Carlo simulation model or other similar valuation model. These models require the use of assumptions such as the risk-free rate, expected volatility, expected dividends and the correlation coefficient. As we accumulate additional employee stock-based awards data over time and as we incorporate market data related to our common stock, we may calculate significantly different volatilities and expected lives, which could materially impact the valuation of our stock-based awards and the stock-based compensation expense that we will recognize in future periods.

Valuation of Goodwill and Acquired Intangible Assets

Goodwill is initially recorded when the purchase price paid for a business acquisition exceeds the estimated fair value of the net identified tangible and intangible assets acquired. The allocation of the purchase price of the acquired businesses to goodwill and intangible assets requires us to make significant estimates and assumptions, including estimates of future cash flows expected to be generated by the acquired assets and the appropriate discount rate for those cash flows. Should conditions differ from management’s estimates at the time of the acquisition, material write-downs of goodwill and/or intangible assets may be required.

We evaluate goodwill for impairment at least annually or whenever an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. The evaluation includes consideration of qualitative factors including industry and market considerations, overall financial performance, and other relevant events and factors affecting the reporting unit. If we determine that a quantitative analysis is necessary, we perform a quantitative analysis which consists of a comparison of the fair value of a reporting unit against its carrying amount, including the goodwill allocated to each reporting unit. We determine the fair value of our reporting unit based on an income approach. The income approach is based on the present value of estimated future cash flows of the reporting units. If the carrying amount of the reporting unit is in excess of its fair value, the difference between the fair value and carrying amount is recorded as an impairment loss.

An impairment loss on intangible assets with definite useful lives exists when the estimated undiscounted cash flows expected to result from the use of the asset and its eventual disposition are less than its carrying amount. If the carrying amount exceeds the sum of the undiscounted cash flows, an impairment charge is recognized based on the amount by which the carrying amount of the assets exceeds the estimated fair value of the assets.

During the fourth quarter of 2022, due to the sustained decrease in our publicly quoted share price and market capitalization, we performed a quantitative goodwill impairment test. Based on the results of the quantitative goodwill impairment assessment we concluded that the carrying value of the single reporting unit exceeded its fair value and that our goodwill was fully impaired as of December 31, 2022. We recorded a $70.2 million non-cash goodwill impairment charge for the twelve months ended December 31, 2022. During the fourth quarter of 2022 we also tested our intangible assets with definite lives for impairment and found no impairment.

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Recent Accounting Pronouncements

See Note 1, Basis of Presentation and Summary of Significant Accounting Policies, to consolidated financial statements included elsewhere in this Annual Report on Form 10-K for recently adopted accounting pronouncements and recently issued accounting pronouncements not yet adopted as of the date of this Annual Report on Form 10-K.

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

You should read the following discussion and analysis of our financial condition and results of operations in conjunction with our consolidated financial statements and related notes thereto included elsewhere in this Annual Report. In addition to historical information, the following discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of certain factors, including those set forth in Part I Item 1A Risk Factors and elsewhere in this Annual Report. See also Part I Special Note Regarding Forward-Looking Statements in this Annual Report.

Overview

We are a technology leader for industrial highly-dexterous mobile robotic systems for use in dynamic environments. Our mission is to save lives and prevent injury while helping humans accomplish more than ever before. The robotic systems we are developing are designed to combine human intelligence, instinct, and judgment with the strength, endurance, and precision of machines. This technologically advanced line of products augments, rather than replaces, humans.

We plan to offer our Guardian XO and Guardian XT primarily through a Robot-as-a-Service, or RaaS, subscription-based service model that will give customers the convenience of on-going maintenance, support, remote monitoring and software upgrades in addition to use of our products. We currently do not have any RaaS subscription agreements.

We expect that both our capital and operating expenditures will increase significantly in connection with our ongoing activities, as we:

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continue to develop and begin to commercialize our Guardian XO and XT products;

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develop and collaborate on production systems for manufacturing efforts in-house and by third-parties;

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continue to invest in our technology, research and development efforts and our product development efforts;

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obtain, maintain, and improve our operational, financial and management information systems;

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recruit, hire and retain additional personnel to support and sustain our needs in commercializing our products, producing them and delivering them to our customers;

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establish a sales, marketing, and distribution infrastructure for commercial distribution and placement of our robotic systems;

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implement and administer our maintenance and servicing infrastructure;

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obtain, maintain and expand our intellectual property portfolio; and

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operate as a public company.

Business Combination

On September 24, 2021 (the “Closing Date”), we consummated a business combination (the “Business Combination”) pursuant to the terms of the Agreement and Plan of Merger, dated as of April 5, 2021, by and among Rotor Acquisition Corp. (“Rotor”), Rotor Merger Sub Corp., a Delaware corporation, and a direct, wholly-owned subsidiary of Rotor (“Merger Sub”), and Sarcos Corp., a Utah corporation (“Old Sarcos”) and Amendment No. 1 to the Agreement and Plan of Merger, dated as of August 28, 2021 (the “Amendment” and the Original Merger Agreement, as amended, the “Merger Agreement”), by and among the Company, Merger Sub and Old Sarcos. Pursuant to the terms of the Merger Agreement, the Business Combination between the Company and Old Sarcos was effected through the merger of Merger Sub with and into Old Sarcos, with Old Sarcos continuing as the surviving corporation (the “Merger”) and a wholly-owned subsidiary of the Company. On the Closing Date, Rotor changed its name to Sarcos Technology and Robotics Corporation.

The Business Combination was accounted for as a reverse capitalization, with no goodwill or other intangible assets recorded, in accordance with U.S. GAAP. Under this method of accounting, Rotor is treated as the “acquired” company for financial reporting purposes. Accordingly, for accounting purposes, the financial statements of the combined entity will represent a continuation of the financial statements of Old Sarcos with the Business Combination being treated as the equivalent of Old

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Sarcos issuing stock for the net assets of Rotor, accompanied by a recapitalization. The net assets of Old Sarcos and Rotor are stated at historical cost, with no goodwill or other intangible assets recorded. Operations prior to the Business Combination are those of Old Sarcos.

Response to COVID-19

On January 30, 2020, the World Health Organization declared the COVID-19 outbreak a “Public Health Emergency of International Concern” and on March 11, 2020, declared it to be a pandemic. Actions taken around the world to help mitigate the spread of COVID-19 include restrictions on travel, quarantines in certain areas and forced closures for certain types of public places and businesses. COVID-19 and actions taken to mitigate its spread have had and are expected to continue to have an adverse impact on the economies and financial markets of many countries, including the geographical area in which Sarcos operates.

We have taken several actions in response to the COVID-19 pandemic which have the potential to result in a significant disruption to how we operate our business. Our customers and partners have adopted similar policies. We have experienced, and may continue to experience, an adverse impact on certain parts of our business as a result of measures to mitigate the COVID-19 pandemic and their resulting economic effects.

We are currently experiencing disruptions in our supply chain, due in part to the global impact of the COVID-19 pandemic. Depending upon the duration of the ongoing COVID-19 pandemic and the associated business interruptions, our customers, suppliers, manufacturers and partners may suspend or delay their engagements with us, which could result in a material adverse effect on our financial condition and ability to meet current timelines. In addition, the COVID-19 pandemic has affected and may continue to affect our ability to recruit skilled employees to join our team. The conditions caused by the pandemic have adversely affected and may in the future adversely affect, among other things, demand for our products, the ability to test and assess our robotic systems with our potential customers, our IT and other expenses, our ability to recruit and the ability of our employees to travel, all of which could adversely affect our business, results of operations and financial condition. The ultimate duration and extent of the COVID-19 pandemic cannot be accurately predicted at this time, and the direct or indirect impact on our business, results of operations and financial condition will depend on future developments that are highly uncertain.

We have also experienced, and may continue to experience, certain positive financial impacts on other aspects of our business, including a reduction in certain operating expenses due to reduced business travel, deferred hiring for some positions, and the virtualization or cancellation of customer and employee events. Additionally, we believe that the COVID-19 pandemic could also enhance customer interest in our Guardian products as a means to assist and protect the current labor force and that our products are well suited to the new working environment as a result of the pandemic.

The global impact of COVID-19 continues to rapidly evolve, and we will continue to monitor the situation and the effects on our business and operations closely. We do not yet know the full extent of potential impacts on our business or operations. In particular, the effect of the COVID-19 pandemic may not be fully reflected in our operating results until future periods. Given the uncertainty, we cannot reasonably estimate the impact of the COVID-19 pandemic on our future results of operations, cash flows, or financial condition.

Recent Developments

Acquisition of RE2, Inc.

On March 28, 2022, we filed a current report on form 8-K and press release announcing that we had reached a definitive agreement to acquire RE2, Inc., a Pittsburgh, PA based developer of manipulator arms with human-like performance, intuitive robot interfaces, and advanced autonomy capabilities for use in any environment. The aggregate consideration for the acquisition of RE2 will be approximately $100.0 million, subject to customary purchase price adjustments for cash, net working capital and indebtedness. The consideration for the acquisition of RE2 will be comprised of approximately $30.0 million in cash, which we expect to fund with cash on hand, and approximately $70.0 million in shares of our common stock. The number of shares of common stock to be issued in the acquisition of RE2 will be based on the volume weighted-average price per share over a 10-day trading period ending on the third business day prior to the closing and is subject to a collar, with a floor of $5.00 per share and a ceiling of $9.00 per share. The acquisition of RE2 is subject to certain customary and other closing conditions, and is expected to close during the second quarter of 2022. The results presented below are those of the Company alone and do not include any pro-forma results of RE2.

Key Factors Affecting Operating Results

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We believe that our performance and future success depend on several factors that present significant opportunities for us but also pose risks and challenges, including those discussed below and in Part I Item 1A Risk Factors of this Annual Report on Form 10-K.

Development, Testing and Commercial Launch of the Guardian XO and Guardian XT products

We currently expect to derive revenue from the commercial launch of our Guardian XO and Guardian XT products, with initial production of commercial units beginning at the end of 2022 for delivery to customers in early 2023. Such timeline may be delayed, including due to challenges in recruiting skilled employees, difficulties in securing components and materials, development delays, difficulties relating to manufacturing of the units and other factors discussed under Part I Item 1A Risk Factors “Initial production of commercial units of our core products, the Guardian XO and Guardian XT, may be delayed beyond the end of 2022 and therefore initial delivery to customers could be beyond early 2023.” Such challenges may result in further delay of the anticipated commercial launch of one or more of our products, which would adversely affect our financial and operating results.

Prior to commercialization, we must complete the development, testing and manufacturing requirements of these products. As a result, we will spend a material portion of our cash on hand to develop our products and fund operations for the foreseeable future. The amount and timing of our future funding requirements, if any, will depend on many factors, including the pace and results of our product development efforts. Any delays in the successful completion of the commercialization of our Guardian XO and Guardian XT products will impact our ability to generate revenue, our profitability and our overall operating performance.

Customer Demand

Although our Guardian XO and Guardian XT units are not yet commercially available, we have received interest from potential customers that have tested or witnessed demonstrations of our prototypes and alpha units. However, because our robotic systems represent a new product category in markets that currently rely on conventional, manual systems, the market demand for our products is unproven, and important assumptions about the characteristics of targeted markets, pricing and sales cycle may be inaccurate. If customer demand does not develop as expected or we do not accurately forecast pricing, adoption rates and sales cycle for our products, our business, results of operations and financial condition will be adversely affected.

We expect to offer our Guardian XO and Guardian XT primarily through a RaaS subscription model, which we believe will drive accelerated adoption of our product offerings following their commercial launch. We believe the RaaS subscription model will be attractive to our customers and accelerate market adoption of our robotic systems because it will lower the upfront costs of deployment, shift customers’ capital expenditures to operating expenditures, allow customers to more nimbly scale deployments up or down in response to market conditions and make our products more accessible to customers of all sizes. However, our RaaS subscription model is unproven and may fail to gain commercial acceptance. Going forward, we expect the volume of our committed RaaS contracts to be an important indicator of our future performance.

Continued Investment and Innovation

We are a pioneer in the robotic systems industry and benefit from lessons learned over 30 years and more than $300 million in research and development investment in our proprietary technologies and our extensive patent portfolio. However, our financial performance is significantly dependent on our ability to maintain this leading position and further dependent on the investments we make in research and development. It is essential that we continually identify and respond to rapidly evolving customer requirements, develop and introduce innovative new products, enhance and service existing products and generate active market demand for our robotic systems. If we fail to do this, our market position and revenue may be adversely affected, and our investments into these technologies will not be recovered.

Basis of Presentation

Currently, we conduct business through one operating segment. All long-lived assets are maintained in, and all losses are attributable to, the United States of America. See Note 12, Segment Information, in the accompanying consolidated financial statements for more information about our operating segment.

Components of Results of Operations

Revenues, net

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We derive our revenue from two sources. First, we enter into research and development agreements primarily relating to the commercialization of our core products. Second, we sell our products and related parts and repair services. Research and development services revenue includes revenue arising from different types of contractual arrangements, including cost-type contracts and fixed-price contracts. Revenue from the sales of our products primarily includes sales of our Guardian S remote-controlled visual inspection and surveillance robotic system and our Guardian Heavy-Lift System (“HLS”).

Research and Development Services

Cost-type contracts – Research, development and/or testing service contracts, including cost-plus-fixed-fee and time and material contracts, relate primarily to the development of technology in the areas of robotics, artificial intelligence and unmanned systems. Cost-type contracts are generally entered into with the U.S. government. These contracts are billed at cost plus a margin as defined by the contract and Federal Acquisition Regulation (“FAR”). The FAR establishes regulations around procurement by the government and provides guidance on the types of costs that are allowable in establishing prices for goods and services delivered under government contracts. Revenue on cost-type contracts is recognized over time as goods and services are provided.

Fixed-price contracts – Fixed-price development contracts relate primarily to the development of technology in the area of robotic platforms. Fixed-price development contracts generally require a significant service of integrating a complex set of tasks and components into a single deliverable. Revenue on fixed-price contracts is generally recognized over time as goods and services are provided. To the extent our actual costs vary from the fixed fee, we will generate more or less profit or could incur a loss. In accordance with Accounting Standards Codification 606, for fixed price contracts, we will recognize losses at the contract level in earnings in the period in which they are incurred.

Product Revenue

Product revenues relate to sales of our Guardian S and Guardian HLS products and certain miscellaneous parts, accessories and repair services. We provide a limited one-year warranty on product sales. Product warranties are considered assurance-type warranties and are not considered to be separate performance obligations. Revenue on product sales is recognized at the point in time when ownership of the goods is transferred, generally at the time of shipment to the customer. At the time revenue is recognized, an accrual is established for estimated warranty expenses based on historical experience as well as anticipated product performance.

Cost of Revenue

Our cost of revenue consists of direct and overhead expenses related to either the sale of our products or our research and development services related to Small Business Innovation Research (“SBIR”) contracts or subcontract support. Direct expenses include direct labor used in the production of a product or in our research and development services, benefits expense associated with direct labor and materials directly tied to our product sale or research and development services. Overhead expenses include allocable supervisory labor, benefits expense associated with supervisory labor, allocation of facilities expense including rent and utilities and allocation of IT labor support and equipment. Overhead expenses not allocated to cost of revenue are expensed across research and development, general and administrative and sales and marketing expenses, as applicable.

Research and Development

Research and development expenses are mainly comprised of costs from the continuing development and refinement of our existing robotic systems and the continuing research and development costs associated with our future products. These expenses include labor and related benefit expenses, materials and supplies used in our laboratories, patent expenses and related overhead expenses. Our research and development expenses may fluctuate as a percentage of our revenue from period to period due to the timing and extent of these expenses.

We expect research and development expenses to increase for the foreseeable future as we continue to develop and refine our existing products and further enhance our efforts on our future products, including the Guardian XO and Guardian XT and our CYTAR artificial intelligence platform.

General and Administrative

Our general and administrative expenses consist primarily of employee-related costs for our finance, legal, people success and other administrative teams, as well as certain executives. In addition, general and administrative expenses include outside legal,

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accounting and other professional fees, facilities and IT expense not allocated to other operating expense categories, and related overhead expense.

We expect to incur additional general and administrative expenses to support our growth and support the requirements of being a publicly-traded company. Excluding the impact of stock-based compensation expense, we expect that general and administrative expenses will increase substantially in absolute dollars in future periods. Our general and administrative expenses may fluctuate as a percentage of our revenue from period to period due to the timing and extent of these expenses.

Sales and Marketing

Our sales and marketing expenses arise from our activities relating to our efforts to market and sell our products and services. The expenses consist primarily of labor, benefits and employee-related costs, marketing programs and events, customer service, lead generation fees, product marketing expense, public relations fees and travel associated with sales generation and marketing support and related overhead expense.

We plan to continue to invest in sales and marketing to grow our customer base and increase our brand awareness. The trend and timing of sales and marketing expenses will depend in part on the timing and launch of our RaaS offerings. As our RaaS deployments grow, we expect that sales and marketing expenses will increase substantially in absolute dollars in future periods; however, we expect our sales and marketing expenses to decrease as a percentage of our revenue over the long term, although our sales and marketing expenses may fluctuate as a percentage of our revenue from period to period due to the timing and extent of these expenses.

Interest Income (Expense), net

Interest income consists primarily of interest received or earned on our cash balances. Portions of our cash resided in money market investments in U.S. Treasury securities at various points during the year. Interest expense is primarily due to interest paid on leased equipment used for our software platforms.

Gain on Forgiveness of Notes Payable

Gain on forgiveness of notes payable consists of gains recognized as a result of the forgiveness of our loans received under the Paycheck Protection Program (“PPP”).

Loss on Warrant Liability

Loss on warrant liability consists of the periodic change in fair value of the private placement warrants we assumed as part of the Business Combination.

Other Income, net

Other income, net consists primarily of other miscellaneous non-operating items such as the sale or disposal of equipment no longer needed for the business.

Provision for Income Taxes

Income taxes consist of taxes currently due plus deferred income taxes related primarily to differences between the tax bases and financial reporting bases of assets and liabilities. The deferred income taxes represent the future tax return consequences of those differences, which will either be taxable or deductible when the assets and liabilities are recovered or settled.

Results of Operations

Comparison of the Year Ended December 31, 2021, and 2020

Revenue, net

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The following table presents our revenue for the twelve months ended December 31, 2021 and 2020:

Revenue decreased by $3.7 million, or 42%, from $8.8 million in the twelve months ended December 31, 2020, to $5.1 million in the twelve months ended December 31, 2021, as explained below.

Research and Development Services

Revenue derived from research and development services decreased by $3.2 million, or 47%, from $6.8 million for the twelve months ended December 31, 2020 to $3.6 million for the twelve months ended December 31, 2021. The decrease was a result of a net change in work efforts for various projects during the comparable periods and a decision to focus only on projects fully aligned with our product commercialization efforts. We expect future revenues from research and development services to fluctuate as we develop our products and narrow our focus to accepting only those development contracts that are fully aligned with our product commercialization efforts.

Product Revenue

Revenue derived from product sales decreased by $0.5 million, or 26%, from $2.0 million for the twelve months ended December 31, 2020 to $1.5 million for the twelve months ended December 31, 2021. The decrease in revenue derived from product sales was primarily related to lower sales of our Guardian S product during 2021 partially offset by higher sales of our Guardian HLS product during 2021.

Operating Expenses

The following table presents our operating expenses for the twelve months ended December 31, 2021 and 2020:

Cost of Revenue

Cost of revenue decreased by $1.7 million, or 31%, from $5.6 million for the twelve months ended December 31, 2020, to $3.9 million for the twelve months ended December 31, 2021, driven by a decrease in expense related to the use of direct labor and third-party contractors as a result of lower revenue during 2021. The decrease in cost of revenue was partially offset by an increase in material costs due to increased sales of our Guardian HLS product and increased applied overhead.

Research and Development

Research and development expenses increased by $3.4 million, or 24%, from $14.1 million for the twelve months ended December 31, 2020, to $17.5 million for the twelve months ended December 31, 2021. The increase was driven by labor and overhead expense as a result of additional headcount added during 2021 and increased third-party contractors and professional services expense. We expect our research and development expenses to grow in the future as we continue to develop and commercialize the Guardian XO and XT product lines.

General and Administrative

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General and administrative expenses increased by $50.8 million, or 696%, from $7.3 million for the twelve months ended December 31, 2020, to $58.1 million for the twelve months ended December 31, 2021. The largest portion of the increase, $41.8 million, is related to stock-based compensation expense recognized mainly for RSA and RSU grants that either vested or began vesting upon the closing of the Business Combination. While most of the expenses relating to the Business Combination were treated as a reduction to paid-in capital, general and administrative expenses increased by $1.1 million due to certain professional fees that were not capitalized and were associated with the Business Combination and subsequent public company compliance. Additionally, general and administrative expense increased due to increased business insurance expense, patent and trademark filings expense, rent expense related to our new facility, and increased labor and recruiting expense from additional headcount.

Sales and Marketing

Sales and marketing expenses increased by $3.8 million, or 137%, from $2.8 million for the twelve months ended December 31, 2020, to $6.6 million for the twelve months ended December 31, 2021. This increase was driven by professional service fees from a third-party vendor utilized in data management of our products and services, from stock-based compensation expense for RSU grants that vested upon the closing of the Business Combination and from increased branding, public relations and marketing activities.

Other (Loss) Income

The following table presents other (loss) income for the twelve months ended December 31, 2021 and 2020:

*NM - Not Meaningful

Other (loss) income decreased by $0.6 million for the twelve months ended December 31, 2021 as compared to the prior year, as a result of the $4.9 million in unrealized mark-to-market loss on warrants partially offset by a $4.4 million gain from the forgiveness of our PPP loans.

Liquidity and Capital Resources

Prior to the closing of the Business Combination, Old Sarcos financed its operations through private placements of redeemable convertible preferred stock, from the limited sale of Guardian S units and other commercially available products and by providing research and development services under SBIR contracts and as a subcontractor for prime contractors working with the U.S. Department of Defense.

As a result of the Business Combination, we obtained approximately $228.8 million in cash proceeds, net of fees and expenses related to the Business Combination, including $220.0 million from the PIPE Financing.

We currently use cash to fund operations and capital expenditures and meet working capital requirements. As of December 31, 2021, we had $217.1 million in cash and cash equivalents. We believe that our cash and cash equivalents on hand will be sufficient to support operations, working capital and capital expenditure requirements for at least the next 12 months.

Our future capital requirements will depend on many factors, including our revenue growth rate, our ability to commercialize and deploy in the market our Guardian XO and Guardian XT products, our decision to outsource manufacturing of our robotic systems or develop high volume production manufacturing capabilities in-house, unanticipated supply chain delays, availability of required materials and components, the extent to which we use capital to support further infrastructure development and research and development efforts, additional capital expenditures required for existing and new facilities, the expansion of

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sales, marketing, service and maintenance efforts, and the development expenses related to designing and developing of new product capabilities.

In addition, we may, in the future, enter into arrangements to acquire or invest in complementary businesses, services, and technologies, which may require acquisition capital as well as operational capital for these acquisitions or arrangements. We may be required to seek additional equity or debt financing to facilitate these arrangements. In the event that additional financing is required from outside sources, we may not be able to raise it on terms acceptable to us or at all. If we are unable to raise additional capital when desired, our business, results of operations, and financial condition would be materially and adversely affected.

We expect our operating and capital expenditures to increase as we increase headcount, expand our operations and grow our customer base. If additional funds are required to support our working capital requirements, acquisitions, or other purposes, we may seek to raise funds through additional debt or equity financings or from other sources. If we raise additional funds through the issuance of equity or convertible debt securities, the percentage ownership of our equity holders could be significantly diluted, and these newly issued securities may have rights, preferences or privileges senior to those of existing equity holders. If we raise additional funds by obtaining loans from third parties, the terms of those financing arrangements may include negative covenants or other restrictions on our business that could impair our operating flexibility and would also require us to incur additional interest expense. We can provide no assurance that additional financing will be available at all or, if available, that we would be able to obtain additional financing on terms favorable to us.

As of December 31, 2021, our total minimum lease payments are $16.4 million, of which $1.4 million are due in the next 12 months. Additionally, as of December 31, 2021, we had unconditional purchase commitments of $36.0 million, of which none is due in the next twelve months. For detail regarding our lease obligations and unconditional purchase commitments refer to Note 11, Commitments and Contingencies, to the consolidated financial statements included elsewhere in this Annual Report on Form 10-K.

Cash Flows

The following table summarizes our cash flow data for the periods presented:

Net Cash Used in Operating Activities

Cash flows used in operating activities during the twelve months ended December 31, 2021, increased by $25.2 million to $42.1 million from $16.9 million during the same period in 2020. The increase to net cash used in operating activities was primarily attributable to a $60.6 million increase to net loss, partially offset by increases in stock-based compensation expense and other non-cash expenses. Additionally, net cash used in operating activities related to changes in operating assets and liabilities increased by $6.1 million, driven mainly by increases in prepaid expenses, partially offset by increases in operating liabilities.

Net Cash Used in Investing Activities

Our net cash used in investing activities increased by $3.7 million and is primarily driven by expenditures for the tenant improvements made for our new facility.

Net Cash Provided by Financing Activities

Our overall cash provided by financing activities increased by $187.9 million. We received approximately $228.8 million, net of expenses and fees in cash proceeds from the Business Combination and PIPE Financing. In comparison Old Sarcos received $39.9 million during 2020 from its stock offering. In addition, Old Sarcos received $2.0 million in March 2021 from our second

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PPP loan and received $2.4 million in April 2020 from our first PPP loan. In February 2021, we purchased the non-controlling interest in our subsidiary, ZeptoVision, Inc., for $0.2 million.

Emerging Growth Company Status

Section 102(b)(1) of the Jumpstart our Business Startups Act of 2012 (the “JOBS Act”) exempts emerging growth companies from being required to comply with new or revised financial accounting standards until private companies are required to comply with the new or revised financial accounting standards. The JOBS Act provides that a company can choose not to take advantage of the extended transition period and comply with the requirements that apply to non-emerging growth companies, and any such election to not take advantage of the extended transition period is irrevocable.

We are an “emerging growth company” as defined in Section 2(a) of the Securities Act, and has elected to take advantage of the benefits of the extended transition period for new or revised financial accounting standards. We will remain an emerging growth company until the earliest of (i) the last day of the fiscal year in which the market value of Common Stock that is held by non-affiliates exceeds $700 million as of the end of that year’s second fiscal quarter, (ii) the last day of the fiscal year in which we have total annual gross revenue of $1.07 billion or more during such fiscal year (as indexed for inflation), (iii) the date on which we have issued more than $1 billion in non-convertible debt in the prior three-year period or (iv) December 31, 2025, and we expect to continue to take advantage of the benefits of the extended transition period, although we may decide to early adopt such new or revised accounting standards to the extent permitted by such standards. This may make it difficult or impossible to compare our financial results with the financial results of another public company that is either not an emerging growth company or is an emerging growth company that has chosen not to take advantage of the extended transition period exemptions because of the potential differences in accounting standards used.

Critical Accounting Policies and Estimates

Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with GAAP. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets and liabilities and related disclosure of contingent assets and liabilities, revenue and expenses at the date of the financial statements. Generally, we base our estimates on historical experience and on various other assumptions in accordance with GAAP that we believe to be reasonable under the circumstances. Actual results may differ from these estimates.

Critical accounting policies and estimates are those that we consider the most important to the portrayal of our financial condition and results of operations because they require our most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. Our critical accounting policies and estimates include those related to:

Revenue Recognition

We recognize revenue from the sale of our robotic systems and from contractual arrangements to perform research and development services that are fully funded by our customers. We recognize revenue when promised goods or services are transferred to customers in an amount that reflects the consideration to which we expect to be entitled in exchange for those goods or services. Revenue from research and development services is recognized over time as products and services are provided. For fixed priced contracts we measure progress toward satisfaction of performance obligations using costs incurred to date relative to total estimated costs (“cost-to-cost”). Research and development contracts may last multiple years and estimation of the total transaction price and expected cost requires management’s judgment. Based on the nature of the Company’s research and development contracts, the work to be performed is often complex and may involve new processes, procedures, and tasks which creates uncertainty in estimating contract costs. All estimates impacting revenue recognition, including estimates of total expected costs, or Estimates at Completion (“EACs”), are reviewed on a periodic basis, at least quarterly.

For those performance obligations for which revenue is recognized using a cost-to-cost input method, changes in total estimated costs, and related progress towards complete satisfaction of the performance obligation, are recognized on a cumulative catch-up basis in the period in which the revisions to the estimates are made. Changes in judgments with respect to these assumptions and estimates could impact the timing or amount of revenue recognition.

Stock-Based Compensation

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We use the fair value approach to account for stock-based compensation in accordance with current accounting guidance and recognize stock-based compensation expenses over the period the recipient is required to provide service in exchange for the award. The Black-Scholes option pricing model is used to estimate the fair value of stock options, which requires the use of a number of assumptions, including expected volatility, expected life, risk-free interest rate and expected dividends. The fair value of restricted stock grants is based on the closing market price of our stock on the date of grant less the expected dividend yield. For awards with market based vesting conditions, we estimate the grant date fair value using a Monte-Carlo simulation model or other similar valuation model. These models require the use of assumptions such as the risk-free rate, expected volatility, expected dividends and the correlation coefficient. As we accumulate additional employee stock-based awards data over time and as we incorporate market data related to our common stock, we may calculate significantly different volatilities and expected lives, which could materially impact the valuation of our stock-based awards and the stock-based compensation expense that we will recognize in future periods.

Recent Accounting Pronouncements

See Note 1, Basis of Presentation and Summary of Significant Accounting Policies, to consolidated financial statements included elsewhere in this Annual Report on Form 10-K for recently adopted accounting pronouncements and recently issued accounting pronouncements not yet adopted as of the date of this Annual Report on Form 10-K.