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S-1/A Form - [Amend] General form for registration of securities under the Securities Act of 1933 - DRONE AVIATION HOLDING CORP. (0001178727) (Filer)

S-1/A1fs12019a1_droneaviationhold.htmAMENDMENT NO. 1 TO FORM S-1

As filed with the Securities and Exchange Commission on October11, 2019

Registration No. 333-232020

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

 

Amendment No. 1

to

FORM S-1

 

REGISTRATION STATEMENT UNDER THE SECURITIESACT OF 1933

 

 

 

DRONE AVIATION HOLDING CORP.

(Exact name of registrant as specifiedin its charter)

 

Nevada   3721   46-5538504

(State or other jurisdiction

of incorporation or organization)

 

(Primary Standard Industrial

Classification Code Number)

 

(I.R.S. Employer

Identification Number)

 

11651 Central Parkway, #118

Jacksonville, Florida 32224

(904) 834-4400

(Address, including zip code, and telephonenumber,

including area code, of registrant’sprincipal executive offices)

 

Daniyel Erdberg

Chief Executive Officer

Drone Aviation Holding Corp.

11651 Central Parkway, #118

Jacksonville, Florida 32224

(904) 834-4400

(Name, address, including zip code, andtelephone number,

including area code, of agent for service)

 

Copies to:

 

Laura Anthony, Esq.

Craig D. Linder, Esq.

Anthony L.G., PLLC

625 N. Flagler Drive, Suite 600

West Palm Beach, Florida 33401

Telephone: (561) 514-0936

 

Barry I. Grossman, Esq.

Sarah E. Williams, Esq.

Ellenoff Grossman & Schole LLP

1345 Avenue of the Americas

New York, New York 10105

Telephone: (212) 370-1300

 

Approximate date of commencement ofproposed sale to the public: As soon as practicable after this registration statement becomes effective.

 

If any of the securities being registeredon the Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, check thefollowing box. ☒

 

If this Form is filed to register additionalsecurities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the SecuritiesAct registration statement number of the earlier effective registration statement for the same offering. ☐

 

If this Form is a post-effective amendmentfiled pursuant to Rule 462(c) under the Securities Act, please check the following box and list the Securities Act registrationstatement number of the earlier registration statement for the same offering. ☐

 

If this Form is a post-effective amendmentfiled pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statementnumber of the earlier registration statement for the same offering. ☐

 

Indicate by check mark whether the registrantis a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growthcompany. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reportingcompany” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer   Accelerated filer
Non-accelerated filer   Smaller reporting company
      Emerging growth company

 

If an emerging growth company, indicateby check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financialaccounting standards provided to Section 7(a)(2)(B) of the Securities Act. ☐

 

 

 

CALCULATION OF REGISTRATION FEE

 

Title of Each Class of Securities to be Registered   Proposed Maximum
Aggregate
Offering Price(1)
    Amount of Registration Fee  
Units(2)   $ 11,500,000     $ 1,492.70  
Common stock, par value $0.0001 per share, included in the units     (4)     (4)
Warrants to purchase common stock, par value $0.0001 per share, included in the units     (4)     (4)
Common stock, par value $0.0001 per share, underlying the warrants included in the units(3)   $ 13,800,000     $ 1,791.24  
TOTAL   $ 25,300,000     $ 3,283.94 (5)

 

(1) Estimatedsolely for the purpose of calculating the amount of the registration fee pursuant to Rule 457(o) of the Securities Act of 1933,as amended.

 

(2) Each unit consists of one share of common stock, par value $0.0001 per share and one warrant to purchase one share of common stock, par value $0.0001 per share.  Includes 180,722 shares of common stock and/or warrants to purchase 180,722 shares of common stock, which may be issued upon exercise of a 45-day option granted to the underwriters to cover over-allotments, if any.

 

(3) Thewarrants are exercisable at a per share exercise price equal to 120% of the public offering price per share of common stock. Theproposed maximum aggregate public offering price of the shares of common stock issuable upon exercise of the warrants was calculatedto be $13,800,000 (which is 120% of $11,500,000 since each investor will receive a warrant to purchase one share of common stockfor each share of common stock purchased in this offering). Pursuant to Rule 416, the registrant is also registering an indeterminatenumber of additional shares of common stock that are issuable by reason of the anti-dilution provisions of the warrants.

 

(4) Includedin the price of the units. No fee required pursuant to Rule 457(g) under the Securities Act.

 

(5) $606.00has already been paid.

 

   

 

 

The registrant hereby amends this registrationstatement on such date or dates as may be necessary to delay its effective date until the registrant shall file a further amendmentwhich specifically states that this registration statement shall thereafter become effective in accordance with Section 8(a) ofthe Securities Act of 1933 or until the registration statement shall become effective on such date as the Commission, acting pursuantto Section 8(a) may determine.

 

 

 

 

 

Theinformation in this prospectus is not complete and may be changed. We may not sell these securities until the registration statementfiled with the Securities and Exchange Commission is effective. This prospectus is not an offer to sell these securities and itis not soliciting an offer to buy these securities in any state where the offer or sale is not permitted.

 

 

 

PRELIMINARY PROSPECTUS SUBJECT TO COMPLETION DATED OCTOBER 11, 2019

 

 

 

1,204,819 Units

Each Unit Consisting of

One share of Common Stock (par value$0.0001)

And

One Warrant to Purchase One Shareof Common Stock

 

 

 

 

 

This is a firm commitment public offeringof 1,204,819 units of Drone Aviation Holding Corp., a Nevada corporation, at an assumed public offering price of $8.30 per unit.The actual number of units we will offer will be determined based on the actual public offering price. Each unit consists of oneshare of our common stock, par value $0.0001 per share, and one warrant to purchase one share of our common stock, par value $0.0001per share, at an exercise price per share of $9.96 basedon the assumed public offering price (120% of the public offering price of one unit in this offering). The warrants will expireon the five year anniversary of the initial exercise date. The shares of our common stock and the warrants are immediately separableand will be issued and tradeable separately, but will be purchased together as a unit in this offering. The offering also includesthe shares of common stock issuable from time to time upon exercise of the warrants.

 

Our common stock is presently quotedon the OTCQB under the symbol “DRNE”. At present, there is a very limited market for our common stock. On October9, 2019, the last reported sale price for our common stock on the OTCQB was $8.30 ($0.83 pre-reverse split) per share. Quotesof stock trading prices on an over-the-counter marketplace may not be indicative of the market price on a national securitiesexchange. Prior to this offering, there has been no public market for our warrants on the OTC Markets or any other trading market.We have applied to list our common stock and warrants on The NASDAQ Capital Market under the symbols “DRNE” and “DRNEW,”respectively. The approval of our listing on the NASDAQ Capital Market is a condition of closing this offering.

 

On June 5, 2019, our board of directorsand stockholders holding a majority of our outstanding voting power, approved resolutions authorizing a reverse stock split ofthe outstanding shares of our common stock in the range from one-for-five (1-for-5) to one-for-ten (1-for-10), which ratio willbe selected by the board of directors. The board of directors will set the ratio of the reverse stock split, and the reverse stocksplit will become effective following approval by FINRA of the reverse stock split, prior to the effective date of the registrationstatement (of which this prospectus forms a part). The reverse stock split is intended to allow us to meet the minimum share pricerequirement of the NASDAQ Capital Market.

 

Except as otherwise indicated and exceptin our financial statements and the notes thereto, all references to our common stock, share data, per share data and relatedinformation depict an assumed reverse stock split ratio of 1-for-10 (“Reverse Stock Split”) until final determinationby the board of directors as if it was effective and as if it had occurred at the beginning of the earliest period presented.The Reverse Stock Split, when effective, will combine each ten shares of our outstanding common stock into one share of commonstock, without any change in the par value per share, and the Reverse Stock Split correspondingly will adjust, among other things,the exercise rate of our warrants and options into our common stock. No fractional shares will be issued in connection with theReverse Stock Split, and any fractional shares resulting from the Reverse Stock Split will be rounded up to the nearest wholeshare.

 

Persons effecting transactions in thesesecurities should confirm the registration of these securities under the securities laws of the states in which transactions occuror the existence of applicable exemptions from such registration.

 

THE SECURITIES BEING OFFERED ARESPECULATIVE AND INVOLVE A HIGH DEGREE OF RISK. THEY SHOULD BE CONSIDERED ONLY BY PERSONS WHO CAN AFFORD THE LOSS OF THEIR ENTIREINVESTMENT. SEE “RISK FACTORS” BEGINNING ON PAGE 19 OF THIS PROSPECTUS FOR A DISCUSSION OF INFORMATION THAT SHOULDBE CONSIDERED IN CONNECTION WITH AN INVESTMENT IN OUR SECURITIES.

 

NEITHER THE SECURITIES AND EXCHANGECOMMISSION NOR ANY STATE SECURITIES COMMISSION HAS APPROVED OR DISAPPROVED OF THESE SECURITIES OR PASSED UPON THE ADEQUACY OR ACCURACYOF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.

 

    Per Unit     Total  
Public offering price (1)   $              $         
Underwriting discounts and commissions (2)   $       $    
Proceeds, before expenses, to us (3)   $       $    

 

 

(1)

The public offering price and underwriting discount and commissions in respect of each unit correspondto a public offering price per share of common stock of $____ ($____ pre-reverse split) and a public offering price per accompanyingwarrant of $___ ($____ pre-reverse split).

(2)

See “Underwriting”beginning on page 76 for disclosure regarding compensation payable to the underwriters by us.

(3) We estimate the total expenses of this offering will be approximately $459,284. Assumes no exercise of the over-allotment option we have granted to the underwriters as described below.

 

We have granted Roth Capital Partnersand Aegis Capital Corp., as representatives of the underwriters, an option for a period of 45 days from the date of thisprospectus to purchase up to an additional 180,722 shares of common stock and/or warrants to purchase 180,722 shares of commonstock at the public offering price less the underwriting discount and commissions solely to cover over-allotments, if any.

 

The underwriters expect to deliverour securities to purchasers in the offering on or about __________, 2019.

 

Co-Book-Running Manager Co-Book-Running Manager
   
Roth Capital Partners Aegis Capital Corp.

 

The date of this prospectus is ____________,2019 

 

 

TABLEOF CONTENTS

 

    Page 
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS   ii
INDUSTRY AND MARKET DATA   iii
PROSPECTUS SUMMARY   1
RISK FACTORS   19
USE OF PROCEEDS   33
DIVIDEND POLICY   33
CAPITALIZATION   33
MARKET PRICE FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS   34
DILUTION   35
DESCRIPTION OF BUSINESS   36
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS   51
DIRECTORS AND EXECUTIVE OFFICERS   60
EXECUTIVE COMPENSATION   65
CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS   71
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT   73
UNDERWRITING   76
DESCRIPTION OF SECURITIES   82
LEGAL MATTERS   85
EXPERTS   85
DISCLOSURE OF COMMISSION’S POSITION ON INDEMNIFICATION FOR SECURITIES ACT LIABILITIES   85
WHERE YOU CAN FIND ADDITIONAL INFORMATION   86
INDEX TO FINANCIAL STATEMENTS   F-1

 

Nodealer, salesperson or other individual has been authorized to give any information or to make any representation other than thosecontained in this prospectus in connection with the offer made by this prospectus and, if given or made, such information or representationsmust not be relied upon as having been authorized by us. This prospectus does not constitute an offer to sell or a solicitationof an offer to buy any securities in any jurisdiction in which such an offer or solicitation is not authorized or in which theperson making such offer or solicitation is not qualified to do so, or to any person to whom it is unlawful to make such offeror solicitation. Neither the delivery of this prospectus nor any sale made hereunder shall, under any circumstances, create anyimplication that there has been no change in our affairs or that information contained herein is correct as of any time subsequentto the date hereof.

 

Forinvestors outside the United States: We have not done anything that would permit this offering or possession or distribution ofthis prospectus in any jurisdiction where action for that purpose is required, other than in the United States. Persons outsidethe United States who come into possession of this prospectus must inform themselves, and observe any restrictions relating to,the offering of the shares of our common stock and the distribution of this prospectus outside the United States.

 

i

 

 

CAUTIONARYSTATEMENT REGARDING FORWARD-LOOKING STATEMENTS

 

Thisprospectus includes “forward-looking statements” within the meaning of the federal securities laws that involve risksand uncertainties. Forward-looking statements include statements we make concerning our plans, objectives, goals, strategies,future events, future revenues or performance, capital expenditures, financing needs and other information that is not historicalinformation. Some forward-looking statements appear under the headings “Prospectus Summary,” “Risk Factors,”“Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Business.”When used in this prospectus, the words “estimates,” “expects,” “anticipates,” “projects,”“forecasts,” “plans,” “intends,” “believes,” “foresees,” “seeks,”“likely,” “may,” “might,” “will,” “should,” “goal,” “target”or “intends” and variations of these words or similar expressions (or the negative versions of any such words) areintended to identify forward-looking statements. All forward-looking statements are based upon information available to us onthe date of this prospectus.

 

Theseforward-looking statements are subject to risks, uncertainties and other factors, many of which are outside of our control, thatcould cause actual results to differ materially from the results discussed in the forward-looking statements, including, amongother things, the matters discussed in this prospectus in the sections captioned “Prospectus Summary,” “RiskFactors,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and“Business.” Some of the factors that we believe could affect our results include:

 

limitationson our ability to continue operations and implement our business plan;

 

ourhistory of operating losses;

 

thetiming of and our ability to obtain financing on acceptable terms;

 

theeffects of changing economic conditions;

 

theloss of members of the management team or other key personnel;

 

competitionfrom larger, more established companies with greater economic resources than we have;

 

costsand other effects of legal and administrative proceedings, settlements, investigations and claims, which may not be covered byinsurance;

 

costsand damages relating to pending and future litigation;

 

theimpact of additional legal and regulatory interpretations and rulemaking and our success in taking action to mitigate such impacts;

 

controlby our principal equity holders; and

 

theother factors set forth herein, including those set forth under “Risk Factors.”

 

Thereare likely other factors that could cause our actual results to differ materially from the results referred to in the forward-lookingstatements. Forward-looking statements should not be read as a guarantee of future performance or results and will not necessarilybe accurate indications of whether, or the times by which, our performance or results may be achieved. Forward-looking statementsare based on information available at the time those statements are made and management’s belief as of that time with respectto future events and are subject to risks and uncertainties that could cause actual performance or results to differ materiallyfrom those expressed in or suggested by the forward-looking statements. All forward-looking statements attributable to us in thisprospectus apply only as of the date of this prospectus and are expressly qualified in their entirety by the cautionary statementsincluded in this prospectus. We undertake no obligation to publicly update or revise forward-looking statements to reflect eventsor circumstances after the date made or to reflect the occurrence of unanticipated events, except as required by law.

 

ii

 

 

INDUSTRYAND MARKET DATA

 

Weare responsible for the disclosure in this prospectus. However, this prospectus includes industry data that we obtained from internalsurveys, market research, publicly available information and industry publications. The market research, publicly available informationand industry publications that we use generally state that the information contained therein has been obtained from sources believedto be reliable. The information therein represents the most recently available data from the relevant sources and publicationsand we believe remains reliable. We did not fund and are not otherwise affiliated with any of the sources cited in this prospectus.Forward-looking information obtained from these sources is subject to the same qualifications and additional uncertainties regardingthe other forward-looking statements in this prospectus.

 

 

iii

 

 

PROSPECTUSSUMMARY

 

This summary highlights material information concerning our business and this offering. This summary doesnot contain all of the information that you should consider before making your investment decision. You should carefully read theentire prospectus and the information incorporated by reference into this prospectus, including the information presented underthe section entitled “Risk Factors” and the financial data and related notes, before making an investment decision.This summary contains forward-looking statements that involve risks and uncertainties. Our actual results may differ significantlyfrom future results contemplated in the forward-looking statements as a result of factors such as those set forth in “RiskFactors” and “Cautionary Statement Regarding Forward-Looking Statements.” Unless otherwise indicated, exceptfor our financial statements and the notes thereto, all references to our common stock, share data, per share data and relatedinformation depict as if the Reverse Stock Split was effective.

 

Inthis prospectus, unless the context indicates otherwise, “DRNE,” the “Company,” “we,” “our,”“ours” or “us” refer to Drone Aviation Holding Corp., a Nevada corporation, and its subsidiaries.

 

BusinessOverview

 

We design, develop, market, sell and provide logistical services for specialized tethered aerial monitoringand communications platforms serving national defense and security customers for use in applications including intelligence, surveillanceand reconnaissance (“ISR”) and communications. We focus primarily on the development of a tethered aerostat known asthe Winch Aerostat Small Platform (“WASP”) which is principally designed for military and security applications wherethey can provide secure and reliable aerial monitoring for extended durations while being tethered to the ground via a high strengtharmored tether.

 

Wehave steadfastly pursued a vision that rapid, persistent, mobile access to altitude is a force multiplier for military and nationalsecurity operations. Our unique WASP technology fills what we believe to be significant gaps in the marketplace between the expensivemilitary drones and large, non-mobile aerostat systems.

 

As a result of recent capital contributions from a select group of management and non-management investorsand the elimination of a majority of our outstanding debt, we believe we are better able to position our business to seize opportunitiesthat lay ahead. This investment also allowed us to provide much-needed increased production capacity, through a strategic relationshipwith an established ISO 9001-certified manufacturer and new production in Florida through the lease of an additional facility.

 

Highlighted by a $3.8 million WASP award, followed by $1.1 million award for WASP Lite systems and a recentcontract valued at approximately $1.7 million gross revenue from the prime contractor as a follow-on to the $3.8 million contractawarded in December 2018, we have announced in excess of approximately $6.6 million gross revenue in new business in the firstsix months of 2019. Assuming receipt of this revenue, this will represent a 144% increase over the approximately $2.7 million gross revenue reported the entire twelve months of 2018.These awards support our belief that the WASP is well positioned to address the challenges facing tier-one end users, includingthe U.S. Department of Defense and the Department of Homeland Security.

 

For the fiscalyears ended December 31, 2018 and 2017, we generated revenues of $2,722,713 and $562,078, respectively; and reported net lossesof $8,475,313 and $10,323,992, respectively, and negative cash flow from operating activities of $2,387,731 and $3,326,022, respectively.For the six months ended June 30, 2019, we generated revenues of $1,380,497; and reported net losses of $1,049,360, and negativecash flow from operating activities of $3,465,878. As noted in our consolidated financial statements, we had an accumulated deficitof approximately $39,521,450 and recurring losses from operations through June 30, 2019 and a modest income of $53,814 for thequarter ended June 30, 2019. See “Risk Factors” – “We incurred a net loss in in the first six months of2019 and the fiscal years of 2018 and 2017 with negative cash flows and we cannot assure you as to when, or if, we will becomeprofitable and generate positive cash flows.”

 

1

 

Organization

 

DroneAviation Holding Corp. has two wholly owned subsidiaries: Lighter Than Air Systems Corp. (“LTAS”) and Drone AFS Corp.(“AFS”). Drone Aviation Holding Corp. was incorporated in Nevada on April 17, 2014, as a wholly owned subsidiary ofMacroSolve, Inc., an Oklahoma corporation (“MacroSolve”), and effective April 30, 2014, in order to consolidate ouroperations into an entity incorporated in Nevada, MacroSolve merged with and into us. On June 3, 2014, we acquired Drone AviationCorp. through a share exchange transaction, and on March 26, 2015, Drone Aviation Corp. merged with and into us. As a result ofthe share exchange and merger with Drone Aviation Corp., we acquired Drone Aviation Corp.’s subsidiary, LTAS. AFS becameour subsidiary upon its formation on July 9, 2015.

 

Products

 

WASPTACTICAL AEROSTATS

 

The Company’s core aerostat products are designed to provide real-time, semi-persistent situationalawareness to various military and national security customers such as the Department of Defense (DoD) and units of the Departmentof Homeland Security (DHS) such as the Customs and Border Protection (CBP) to improve security at the nation’s ports andborders. The WASP tethered aerostat system provides customers with tactical, highly mobile and cost-effective aerial monitoringand communications capabilities in remote or austere locations where existing infrastructure is lacking or not accessible. CurrentWASP products include the WASP tactical aerostat and WASP Lite, a rapidly deployable, compact aerostat system. WASP aerostats areeither self-contained on a trailer that can be towed by a military all-terrain vehicle, or “MATV,” or mine resistantambush protected vehicle (“MRAP”) or other standard vehicle, operated from the bed of a pickup truck, UTV or mountedto a building rooftop. They are designed to provide semi-persistent, mobile, real-time day/night high definition video for intelligence,surveillance and reconnaissance (ISR), detection of improvised explosive devices, border security and other governmental and civilianuses. We believe that all our products can also be utilized for disaster response missions by supporting two-way and cellular communicationsand acting as a repeater or provider of wireless networking.

 

Both the WASP and WASP Lite aerostat systems employ a tethered envelope filled with helium gas for liftand carry either a stabilized ISR or communications payload, portable ground control station and a datalink between the groundstation and the envelope. Hovering between 500 and 1,500 feet above the ground, the systems provide surveillance, communicationsand communications capabilities with relatively low acquisition and operating costs. The systems require an operational crew ofa minimum of two personnel, relatively simple maintenance procedures, and feature quick retrieval and helium top-off for re-inflation.

 

The WASP is a mobile, tactical-sized aerostat capable of carrying a variety of payloads in support ofmilitary operations helping troops in the field gain a tactical edge while communicating over greater distances. The WASP leveragesaerostat technology to elevate network payloads up to 130 pounds to an advantaged height of up to 1,500 feet, to enable persistentnetwork connectivity while reducing risk to units conducting missions. U.S. Army WASP tactical aerostats previously acquired fromus have successfully completed a number of field tests and exercises including the U.S. Department of Defense (“DoD”)CyberQuest, Enterprise Challenge, Storm Force, and various Army Network Integration Evaluations (NIE), which allows the U.S. Governmentto evaluate, among other things, the WASP’s ability to provide secure communications and capture and relay real-time, highdefinition video to various handheld devices, tablet computers and other deployed systems. In October 2016, we were awarded contractsfrom a prime contractor to provide a U.S. Military customer with integrated advanced communication solutions and optical payloadsinto their WASP aerostats which were delivered in March 2017. In October 2017, we received an award in excess of $800,000 grossrevenue from a prime contractor for a multi-mission capable WASP, including secure voice and data network range extension, froman existing DoD customer, which was delivered in February 2018. In March 2018, we received our largest single DoD contract awardto date for approximately $1.7 million gross revenue from a prime contractor for a multi-mission capable tactical WASP. TheMarch 2018 order, which was delivered in October 2018, was the third repeat order awarded to us for WASP as the result of a growingnumber of successful international military deployments. In July 2018, we entered into an exclusive teaming agreement with a U.S.Government prime contractor which is the recipient of a previously awarded IDIQ (indefinite delivery/indefinite quantity) primecontract from of the Department of Homeland Security (“DHS”), Customs and Border Protection (“CBP”). InDecember 2018, the prime contractor awarded us a subcontract valued at approximately $3.8 million gross revenue for six WASP aerostatsystems, which award was announced in January 2019. These WASP powered surveillance systems are expected to be deployed at a CBPBorder Patrol Sector on the southern border of the United States beginning in September 2019. There are 20 Border Patrol Sectorsalong U.S. borders, 9 of which are located along the U.S. Southern border. We have begun production of the initial units at ourfacilities in Florida and at our ISO 9001-certified manufacturing strategic partner’s facility. Deliveries began late inthe second quarter of 2019 and will continue throughout 2019. In June 2019, we were awarded a contract valued at approximately$1.7 million gross revenue from the prime contractor as a follow-on to the $3.8 million gross revenue contract such prime contractorawarded us in December 2018. We are working closely with the prime contractor to explore additional product and services opportunitiesin DHS and CBP under our exclusive teaming agreement.

 

2

 

  The WASP Lite is a recently developed system that utilizes the proven fieldability of our larger WASP aerostat system incorporated into a small footprint design. It is a compact, non-trailer based, cost effective aerostat system that is highly mobile and can be setup and deployed virtually anywhere from the bed of a pickup truck to a rooftop while anchored or moored. WASP Lite can move while deployed up to 40 mph and supports a wide range of lighter payloads including ISR, communications, and signal intelligence (SIGINT). In May 2019, the U.S. Army selected Drone Aviation’s enhanced WASP Lite Aerostat System for multi-unit award valued at approximately $1.1 million gross revenue. Deliveries under this award commenced in July 2019.

  

Marketand Product Strengths

 

Thedemand for our lighter-than-air (LTA) advanced tethered aerostats and tethered drones has grown significantly over the last severalyears driven by the increasing need for aerial-based, real-time situational awareness by the military and those responsible fornational security operations. Also contributing to the growth in aerial monitoring is technology advances in visual monitoringand communications payloads such as electro-optical camera systems and waveform radios which are delivering enhanced capabilitiesin smaller, lighter packages.

 

Interms of the military market, in response to the changing nature of modern warfare, ground forces today are smaller and nimbler.Most importantly, these units are now becoming interlinked in a “networked battlefield” whereby information collectedfrom a growing number of sensors – satellites, manned aircraft and drones and soldiers on the ground - are all aggregatedand shared in real-time.

 

Inline with the 2020 U.S. Defense Budget Request, “Army modernization is essential to build a more lethal force foundationalfor the Joint Force” which states modernization of the Army Network as one of six priorities. The Army Network is definedin the budget request as “a tactical communications network that enables the Army to fight cohesively in any environmentwhere the electromagnetic spectrum is denied or degraded. The network includes electronic warfare; information technology; andassured position, navigation, and timing systems and software with a low signature.” Further evidence of this commitmentcan be seen through various technology integration and evaluation programs like the Army’s Enterprise Challenge and NetworkIntegration Evaluations (NIEs). Through these programs, the Army is seeking innovative ways to collect, aggregate and disseminatecritical information and data across the battlefield.

 

Innational security operations, specifically, those conducted by the DHS and in-line with the priorities stated by the Presidentof the United States and current administration in Washington, border security is a critical area for investment. Based upon newsreports and statements directly from the DHS and CBP, the situation at the southern border of the U.S. and Mexico is in crisisas surging border crossings of immigrants and increasing levels of illegal activities such as drug traffic are surpassing availablesecurity resources.

 

3

 

Thechallenges faced by the CBP are many since the southern border with Mexico stretches over 1,950 miles from California to Texas,most of which is a barren, austere environment dominated by rough and dusty terrain and is subject to high heat and windy conditions.Currently, CBP monitoring of the border is conducted by agents on foot, on horses, in vehicles, planes, helicopters, and boats.Aerial surveillance on the border is currently conducted via helicopters, aircraft, and drones, however, these platforms are limiteddue to a lack of persistence and costly operation. Additionally, the CBP operates a network of large aerostats– TetheredAerostat Radar System (TARS), Persistent Threat Detection System (PTDS), and Persistent Ground Surveillance Systems (PGSS) –however, these systems are limited due to their large size, cost and fixed installation requirements, leaving vast border areasunmonitored.

 

Toaddress the situation, the U.S. government has allocated significant resources and DHS budget to increase manpower and improveborder security via fencing and the adoption of “smart wall technology” including aerial monitoring as well as communicationsand sensors.

 

Thepotential markets for our systems on a stand-alone basis and/or combined with other payloads relates to the following applications,among others:

 

GovernmentalMarkets:

 

International,federal, state and local governments and agencies thereof, including DoD, U.S. Drug Enforcement Agency, U.S. Homeland Security,U.S. Customs and Border Protection, U.S. Environmental Protection Agency, U.S. Department of State, U.S. Federal Emergency ManagementAgency, U.S. and state Departments of Transportation, penitentiaries, and police forces;

 

Military,including the Army, Marines, National Guard, Navy and U.S. Air Force installations;

 

Intelligence community,including the United States Special Operations Forces;

 

Bordersecurity monitoring, including U.S. Homeland Security, to deter and detect illegal entry;

 

Drugenforcement along U.S. borders;

 

Monitoringenvironmental pollution and sampling air emissions; and

 

Vehicletraffic monitoring by state and local law enforcement agencies.

 

CommercialMarkets:

 

TVand media production mobile communications systems, expanding on-site reporting capabilities to include aerial videography andphotography;

 

Agriculturemonitoring, including monitoring crop health and fields monitoring to reduce costs and increase yields;

 

Securityfor large events, including crowd management;

 

Naturaldisaster instant infrastructure to support first responders;

 

Oilpipeline monitoring and exploration; and

 

Atmosphericand climate research.

 

4

 

Distribution

 

We primarily sell our products through distribution agreements with firms such as Atlantic Diving Supply,Inc. (ADS, Inc.), a leading value-added logistics and supply chain solutions provider that serves the U.S. military, federal, stateand local government organizations, law enforcement agencies, first responders, partner nations and the defense industry. In addition,we sell our products through several prime contractors and our products are included in the U.S. Government’s GSA Schedule,which allows government customers to directly negotiate and acquire products and services from commercially listed suppliers.

 

Competitionand Market Advantage

 

We believe thecurrent market competitors to the WASP aerostat system include a large number of companies ranging from small “mom and pop”tethered aerostat and balloon companies to large defense contractors, including TCOM, Raytheon, Lockheed Martin, ISL, ILC Dover,Compass Systems, Raven Aerostar, Carolina Unmanned Vehicles, American Blimp Corporation, and RT Aerostat Systems, Inc., the Americansubsidiary of Israeli aerostat company RT LTA. We believe there are numerous commercial drone companies, such as DJI and Parrot,offering free flying drones for pleasure and commercial use, as well as many larger drone manufactures, such as Northrop Grumman,AeroVironment, Inc. and Boeing, offering military grade free flying drones to the U.S. Government, which could compete with theWASP. There are fewer commercial grade tethered drone competitors for our WATT tethered drone system that remain tethered to theground via a high strength armored tether, including Aria Insights (formerly Cyphy Works Inc.) located in Danvers, MA, Elistairlocated in Lyon, France, Hoverfly Technologies, Inc. located in Orlando, Florida, and Skysapience located in Yokneam, Israel.

 

Manyof our LTA aerostat competitors have received considerable funding from government or government-related sources to develop andbuild LTA aerostats. Most of these organizations and many of our other competitors have greater financial, technical, manufacturing,marketing and sales resources and capabilities than we do. We anticipate increasing competition as a result of defense industryconsolidation, which has enabled companies to enhance their competitive position and ability to compete against us. In addition,other companies may introduce competing aerostats or solutions based on alternative technologies that may adversely affect ourcompetitive position. As a result, our products may become less or non-competitive or obsolete. For further discussion of certainrisks relating to competition, see “Risk Factors” of this prospectus.

 

Webelieve that the principal competitive factors in the markets for the Company’s tethered systems, specifically, aerostats,include product performance, features, acquisition cost, lifetime operating cost, including maintenance and support, ease of use,integration with existing equipment, size, mobility, quality, reliability, customer support, brand and reputation.

 

Ourproprietary and recently patented tethering technology, in particular, our tension control winch system, is an important competitivedifferentiator in the market. The winch systems utilized in our products have undergone extensive testing and continued refinementthrough coordination with customers, including the U.S. Army. To date, our products have been purchased through our prime contractorsby a number of key customers including the U.S. Army and DHS/CBP.

 

Ourproducts provide critical observation and communication capabilities serving the increased demand for ISR and communications,including real-time tactical reconnaissance, tracking, combat assessment and geographic data, while reducing the risks to ourtroops in theatre. Finally, in a highly constrained fiscal environment, we believe the typically lower acquisition and use/maintenancecosts of LTA advanced aerostats make them more appealing compared to their heavier than air manned or larger LTA unmanned systemalternatives.

 

Technology,Research and Development

 

We conduct the development, commercialization and manufacturing of our products in-house at our facilitiesin Jacksonville and Holly Hill, Florida.

 

Ourresearch and development efforts are largely focused on the LTA aerostat systems, including developing miniature WASP systemsand the management and recovery of helium gas, software development, electronic energy systems, and electronic data transmission systems. We have developed an aerostat system called WASP LITE for use in commercial orgovernmental applications which do not require the same level of durability and ruggedness as the WASP, and we continue towork on different models with different payloads for various applications.

 

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For the six monthsended June 30, 2019 and for the years ended December 31, 2018 and 2017, we spent $53,971, $107,015 and $351,768, respectively,on research and development activities. Research and development expenditures are not borne directly by customers nor are thecosts accounted for in our pricing models. Throughout the remainder of 2019, we do not anticipate significant increases in researchand development expenses from levels reported in 2018 as we focus activities on continual, incremental improvement to the WASPplatform in order to increase its features and capabilities.

 

StrategicPartners

 

Weare party to several agreements with strategic partners and distributors to assist us with the marketing and sales of variousproducts, as we currently have limited in-house sales capabilities. Current relationships include:

 

 

A sales and distribution working relationship with U.S. government prime contractor ADS Inc.; and

 

 

An exclusive teaming agreement with a non-affiliate U.S. government prime contractor that is the recipient of a previously awarded IDIQ (indefinite delivery/indefinite quantity) prime contractfrom of the Department of Homeland Security, Customs and Border Protection.

 

IntellectualProperty

 

OnSeptember 18 and 19, 2014, we filed provisional patent application numbers “62/052,289” and “62/052,946”entitled “Tethered Portable Aerial Media broadcast System” based on the tethered drone system. On September 18, 2015,we filed a utility patent application claiming a priority date of the two provisional patent applications and having applicationSerial Number “14858467” entitled “Apparatus and Methods for Tethered Aerial Platform and System.” OnJuly 7, 2015, we filed a provisional patent application number “62/189,341” entitled “Apparatus, Methods andSystem for Tethered Aerial Platform.” On September 20, 2016, the United States Patent and Trademark Office (“USPTO”)issued patent number 9,446,858 entitled “Apparatus and methods for tethered aerial platform and system.” This newpatent on our electric tethered aerial platform (“ETAP”) technologies covers the core systems currently incorporatedinto the WATT and BOLT products.

 

On December 5,2016, we filed provisional patent application number “62/430,195” entitled “Converting an Onboard Battery PoweredDrone to a Ground Powered Tethered Drone”. On December 5, 2017, we filed a non-provisional patent application number “15/832,209”entitled “System for Converting a Safeguarded Free Flight Onboard Battery-Powered Drone to a Ground-Powered Tethered Drone”.On August 26, 2019, we received a Notice of Allowance and are currently awaiting the issuance and the patent.

 

OnApril 19, 2016, we filed an application for registration of the trademark “Taming Altitude”. On August 7, 2018, theUSPTO issued trademark number 5,532,648 entitled “Taming Altitude”.

 

Inaddition, the Company’s intellectual property portfolio includes an exclusive commercial license to vision-based navigationand advanced autonomous flight management software that it acquired in 2015 and exclusive commercial licenses to a number of unmannedvehicle technologies developed by Georgia Tech Research Corporation, including “GUST” (Georgia Tech UAV SimulationTool) autopilot system.

 

Oursuccess and ability to compete depends in part on our ability to develop and maintain our intellectual property and proprietarytechnology and to operate without infringing on the proprietary rights of others. As we continue the development of our aerialproducts, we expect that we will rely on patents, trade secrets, copyrights, trademarks, non-disclosure agreements and other contractualprovisions. We have also registered the trademark “Blimp in a Box.” In certain cases, when appropriate, we opt toprotect our intellectual property through trade secrets as opposed to filing for patent protection in order to preserve confidentiality.All of our employees are subject to non-disclosure agreements and other contractual provisions to establish and maintain our proprietaryrights. For further discussion of risks relating to intellectual property, see “Risk Factors” of this prospectus.For further discussion about the intellectual property rights and licenses and minimum royalties, see Note 14 – Commitmentsand Contingencies in the notes to 2018 audited financial statements.

 

Dependenceon a Few Customers and Regulatory Matters

 

Webelieve there is a large, growing market for our tethered aerial products, but anticipate that the majority of our revenue willbe derived from our LTA aerostat products sales, at least in the foreseeable future, which will come from U.S. Government andGovernment-related entities, including the DHS and other departments and agencies. Government programs that we may seek to participatein compete with other programs for consideration during Congress’s budget and appropriations hearings and may be affectedby changes not only in political power and appointments, but also general economic conditions and other factors beyond our control.Reductions, extensions or terminations in a program that we are seeking to participate in or overall defense spending or delaysin Government funding such as occurred in late December 2018 which shutdown certain departments and agencies, could adverselyaffect our ability to generate revenues and realize any profits. We cannot predict whether potential changes in security, defenseand intelligence priorities will afford opportunities for our business in terms of research and development or product contracts,but any reduction in government spending on such programs could negatively impact our ability to generate revenues.

 

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Wehave registered as a contractor with the U.S. Government and are required to comply with and will be affected by laws and regulationsrelating to the award, administration and performance of U.S. Government contracts. Government contract laws and regulations affecthow we will do business with customers, and in some instances, will impose added costs on our business. A violation of specificlaws and regulations could result in the imposition of fines and penalties, the termination of any then existing contracts, orthe inability to bid on future contracts. For further discussion of the risks relating to U.S. Government contracts and FAA rulesand regulations, see “Risk Factors” of this prospectus.

 

Duringfiscal years ended 2018 and 2017, we received a substantial portion of our revenues from a limited number of customers, and theloss of, or a significant reduction in usage by, one or more of our major customers would result in lower revenues. For furtherdiscussion about our dependence on a few major customers see Note 15 – Concentrations in the notes to the 2018 auditedfinancial statements.

 

Internationalsales of our products may also be subject to U.S. laws, regulations and policies like the U.S. Department of State restrictionson the transfer of technology, International Traffic in Arms Regulations (“ITAR”) and other export laws and regulationsand may be subject to first obtaining licenses, clearances or authorizations from various regulatory entities. Although we arenot currently pursuing international sales, we may deploy working capital towards expansion into foreign markets. This may limitour ability to sell our products abroad and the failure to comply with any of these regulations could adversely affect our abilityto conduct business and generate revenues as well as increase our operating costs. Our products may also be subject to regulationby the National Telecommunications and Information Administration and the Federal Communications Commission, which regulate wirelesscommunications.

 

Sourcesand Availability of Components

 

Certainmaterials and equipment for our products are custom made for those products and are available only from a limited number of suppliers.Failure of a supplier could cause delays in delivery of the products if another supplier cannot promptly be found or if the qualityof such replacement supplier’s components is inferior or unacceptable. For further discussion of the risks relating to sourcesand availability of components, see “Risk Factors” of this prospectus.

 

CorporateHistory

 

DroneAviation Holding Corp. was incorporated in Nevada on April 17, 2014, as a wholly owned subsidiary of MacroSolve, Inc., an Oklahomacorporation (“MacroSolve”), and effective April 30, 2014, in order to consolidate our operations into an entity incorporatedin Nevada, MacroSolve merged with and into us. On June 3, 2014, we acquired Drone Aviation Corp. through a share exchange transaction,and on March 26, 2015, Drone Aviation Corp. merged with and into us. As a result of the share exchange and merger with Drone AviationCorp., we acquired Drone Aviation Corp.’s subsidiary, LTAS. AFS became our subsidiary upon its formation on July 9, 2015.

 

Our authorizedcapital stock consists of 400,000,000 shares, of which 300,000,000 are shares of common stock, $0.0001 par value per share, and100,000,000 are shares of preferred stock, $0.0001 par value per share. As of October 11, 2019, there were 2,755,613 (27,556,121pre-reverse split) shares of common stock outstanding and no shares of preferred stock outstanding.

 

The Board of Directorsand shareholders holding a majority of the Company’s voting capital approved and adopted the 2015 Equity Incentive Plan(the “2015 Plan”) on September 4, 2015 and October 1, 2015, respectively. At the annual shareholder meeting on December6, 2016, shareholder’s approved the 2015 Plan and an amendment to the plan to (i) increase the number of shares of our commonstock with may be granted under the plan from 25,000 (250,000 pre-reverse split) to 88,300 (883,000 pre-reverse split) and (ii)reduce the automatic increase in the Share Limit provided for in Section 7.1.(b) of the 2015 Plan from 20% to 10% with such amountrounded down to the nearest 100 (1,000 pre-reverse split) shares.

 

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OnOctober 29, 2015, we effected a 1-for-40 reverse stock split of our issued and outstanding common stock. As a result of the reversestock split, every 40 shares of our pre-reverse split common stock was combined and reclassified into one share of our commonstock, and fractional shares were rounded up to the next highest number of whole shares of our common stock.

 

On September 29,2016, the Company issued a convertible promissory note (the “Convertible Promissory Notes Series 2016”) which wasdue October 1, 2017 in the aggregate principal amount of $3,000,000 in a private placement to the former Chairman of the Boardand the Chairman of the Strategic Advisory Board of the Company, both of whom are greater than 10% shareholders of the Company.On December 21, 2018, the Company issued 617,742 (6,177,411 pre-reverse split) shares of common stock to the note holders in fullsettlement of the $3,000,000 principal balance and $88,705 accrued interest.

 

During the yearended December 31, 2016, the Company issued a net total of 355,664 (3,556,635 pre-reverse split) shares of common stock as follows:

 

  (a) On January 12, 2016, the Company issued 250 (2,500 pre-reverse split) shares of common stock pursuant to conversions of an aggregate of 1,000 shares of Series A preferred stock.

 

  (b) On January 12, 2016, the Company issued 18,347 (183,468 pre-reverse split) shares of common stock pursuant to conversions of an aggregate of 73,387 shares of Series C preferred stock.

 

  (c) On January 12, 2016, the Company issued 5,000 (50,000 pre-reverse split) shares of common stock pursuant to conversions of an aggregate of 2,000,000 shares of Series D preferred stock.

 

  (d) On January 12, 2016, the Company issued 5,000 (50,000 pre-reverse split) shares of common stock pursuant to conversions of an aggregate of 1,999,998 shares of Series F preferred stock.

 

  (e) On January 12, 2016, the Company issued 5,000 (50,000 pre-reverse split) shares of common stock pursuant to conversions of an aggregate of 2,000,000 shares of Series G preferred stock.

 

  (f) On April 27, 2016, the Company issued 10,000 (100,000 pre-reverse split) shares of common stock to Lt. Gen. Michael T. Flynn, a newly appointed director. Lt. Gen. Flynn resigned as a director on December 31, 2016 due to his appointment as National Security Advisor to President Donald Trump. Lt. General Flynn forfeited 6,667 (66,667 pre-reverse split) unvested shares and disclaimed 3,333 (33,333 pre-reverse split) vested shares.

 

  (g) On April 27, 2016, the Company issued an aggregate of 115,000 (1,150,000 pre-reverse split) shares of common stock to Jay Nussbaum, Felicia Hess, Daniyel Erdberg, Kendall Carpenter, and Kevin Hess pursuant to stock award agreements.

 

  (h) On May 2, 2016, the Company issued 15,000 (150,000 pre-reverse split) shares of common stock to Strategic Advisory Board members, Dr. Philip Frost and Steven Rubin, for 12 months of services.

 

  (i) On June 3, 2016, the Company issued 5,000 (50,000 pre-reverse split) shares of common stock to Adaptive Flight Inc (AFI) due to the triggering of a ‘make whole’ provision in the value of escrowed shares.

 

  (j) On September 26, 2016, the Company issued 133,900 (1,339,000 pre-reverse split) shares of restricted common stock to employees Jay Nussbaum, Felicia Hess, Daniyel Erdberg, Kendall Carpenter, Mike Silverman and Lt. Gen. Michael Flynn pursuant to stock award agreements. Lt. Gen. Flynn resigned as a director on December 31, 2016 due to his appointment as National Security Advisor to President Donald Trump. Lt. Gen. Flynn forfeited 2,500 (25,000 pre-reverse split) unvested shares.

  

8

  

  (k) On September 26, 2016, the Company issued 3,500 (35,000 pre-reverse split) shares of common stock to Reginald Brown pursuant to stock award agreement for consulting services.

 

  (l) On September 26, 2016, the Company issued 2,500 (25,000 pre-reverse split) shares of common stock to a member of the Strategic Advisory Board.

 

  (m) On September 29, 2016, the Company issued 49,667 (496,667 pre-reverse split) shares of common stock to twelve investors, including 40,667 (406,666 pre-reverse split) shares to four affiliate investors. These investors purchased stock at $50.00 ($5.00 pre-reverse split) per share and under the purchase agreement received twelve months of price protection. The Convertible Promissory Notes Series 2016 due October 1, 2017 included a $30.00 ($3.00 pre-reverse split) per share conversion factor, thereby triggering the price protection feature.

 

During the yearended December 31, 2016, the Company granted 6,500 (65,000 pre-reverse split) common stock options to employees for service providedwith exercise prices between $29.10 ($2.91 pre-reverse split) and $37.70 ($3.77 pre-reverse split).

 

During the yearended December 31, 2016, the Company granted 6,000 (60,000 pre-reverse split) common stock warrants to consultants for serviceprovided with an exercise price of $29.10 ($2.91 pre-reverse split).

 

During the yearended December 31, 2017, the Company issued a total of 50,025 (500,250 pre-reverse split) shares of common stock as follows:

 

  (a) On April 24, 2017, the holder of Series A preferred stock converted a total of 100,100 shares of Series A for an aggregate of 25,025 (250,250 pre-reverse split) shares of restricted common stock in accordance with their conversion rights which includes a blocker with respect to individual ownership percentages.

 

  (b) On August 3, 2017, the Company issued 25,000 (250,000 pre-reverse split) shares of restricted common stock to two members of the Strategic Advisory Board as compensation for their extended service agreement from May 1, 2017 until April 30, 2018.

 

During the yearended December 31, 2017, the Company issued a total of 751,000 (7,510,000 pre-reverse split) options to purchase common stockas follows:

 

  (a) On January 9, 2017, the Company issued an option to a director to purchase 10,000 (100,000 pre-reverse split) shares of common stock with an exercise price of $29.00 ($2.90 pre-reverse split) per share.

 

  (b) On August 3, 2017, the Company issued options to purchase an aggregate of 521,000 (5,210,000 pre-reverse split) shares of the Company’s common stock outside its 2015 Equity Plan to officers, directors and employees for services provided with an exercise price of $10.00 ($1.00 pre-reverse split) per share.

 

  (c) On November 9, 2017, the Company issued options to purchase an aggregate of 200,000 (2,000,000 pre-reverse split) shares of its common stock outside its 2015 Equity Plan to officers and directors, and for services provided with an exercise price of $13.50 ($1.35 pre-reverse split) per share.

 

  (d) On December 13, 2017, the Company issued options to purchase an aggregate of 20,000 (200,000 pre-reverse split) shares of the Company’s common stock outside its 2015 Equity Plan to two newly-appointed directors with an exercise price of $10.00 ($1.00 pre-reverse split).

 

During the yearended December 31, 2017, the Company issued a total of 205,000 (2,050,000 pre-reverse split) warrants to purchase common stockas follows:

 

9

  

  (a) On August 3, 2017, the Company issued warrants to purchase an aggregate of 3,000 (30,000 pre-reverse split) shares of the Company’s common stock outside its 2015 Equity Plan to consultants for services provided with an exercise price of $10.00 ($1.00 pre-reverse split) per share.

 

  (b) On August 3, 2017, the Company issued a warrant to purchase 200,000 (2,000,000 pre-reverse split) shares of the Company’s common stock to Dr. Philip Frost for services to be provided under the terms of his service to the Strategic Advisory Board through April 2018 with an exercise price of $10.00 ($1.00 pre-reverse split) per share.

 

  (c) On November 9, 2017, the Company issued a warrant to purchase 2,000 (20,000 pre-reverse split) shares of the Company’s common stock outside its 2015 Equity Plan to consultants for services provided with an exercise price of $13.50 ($1.35 pre-reverse split) per share.

 

On August 2, 2017,the Company issued a promissory note to City National Bank of Florida (“CNB”) in the principal amount of $2,000,000,the CNB Note, with a maturity date of August 2, 2018. On September 26, 2018, the Company and CNB agreed to extend the maturitydate of the CNB Note to August 2, 2019. On August 29, 2019, the Company and CNB agreed to extend the maturity date of the promissorynote to August 2, 2020.

 

On August 3, 2017,the Company issued a secured promissory note (the “Secured Convertible Promissory Note Series 2017”) due August 2,2018 in the aggregate principal amount of $2,000,000 in a private placement to Frost Nevada Investments Trust (“Frost Nevada”) ofwhich Dr. Phillip Frost, an affiliate shareholder of the Company, is the trustee. On September 26, 2018, the Company and FrostNevada agreed to extend the maturity date of the Secured Convertible Promissory Note Series 2017 to August 2, 2019. On December21, 2018, the Company issued 403,074 (4,030,740 pre-reverse split) shares of common stock to Frost Nevada in full settlement ofthe $2,000,000 principal balance and $15,370 accrued interest.

 

In October 2017, wereceived an award in excess of $800,000 gross revenue from a prime contractor for a multi-mission capable WASP, including securevoice and data network range extension from an existing DoD customer, which was delivered in February 2018.

 

In March 2018, we receivedan approximately $1.7 million gross revenue award, our largest single DoD award to date from a prime contractor for a multi-missioncapable tactical WASP. The March 2018 order, which was delivered in October 2018, was the third repeat order awarded to usfor WASP as the result of a growing number of successful international military deployments.

 

During the yearended December 31, 2018, the Company issued a total of 1,445,816 (14,458,151 pre-reverse split) shares of common stock as follows:

 

(a) On October 25, 2018, the Company issued 25,000 (250,000 pre-reverse split) shares of restricted common stock to two members of the Strategic Advisory Board as compensation for their extended service agreement from November 1, 2018 until October 31, 2019.

 

(b) On October 24, 2018, the Company commenced an offering of up to 1,000,000 (10,000,000 pre-reverse split) shares of its common stock (the “Offered Shares”) in a private placement of up to $5,500,000 to certain accredited investors at a purchase price of $5.50 ($0.55 pre-reverse split) per share pursuant to a Stock Purchase Agreement (the “SPA”). Closing of the offering pursuant to the SPA is conditioned upon certain, limited customary representations and warranties, as well as the Company having received an aggregate of $4,000,000 in new orders from a prime government contractor or directly from the U.S. government at any time commencing after October 9, 2018 (the “Qualifying Sales Order”). As required under the SPA, upon receipt by the Company of a Qualifying Sales Order, the Company will give written notice to the investors notifying them that the Company intends to close on the purchase of the Offered Shares pursuant to the SPA. Within three days after the delivery of the notice to the investors, the Company and the investors will then close under the SPA and at closing, the Company will issue to each purchasing investor the number of shares subscribed for by each Investor.

 

(c) On December 21, 2018, the Board approved an Amended and Restated Stock Purchase Agreement (the “Amended SPA”) relating to the Offered Shares to reduce the purchase price in the Offering to $5.00 ($0.50 pre reverse split) per share, reduce the maximum offering amount from $5,500,000 to $5,000,000, extend the initial closing date of the Offering to January 15, 2019 and permit sales of the Common Stock for a period of 30 days after the initial closing in order to attract a greater number of investors. In addition, the Amended and Restated Stock Purchase Agreement revised the definition of the event triggering the initial closing date to the date when the Company enters into an agreement with a prime government contractor at any time commencing after October 8, 2018 whereby the Company agrees to provide a minimum of $4,000,000 in goods and services to such contractor.

 

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  (d) On December 21, 2018, the Company issued 617,742 (6,177,411 pre-reverse split) shares of common stock pursuant to conversion of the Convertible Promissory Notes Series 2016 and 403,074 (4,030,740 pre-reverse split) shares of common stock pursuant to conversion of the Secured Convertible Promissory Note Series 2017.

 

  (e)

On December 27, 2018, the Company completed the sale of 400,000 (4,000,000 pre-reverse split) shares of its common stock pursuant to the Amended SPA at $5.00 ($0.50 pre-reverse split) per share for an aggregate of $2,000,000, of which 100,000 shares (1,000,000 pre-reverse split) shares were issued to Jay Nussbaum, the Company’s former Chief Executive Officer and Chairman of the Board of Directors, and 300,000 (3,000,000 pre-reverse split) shares were issued to Frost Gamma Investment Trust, of which Dr. Phillip Frost, an affiliate shareholder of the Company, is the trustee. On January 25, 2019, the Company completed the sale of 401,550 (4,015,500 pre-reverse split) shares of its common stock pursuant to the Amended SPA at $5.00 ($0.50 pre-reverse split) per share for an aggregate of $2,007,750. The aggregate consideration consisted of (1) cash in the aggregate amount of $1,432,750, (2) a promissory note from a single non-affiliate investor in the aggregate principal amount of $500,000, which was repaid on February 8, 2019 including $575 in accrued interest, (3) a full-recourse promissory note payable with a maturity date of January 25, 2020 by Dan Erdberg, the Company’s CEO and President, in the amount of $50,000 which was cancelled on April 30, 2019 pursuant to Stock Redemption and Note Cancellation Agreements, and (4) a full-recourse promissory note payable with a maturity date of January 25, 2020 by Kendall Carpenter, the Company’s Executive Vice President and Chief Financial Officer, in the amount of $25,000 which was reduced by $7,500 in January 2019, leaving a principal balance of $17,500 which was repaid in full on April 30, 2019, including $134 in accrued interest. Each note bore an interest rate at a fixed rate of 3% per annum and principal and interest under the notes could be prepaid at any time without penalty.

 

During the yearended December 31, 2018, the Company issued a net total of 656,000 (6,560,000 pre-reverse split) options to purchase common stockas follows:

 

  (a) On March 28, 2018, the Company issued options to purchase an aggregate of 10,000 (100,000 pre-reverse split) shares of the Company’s common stock outside its 2015 Equity Plan to a newly-appointed directors with an exercise price of $10.00 ($1.00 pre-reverse split).

 

  (b) On May 16, 2018, the Company issued options to purchase an aggregate of 46,000 (460,000 pre-reverse split) shares of the Company’s common stock outside its 2015 Equity Plan to four employees with an exercise price of $10.00 ($1.00 pre-reverse split).

 

  (c) On August 22, 2018, the Company granted options to purchase an aggregate of 500,000 (5,000,000 pre-reverse split) shares of the Company’s common stock outside its 2015 Equity Plan to five management employees and four directors at an exercise price of $10.00 ($1.00 pre-reverse split) per share. On September 26, 2018, the Board resolved to cancel these options which had not vested.

 

  (d) On September 26, 2018, the Company granted options to purchase an aggregate of 600,000 (6,000,000 pre-reverse split) shares of Company common stock outside its 2015 Equity Plan to five management employees and four directors at an exercise price of $6.50 ($0.65 pre-reverse split) per share.

 

During the yearended December 31, 2018, the Company issued a total of 10,000 (100,000 pre-reverse split) warrants to purchase common stock asfollows:

 

  (a) On September 26, 2018, the Company issued a warrant to purchase 10,000 (100,000 pre-reverse split) shares of the Company’s common stock outside its 2015 Equity Plan to Global Security Innovative Strategies, LLC for services at an exercise price of $10.00 ($1.00 pre-reverse split) per share.

 

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InJuly 2018, we entered into an exclusive teaming agreement with a U.S. Government prime contractor which is the recipient of apreviously awarded IDIQ (indefinite delivery/indefinite quantity) prime contract from of the Department of Homeland Security (“DHS”),Customs and Border Protection (“CBP”). Under the terms of the teaming agreement:

 

  We agreed to work together to propose retrofit and new production of surveillance systems developed under the prime contract; and

 

  We agreed to provide the WASP aerostat, engineering support for WASP system integration, Field Service Representatives personnel support for WASP aerostat maintenance, training, WASP deployment, retrieval and movement, and warranty for WASP.

 

In December 2018,the prime contractor awarded us a subcontract valued at approximately $3.8 million gross revenue for six WASP aerostat systems.These WASP powered surveillance systems are expected to be deployed at a CBP Border Patrol Sector on the southern border of theUnited States commencing in September 2019. There are 20 Border Patrol Sectors along U.S. borders, 9 of which are located alongthe U.S. Southern border. We have begun production of the initial units at our facilities in Florida and at our ISO 9001-certifiedmanufacturing strategic partner’s facility. Deliveries began late in the second quarter of 2019 and will continue throughout2019. We are working closely with the prime contractor to explore additional product and services opportunities in DHS and CBPunder our exclusive teaming agreement.

 

Ourmarketing efforts include submission of bids on several government procurement projects. In the past, we also showcased our productsand technologies at numerous conferences and live demonstrations, including the 2017 Special Operations Forces Industry Conference,Warrior Expo East and took part in a series of tests conducted on the southern border of the United States, State of Florida HURREXexercise, CyberQuest 2017, and presentations to a variety of federal and state government agencies. We have also increased marketingefforts and announced the following:

 

  On August 13, 2019, we announced that we delivered the initial set of WASP Aerostat systems in support of the United States Border Patrol; U.S. Customs and Border Protection. The initial award valued at approximately $3.8 million gross revenue was announced in January 2019 and the follow-on order of approximately $1.7 million gross revenue was announced in June 2019. Due to customer-related confidentiality considerations, we were not permitted to provide additional information about those awards at the time of the announcements.

  

  On July 18, 2019, we announced that we delivered our first contract award for the Ultra-Tactical WASP Lite System, valued in excess of $1.1 million, from prime contractor ADS, Inc. to a U.S. Army customer. The award was originally announced on May 7, 2019.

  

  On February 14, 2019, we announced that we had commenced the communications upgrade of a U.S. Army-owned WASP tactical aerostat. The upgrade will enable secure communications links utilizing advanced waveforms connecting soldiers on the battlefield.

 

  On January 31, 2019, we announced that we secured an additional $2.0 million in capital, completing a private placement raising an aggregate of $4.0 million which will be used to expand production and staffing.

 

  On January 22, 2019, we announced the conclusion of training for a U.S. Army unit on the next generation WASP ERS tactical aerostat. The delivery of the $1.7 million order itself was announced on October 15, 2018.

 

  On January 15, 2019, we announced the expansion of our manufacturing capacity.

 

  On December 27, 2018, we announced that we had eliminated over 70% of our existing debt in support of our planned growth.

 

During the sixmonths ended June 30, 2019, the Company issued a total of 391,550 (3,915,500 pre-reverse split) shares of common stock as follows:

 

  (a) On January 25, 2019, the Company completed the sale of 401,550 (4,015,500 pre-reverse split) shares of its common stock pursuant to the Amended SPA at a purchase price of $5.00 ($0.50 pre-reverse split) per share, for an aggregate purchase price of $2,007,750. The aggregate consideration consisted of (1) cash in the aggregate amount of $1,432,750, (2) a promissory note from a single non-affiliate investor in the aggregate principal amount of $500,000, (3) a full-recourse promissory note payable by Dan Erdberg in the amount of $50,000 and (4) a full-recourse promissory note payable by Kendall Carpenter in the amount of $25,000. The principal amount of the Carpenter note was reduced by $7,500 on January 28, 2019 leaving a principal balance of $17,500. On April 30, 2019, Kendall Carpenter, the Company’s Executive Vice President and Chief Financial Officer, repaid the entire principal balance of the $17,500 note described above in Footnote #8 to the March 31, 2019 unaudited financial statements, including $134 in accrued interest. On April 30, 2019, Daniyel Erdberg, the Company’s CEO and President, entered into a Stock Redemption and Note Cancellation Agreement whereby the Company redeemed 10,000 (100,000 pre-reverse split) shares of common stock paid pursuant to the note described above in Footnote #8 to the June 30, 2019 unaudited financial statements and cancelled the $50,000 note and the related $267 in accrued interest.

 

On February 8,2019, the non-affiliate investor repaid the $500,000 principal due on the promissory note and on February 11, 2019, the $575 accruedinterest.

 

On April 30, 2019, the Company entered into a Stock Redemption and Note Cancellation Agreement withDaniyel Erdberg to redeem 10,000 (100,000 pre-reverse split) shares in exchange for cancellation of the $50,000 note.

 

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On April 30, 2019,the Carpenter note was repaid in full, including principal of $17,500 and accrued interest of $134.

 

During the sixmonths ended June 30, 2019, the Company issued a net total of 13,000 (130,000 pre-reverse split) options to purchase common stockas follows:

 

  (a) On March 20, 2019, the Company issued options to purchase an aggregate of 13,000 (130,000 pre-reverse split) shares of the Company’s common stock outside its 2015 Equity Plan to two employees for services provided with an exercise price of $10.60 ($1.06 pre-reverse split) per share.

 

During the sixmonths ended June 30, 2019, the Company issued a net total of 5,000 (50,000 pre-reverse split) warrants to purchase common stockas follows:

 

  (a) On March 20, 2019, the Company issued a warrant to purchase 5,000 (50,000 pre-reverse split) shares of the Company’s common stock outside its 2015 Equity Plan to a contractor for services provided with an exercise price of $10.60 ($1.06 pre-reverse split) per share.

 

On March 21, 2019,concurrent with the resignation of Kevin Hess, the Company’s prior Chief Technology Officer, the Company and Cognitive CarbonCorporation (“CCC”), a related party, entered into an agreement pursuant to which CCC agreed to provide Chief TechnologyOfficer services, sales and marketing services and outsourced software and platform development services to be provided personallyby Kevin Hess or third-party development firms of his choosing for outsourced development. CCC will receive $19,750 per month forone year for the Chief Technology Officer services and potential bonuses and an amount up to $120,000 for outsourced software andplatform development. Felicia Hess, the Company’s Chief Quality Officer, who is married to Kevin Hess, is the President andDirector of CCC.

 

Recent Developments

 

On July 18, 2019,we announced that we delivered our first contract award for the Ultra-Tactical WASP Lite System from prime contractor ADS, Inc.to a U.S. Army customer. The order was originally announced on May 7, 2019. Under the terms of the award, valued in excess of$1.1 million gross revenue, we will supply multiple WASP Lite aerostat systems capable of enhancing and extending the modern networkedbattlefield supporting specialized waveform communications equipment and day/night ISR (Intelligence, Surveillance and Reconnaissance)payloads. The WASP Lite employs the same proprietary, advanced tethering technologies found in our Winch Aerostat Small Platform(“WASP”) tactical aerostat for secure power and data transmission. Deliveries under this award commenced in July 2019.

 

On August 13, 2019,we announced that we delivered the initial set of WASP Aerostat systems in support of the United States Border Patrol; U.S. Customsand Border Protection. The initial award valued at approximately $3.8 million gross revenue was announced in January 2019 andthe follow-on order of approximately $1.7 million gross revenue was announced in June 2019. Due to customer-related confidentialityconsiderations, we were not permitted to provide additional information about those awards at the time of the announcements.

 

On August 31, 2019,Jay H. Nussbaum, the Company’s Chairman of the Board and Chief Executive Officer, passed away.

 

On September 4,2019, the Company’s Board appointed Mr. Aguilar, who has served as a member of the Board since 2017, as Chairman of theBoard. On September 4, 2019, in connection with Mr. Aguilar’s appointment as Chairman of the Board, the parties to the 2017Director Agreement agreed to amend the 2017 Director Agreement (“2017 Amendment”) pursuant to which the Company agreedto pay Mr. Aguilar an annual fee of $120,000 in exchange for his services as Chairman of the Board. See footnote regarding Mr.Aguilar in “Executive Compensation – Director Compensation Table” in this prospectus.

 

On September 4,2019, the Board appointed Daniyel Erdberg as the Company’s Chief Executive Officer and as a member of the Board to fillthe vacancy created by Mr. Nussbaum’s death. Mr. Erdberg also continues to serve as the Company’s President sincehis appointment to that position on October 2, 2015. In connection with Mr. Erdberg’s appointment as Chief Executive Officerand director, the Company and Mr. Erdberg entered into Amendment No. 6 (“Amendment No. 6”) to the Employment Agreementwith Mr. Erdberg on September 4, 2019. Pursuant to the terms of Amendment No. 6, the term of employment was extended to December31, 2020 and the annual base salary payable under the Employment Agreement was increased from $175,000 to $250,000. See “ExecutiveCompensation - Employment Contracts and Potential Payments Upon Termination or Change in Control” in this prospectus.

  

On September 4,2019, Robert Guerra resigned as a director and member of the Board’s committees, effective immediately. Mr. Guerra’sresignation was not the result of any disagreement with the Company on any matter relating to its operation, policies or practices.On September 4, 2019, the Company redeemed 10,000 (100,000 pre-reverse split) shares of its common stock, which are now TreasuryStock, pursuant to a Redemption Agreement at $5.00 ($0.50 pre-reverse split) per share for an aggregate of $50,000 which wereissued to Mr. Guerra, the Company’s former director.

 

As a result ofthese changes to the composition of the board and its committees and the officers on September 4, 2019, the Company’s officersand directors are as follows since September 5, 2019:

 

Name   Age    Positions and Offices
Daniyel Erdberg   41     Chief Executive Officer, President and Director
Kendall Carpenter   63     Executive Vice President, Chief Financial Officer, Secretary and Treasurer
Felicia Hess   52     Chief Quality Officer
David Aguilar   63     Chairman of the Board
Timothy Hoechst   53     Director and Chairman of the Compensation Committee
John E. Miller   78     Director and Chairman of the Audit Committee

 

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GoingConcern

 

For the year endedDecember 31, 2017, the Company disclosed that its ability to continue as a going concern was predicated on the Company’sability to create and market innovative products, raise capital, reduce debt or renegotiate terms, and to sustain adequate workingcapital to finance its operations. During 2018, the Company met or exceeded those predications. In 2018, the Company made a strategicdecision to focus on its aerostats, WASP and WASP Lite, and opportunities for those products with military and government customers,resulting in an order valued in excess of $3.8 million in gross revenues which was received in December 2018 and expected to bedelivered by the end of 2019. In December 2018 and January 2019, the Company raised over $4,000,000 through stock sales whichwill provide ample working capital to produce WASP systems. In December 2018, the holders of $5,000,000 in convertible notes exercisedtheir rights to convert to equity leaving only $2,000,000 in bank debt on the books. As of June 30, 2019, the Company has approximately$1,200,000 in working capital, an improvement of approximately $1,000,000 more than the Company’s working capitalbalance at the end of 2018. The Company announced its first-ever profitable financial results for the second quarter ended June30, 2019.

 

Thefocus on opportunities for aerostats, the settlement of debt obligations, the funds generated from stock sales and other initiativescontributing to additional working capital should avoid any substantial doubt about the Company’s ability to continue asa going concern as defined by FASB Accounting Standards Update 2014-05, Disclosure of Uncertainties about an Entity’sability to Continue as a Going Concern. We believe that the actions discussed above mitigate the substantial doubt raisedby our recent operating losses and satisfy our estimated liquidity needs twelve months from the issuance of the financial statements.In light of the foregoing, our auditor did not include a going concern qualification in their audit report dated March 22, 2019for the years ended December 31, 2018 and 2017 notwithstanding our historical operating losses and accumulated deficit.

 

SummaryRisk Factors

 

Ourbusiness is subject to numerous risks and uncertainties, including those in the section entitled “Risk Factors” andelsewhere in this prospectus. These risks include, but are not limited to, the following:

 

ourhistory of losses;

 

ourinability to attract sufficient demand for our services and products;

 

ourability to successfully execute our growth and acquisition strategy and manage effectively our growth;

 

changesin the competitive environment in our industry and the markets we serve, and our ability to compete effectively;

 

dependenceon a strong brand image with our end customers;

 

ourcash needs and the adequacy of our cash flows and earnings;

 

ourability to access additional capital;

 

ourdependence upon our executive officers, founders and key employees;

 

ourability to attract and retain qualified personnel;

 

ourreceiving a substantial portion of our revenues from a limited number of customers, and the loss of, or a significant reductionin usage by, one or more of our major customers would result in lower revenues;

 

14

 

ourreliance on our technology systems, the impact of technological changes and cybersecurity risks;

 

changesin applicable laws or regulations;

 

ourability to protect our trademarks or other intellectual property rights;

 

potentiallitigation from competitors or customers; and

 

thepossibility that we may be adversely affected by other economic, business, and/or competitive factors.

 

COMPANYINFORMATION

 

Ourprincipal executive offices are located at 11651 Central Parkway, #118, Jacksonville, Florida 32224 and our phone number is (904)834-4400. Our corporate website address is www.droneaviationcorp.com. Information contained on, or accessible through, our websiteis not a part of, and is not incorporated by reference into, this prospectus.

 

Thename of the Company, the logos of the Company, and other trade names, trademarks or service marks of the Company appearing inthis prospectus will be the property of the Company. Trade names, trademarks and service marks of other organizations appearingin this Offering Circular are the property of their respective holders.

 

NasdaqListing and Reverse Stock Split

 

We applied to listof our common stock and warrants on the NASDAQ Capital Market. If our application to the NASDAQ Capital Market is not approvedor we otherwise determine that we will not be able to secure the listing of the common stock and warrants on the NASDAQ CapitalMarket, we will not complete the offering.

 

On June 5, 2019,our board of directors and stockholders holding a majority of our outstanding voting power, approved resolutions authorizing areverse stock split of the outstanding shares of our common stock in the range from one-for-five (1-for-5) to one-for-ten (1-for-10),which ratio will be selected by the board of directors. The board of directors will set the ratio of the reverse stock split,and the reverse stock split will become effective following approval by FINRA of the reverse stock split, prior to the effectivedate of the registration statement (of which this prospectus forms a part). The reverse stock split is intended to allow us tomeet the minimum share price requirement of the NASDAQ Capital Market.

 

Except as otherwiseindicated and except in our financial statements and the notes thereto, all references to our common stock, share data, per sharedata and related information depict an assumed reverse stock split ratio of 1-for-10 (“Reverse Stock Split”) untilfinal determination by the board of directors as if it was effective and as if it had occurred at the beginning of the earliestperiod presented. The Reverse Stock Split, when effective, will combine each ten shares of our outstanding common stock into oneshare of common stock, without any change in the par value per share, and the Reverse Stock Split correspondingly will adjust,among other things, the exercise rate of our warrants and options into our common stock. No fractional shares will be issued inconnection with the Reverse Stock Split, and any fractional shares resulting from the Reverse Stock Split will be rounded up tothe nearest whole share.

 

15

 

ORGANIZATIONAL STRUCTURE

 

The diagram below depicts our organizational structure after this Offering:

 

 

 

Thisdiagram assumes the underwriters exercise their over-allotment option in full but does not assume the exercise of the warrantsforming part of the units or the over-allotment option.

  

The Offering
     
Issuer   Drone Aviation Holding Corp.
     
Securities offered by us   1,204,819 units, at an assumed public offering price of $8.30 per unit, which was the last reported sale price of our common stock on October 9, 2019, each unit consisting of one share of our common stock and one warrant to purchase one share of common stock for a total of 1,204,819 shares and warrants to purchase up to an aggregate of 1,204,819 shares of common stock. The actual number of units we will offer will be determined based on the actual public offering price.  The units will not be certificated and the shares of our common stock and the warrants are immediately separable at closing and will be issued and tradeable separately, but will be purchased together as a unit in this offering.  
     
Terms of Warrants issued as part of a unit offered by us   Eachwarrant will have an exercise price per share of $9.96 based on the assumed public offering price, which is equal to 120%of the offering price of a unit in this offering, will be immediately exercisable and will expire on the fifth anniversary ofthe original issuance date. The warrants do not have any price protection features or cashless exercise provisions.
     
Over-allotment option   We have granted Roth Capital Partners and Aegis Capital Corp., the representatives of the underwriters, an option to purchase up to an additional 180,722 shares of common stock and/or warrants to purchase up to 180,722 shares of common stock (equal to 15% of the number of shares of common stock and warrants underlying the units sold in the offering), from us in any combination thereof, at the public offering price less the underwriting discount and commissions solely to cover over-allotments, if any. The representatives of the underwriters may exercise this option in full or in part at any time and from time to time until 45 days after the date of this prospectus.
     
Common stock outstanding before this offering   2,755,613 (27,556,121 pre-reverse split) shares of common stock
     
Common stock to be outstanding after this offering   3,960,432 shares (assuming that none of the warrants are exercised) and 5,165,251 if the warrants offered hereby are exercised in full. If the representatives’ over-allotment option is exercised in full, the total number of shares of common stock outstanding immediately after this offering would be 4,141,154 (assuming that none of the warrants are exercised) and 5,345,973 if the warrants offered hereby are exercised in full.
     

 

16

 

Use of proceeds  

We expect to receive net proceeds from this offering of approximately $9,200,000 (or approximately $10,580,000if the underwriters exercise in full their over-allotment option) after deducting estimated underwriting discounts and commissions,and after our offering expenses, estimated at $459,284. We intend to use the net proceeds from this offering to fund working capital,manage the balance on the bank line of credit and general corporate purposes and possibly acquisitions of other companies, productsor technologies. See “Use of Proceeds.”

     
Risk factors   See “Risk Factors” beginning on page 19 of this prospectus for a discussion of some of the factors you should carefully consider before deciding to invest in our common stock.
     
Trading symbol   Our common stock is presently quoted on the OTCQB Market under the symbol “DRNE”.
     
Listing Application; Separation  

We have applied to list our common stock and warrants on the NASDAQ Capital Market under the symbols “DRNE” and “DRNEW,” respectively. Prior to this offering, there has been no public market for our warrants on the OTC Markets or any other trading market. The approval of our listing on the NASDAQ Capital Market is a condition of closing this offering.

 

We will not be issuing physical units in this offering. At closing, we will issue to investors only the shares of common stock and warrants underlying the units offered hereby.

     
Dividend policy   We do not anticipate declaring or paying any cash dividends on our common stock following our public offering.
     
Reverse Stock Split   Prior to the closing of this offering, we will effect a reverse stock split of the outstanding shares of our common stock at a ratio in the range of one-for-five and one-for-ten, with such ratio to be determined at the sole discretion of the Board of Directors. The reverse stock split was approved by our Board of Directors and by our majority stockholder on June 5, 2019. Except as otherwise indicated and except in our financial statements and the notes thereto, all references to our common stock, share data, per share data and related information depict an assumed reverse stock split ratio of 1-for-10 until final determination by the board of directors as if it was effective and as if it had occurred at the beginning of the earliest period presented.

 

Unlesswe indicate otherwise, all information in this prospectus:

 

  give pro forma effect to the assumed Reverse Stock Split of our outstanding shares of common stock, options and warrants and the corresponding adjustment of all common stock price per share and stock option and warrant exercise price data, except for the financial statements and the notes thereto;

 

  is based on 2,755,613 (27,556,121 pre-reverse split) shares of common stock issued and outstanding as of October 11, 2019;

 

  assumes no exercise by the representatives of the underwriters of its option to purchase up to an additional 180,722 shares of common stock and/or warrants to purchase 180,722 shares of common stock to cover over-allotments, if any;
     
  excludes 1,385,541 shares of common stock issuable upon the full exercise of the warrants (forming part of the units) offered hereby;

 

  excludes 1,394,500(13,945,000 pre-reverse split) shares of our common stock issuable upon exercise of outstanding stock options at a weighted averageexercise price of $6.10 ($0.61 pre-reverse split) per share as of October 11, 2019; and

 

  excludes 227,000 (2,270,000 pre-reverse split) shares of our common stock issuable upon exercise of outstanding warrants at a weighted average exercise price of $6.70 ($0.67 pre-reverse split) per share as of October 11, 2019.

  

17

 

SUMMARYHISTORICAL FINANCIAL DATA

 

The following tablepresents our summary historical financial data for the periods indicated. The summary historical financial data for the yearsended December 31, 2018 and 2017 and the balance sheet data as of December 31, 2018 and 2017 are derived from the audited financialstatements. The summary historical financial data for the six months ended June 30, 2019 and 2018 and the balance sheet data asof June 30, 2019 and 2018 are derived from our unaudited financial statements.

 

Historicalresults are included for illustrative and informational purposes only and are not necessarily indicative of results we expectin future periods, and results of interim periods are not necessarily indicative of results for the entire year. You should readthe following summary financial data in conjunction with “Management’s Discussion and Analysis of Financial Conditionand Results of Operations” and our financial statements and related notes appearing elsewhere in this prospectus.

 

    Year Ended
December 31,
    Six Months Ended
June 30,
 
    2018     2017     2019     2018  
                (unaudited)  
Statement of Operations Data                        
Revenues   $ 2,722,713     $ 562,078     $ 1,380,497     $ 911,023  
Cost of goods sold     2,214,166       338,579       404,812       486,030  
Gross margin     508,547       223,499       975,685       424,993  
General administrative and expense     8,639,364       10,069,841       1,959,788       3,030,928  
Loss from operations     (8,130,817 )     (9,846,342 )     (984,103 )     (2,605,935 )
Total other expense     (344,496 )     (477,650 )     (65,257 )     (148,455 )
Net loss   $ (8,475,313 )   $ (10,323,992 )   $ (1,049,360 )   $ (2,754,390 )
Net loss per share, basic and diluted   $ (0.89 )   $ (1.15 )   $ (0.04 )   $ (0.30 )
                                 
Balance Sheet Data (at period end)                                
Cash and cash equivalents   $ 2,282,365     $ 615,375     $ 675,772     $ 429,605  
Working capital (deficit) (1)     212,879       (557,195 )     1,207,968       (1,873,649 )
Total assets     3,556,599       3,073,548       4,638,143       2,440,405  
Total liabilities     2,485,024       5,377,340       2,544,166       6,294,684  
Stockholders’ equity (deficit)     1,071,575       (2,303,792 )     2,093,977       (3,854,279 )

 

(1)Workingcapital represents total current assets less total current liabilities.

 

18

 

RISKFACTORS

 

Investmentin our securities involves a number of substantial risks. You should not invest in our securities unless you are able to bearthe complete loss of your investment. In addition to the risks and investment considerations discussed elsewhere in this prospectus,the following factors should be carefully considered by anyone purchasing the securities offered through this prospectus. Therisks and uncertainties described below are not the only ones we face. Additional risks and uncertainties not presently knownto us or that we currently deem immaterial also may impair our business operations. If any of the following risks actually occur,our business could be harmed. In such case, the trading price of our listed securities could decline, and investors could loseall or a part of the money paid to buy our securities.

 

RisksRelated to Our Business and Industry

 

We incurred a net loss in thefirst six months of 2019 and the fiscal years of 2018 and 2017 with negative cash flows and we cannot assure you as to when, orif, we will become profitable and generate positive cash flows.

 

We incurred a netloss of $1,049,360, $8,475,313 and $10,323,992 for the six months ended June 30, 2019 and the fiscal years ended December 31,2018 and 2017, respectively, and negative cash flows from operations in each of those years. As of June 30, 2019, we had an aggregateaccumulated deficit of $39,521,450. Such losses have historically required us to seek additional funding through the issuanceof debt or equity securities. Our long-term success is dependent upon among other things, achieving positive cash flows from operationsand if necessary, augmenting such cash flows using external resources to satisfy our cash needs. Based on firm commitments werecently entered into, we project to have positive cash flows to fund operations during the next twelve months. However, we havehistorically experienced and may prospectively experience fluctuations in our quarterly earnings due to the nature of our businessand the uncertainty of the government budgetary cycle and securing purchaser contracts and we may be unable to achieve these goalsand actual results could differ from our estimates and assumptions. Accordingly, we may have to supplement our cash flow, by debtfinancing or sales of equity securities. There can be no assurance that we will be able to obtain additional funding, if needed,on commercially reasonable terms, or of all.

 

Weare a holding company and depend upon our subsidiaries for our cash flows.

 

Weare a holding company. All of our operations are conducted, and almost all of our assets are owned, by our subsidiaries. Consequently,our cash flows and our ability to meet our obligations depend upon the cash flows of our subsidiaries and the payment of fundsby these subsidiaries to us in the form of dividends, distributions or otherwise. The ability of our subsidiaries to make anypayments to us depends on their earnings, the terms of their indebtedness, including the terms of any credit facilities and legalrestrictions. Any failure to receive dividends or distributions from our subsidiaries when needed could have a material adverseeffect on our business, results of operations or financial condition.

 

Productdevelopment is a long, expensive and uncertain process.

 

Thedevelopment of LTA aerostats and tethered drone ISR systems is a costly, complex and time-consuming process, and the investmentin product development often involves a long wait until a return, if any, is achieved on such investment. We continue to makesignificant investments in research and development relating to our aerostats and tethered drones. Investments in new technologyand processes are inherently speculative. Technical obstacles and challenges we encounter in our research and development processmay result in delays in or abandonment of product commercialization, may substantially increase the costs of development, andmay negatively affect our results of operations.

 

Successfultechnical development of our products does not guarantee successful commercialization.

 

Evenif we successfully complete the technical development for one or all of our product development programs, we may still fail todevelop a commercially successful product for a number of reasons, including, among others, the following:

 

failureto obtain the required regulatory approvals for their use;

 

prohibitiveproduction costs;

 

competingproducts;

 

lackof innovation of the product;

 

continuingtechnological changes in the market rendering the product obsolete;

 

failureto scale-up our operations sufficiently to satisfy demand for our products;

 

ineffectivedistribution and marketing;

 

lackof sufficient cooperation from our partners; and

 

demonstrationsof the products not aligning with or meeting customer needs.

 

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Althoughwe have sold our WASP aerostat systems and various other aerostat ISR systems and components, our success in the market for theproducts we develop will depend largely on our ability to prove our products’ capabilities. Upon demonstration, our aerostatsand tethered drones may not have the capabilities they were designed to have or that we believed they would have. Furthermore,even if we do successfully demonstrate our products’ capabilities, potential customers may be more comfortable doing businesswith a larger, more established, more proven company than us. Moreover, competing products may prevent us from gaining wide marketacceptance of our products. We may not achieve significant revenue from new product investments for a number of years, if at all.

 

Ourpotential customers are likely to be U.S. Government or Government-related entities that are subject to appropriations by Congressand reduced funding for defense procurement and research and development programs would likely adversely impact our ability togenerate revenues.

 

Weanticipate that the majority of our revenue (to be derived from our aerostats product sales) at least in the foreseeable futurewill come from U.S. Government and Government-related entities, including the DoD and other departments and agencies. Governmentprograms that we may seek to participate in, and contracts for aerostats or tethered drones, must compete with other programsfor consideration during Congress’ budget and appropriations hearings, and may be affected by changes not only in politicalpower and appointments but also general economic conditions and other factors beyond our control. A government closure based ona failure of Congress to agree on federal appropriations or the uncertainty surrounding a continuing resolution may result intermination or delay of federal funding opportunities we are pursuing. Reductions, extensions or terminations in a program thatwe are seeking to participate in, or overall defense or other spending could adversely affect our ability to generate revenuesand realize any profits. We cannot predict whether potential changes in security, defense, communications and intelligence prioritieswill afford opportunities for our business in terms of research and development or product contracts, but any reduction in governmentspending on such programs could negatively impact our ability to generate revenues. In addition, our ability to participate inU.S. Government programs may be affected by the adoption of new laws or regulations relating to Government contracting or changesin existing laws or regulations, changes in political or public support for security and defense programs, and uncertainties associatedwith the current global threat environment and other geo-political matters.

 

Someof our products may be subject to governmental regulations pertaining to exportation.

 

Internationalsales of our products may be subject to U.S. laws, regulations and policies like ITAR and other export laws and regulations andmay be subject to first obtaining licenses, clearances or authorizations from various regulatory entities. Although we are notcurrently pursuing international sales, we may deploy working capital towards expansion into foreign markets. If we are not allowedto export our products or the clearance process is burdensome, our ability to generate revenue would be adversely affected. Thefailure to comply with any of these regulations could adversely affect our ability to conduct our business and generate revenuesas well as increasing our operating costs.

 

Wecompete with companies that have significantly more resources than we have and that already have received government contractsfor the development of aerostats and tethered drones.

 

Anumber of our competitors have received considerable funding from government or government-related sources to develop variousaerostats and tethered drones. Most of these organizations and many of our other competitors have greater financial, technical,manufacturing, marketing and sales resources and capabilities than we do. Our products will compete not only with other aerostatsand tethered drones, but also with heavier-than-air fixed wing aircraft, manned aircraft, communications satellites and balloons.We anticipate increasing competition as a result of defense industry consolidation, which has enabled companies to enhance theircompetitive position and ability to compete against us. In addition, other companies may introduce competing aerostats, tethereddrones, or solutions based on alternative technologies that may adversely affect our competitive position. As a result, our productsmay become less or non-competitive or obsolete. If we are not able to compete successfully against our current and future competitors,we may fail to generate revenues and our financial condition would be adversely affected.

 

20

 

Wemay consider pursuing strategic transactions in the future, which could be difficult to implement, disrupt our business or changeour business profile significantly.

 

Wemay consider potential strategic transactions, which could involve acquisitions of businesses or assets, joint ventures or investmentsin businesses, products or technologies that expand, complement or otherwise relate to our current or future business. We mayalso consider, from time to time, opportunities to engage in joint ventures or other business collaborations with third partiesto address particular market segments. These activities create risks such as, among others: (i) the need to integrate and managethe businesses and products acquired with our own business and products, (ii) additional demands on our resources, systems, proceduresand controls, (iii) disruption of our ongoing business, and (iv) diversion of management’s attention from other businessconcerns. Moreover, these transactions could involve: (a) substantial investment of funds or financings by issuance of debt orequity securities; (b) substantial investment with respect to technology transfers and operational integration; and (c) the acquisitionor disposition of product lines or businesses. Also, such activities could result in one-time charges and expenses and have thepotential to either dilute the interests of existing shareholders or result in the issuance of or assumption of debt. Such acquisitions,investments, joint ventures or other business collaborations may involve significant commitments of financial and other resourcesof our company. Any such activity may not be successful in generating revenue, income or other returns to us, and the resourcescommitted to such activities will not be available to us for other purposes. Moreover, if we are unable to access capital marketson acceptable terms or at all, we may not be able to consummate acquisitions or may have to do so on the basis of a less thanoptimal capital structure. Our inability to: (i) take advantage of growth opportunities for our business or for our products or(ii) address risks associated with acquisitions or investments in businesses may negatively affect our operating results. Additionally,any impairment of goodwill or other intangible assets acquired in an acquisition or in an investment or charges to earnings associatedwith any acquisition or investment activity may materially reduce our earnings. These future acquisitions or joint ventures maynot result in their anticipated benefits, and we may not be able to properly integrate acquired products, technologies or businesseswith our existing products and operations or combine personnel and cultures. Failure to do so could deprive us of the intendedbenefits of those acquisitions.

 

Ifwe fail to protect our intellectual property rights, we could lose our ability to compete in the marketplace.

 

Ourintellectual property and proprietary rights are important to our ability to remain competitive and for the success of our productsand our business. Patent protection can be limited and not all intellectual property is or can be patented. We rely on a combinationof patent, trademark, copyright, and trade secret laws as well as confidentiality agreements and procedures, non-competition agreementsand other contractual provisions to protect our intellectual property, other proprietary rights and our brand. We have littleprotection when we must rely on trade secrets and nondisclosure agreements. Our intellectual property rights may be challenged,invalidated or circumvented by third parties. We may not be able to prevent the unauthorized disclosure or use of our technicalknowledge or other trade secrets by employees or competitors. Furthermore, our competitors may independently develop technologiesand products that are substantially equivalent or superior to our technologies and/or products, which could result in decreasedrevenues for us. Moreover, the laws of foreign countries may not protect our intellectual property rights to the same extent asthe laws of the U.S. Litigation may be necessary to enforce our intellectual property rights, which could result in substantialcosts to us and substantial diversion of management attention. If we do not adequately protect our intellectual property, ourcompetitors could use it to enhance their products. Our inability to adequately protect our intellectual property rights couldadversely affect our business and financial condition and the value of our brand and other intangible assets.

 

Ifwe fail to protect our intellectual property rights, our ability to pursue the development of our technologies and products wouldbe negatively affected.

 

Oursuccess will depend in part on our ability to obtain patents and maintain adequate protection of our intellectual property andtechnologies. Some foreign countries lack rules and methods for defending intellectual property rights and do not protect proprietaryrights to the same extent as the United States. We have not filed for any patent protection rights outside the United States,and many companies have had difficulty protecting their proprietary rights in foreign countries. We may not be able to preventmisappropriation of our proprietary rights.

 

Thepatent process is subject to numerous risks and uncertainties and there can be no assurance that we will be successful in protectingour technologies by obtaining and enforcing patents. These risks and uncertainties include the following: patents that may beissued or licensed may be challenged, invalidated, or circumvented, or otherwise may not provide any competitive advantage; ourcompetitors, many of which have substantially greater resources than us and many of which have made significant investments incompeting technologies, may seek, or may already have obtained, patents that will limit, interfere with, or eliminate our abilityto make, use, and license our technologies either in the United States or in international markets; there may be significant pressureon the United States government and other international governmental bodies to limit the scope of patent protection both insideand outside the United States for technologies that prove successful as a matter of public policy regarding security concerns;countries other than the United States may have less restrictive patent laws than those upheld by United States courts, allowingforeign competitors the ability to exploit these laws to create, develop, and market competing products.

 

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Moreover,any patents issued to us may not provide us with meaningful protection, or others may challenge, circumvent or narrow our patents.Third parties may also independently develop technologies similar to ours or design around any patents on our technologies.

 

Inaddition, the USPTO and patent offices in other jurisdictions have often required that patent applications concerning softwareinventions be limited or narrowed substantially to cover only the specific innovations exemplified in the patent application,thereby limiting the scope of protection against competitive challenges. Thus, even if we or our licensors are able to obtainpatents, the patents may be substantially narrower than anticipated.

 

Oursuccess depends on our patents, patent applications that may be licensed exclusively to us, and other patents to which we mayobtain assignment or licenses. We may not be aware, however, of all patents, published applications, or published literature thatmay affect our business by blocking our ability to commercialize our products, by preventing the patentability of future productsor services to us or our licensors, or by covering the same or similar technologies that may invalidate our patents, limit thescope of our future patent claims or adversely affect our ability to market our products and services.

 

Inaddition to patents, we rely on a combination of trade secrets, confidentiality, nondisclosure and other contractual provisions,and security measures to protect our confidential and proprietary information. These measures may not adequately protect our tradesecrets or other proprietary information. If they do not adequately protect our rights, third parties could use our technology,and we could lose any competitive advantage we may have. In addition, others may independently develop similar proprietary informationor techniques or otherwise gain access to our trade secrets, which could impair any competitive advantage we may have.

 

Patentprotection and other intellectual property protection are crucial to the success of our business and prospects, and there is asubstantial risk that such protections will prove inadequate.

 

Othercompanies may claim that we infringe their intellectual property, which could materially increase our costs and harm our abilityto generate future revenue and profit.

 

Wedo not believe our product technologies infringe the proprietary rights of any third party, but claims of infringement are becomingincreasingly common and third parties may assert infringement claims against us. It may be difficult or impossible to identify,prior to receipt of notice from a third party, the trade secrets, patent position or other intellectual property rights of a thirdparty, either in the United States or in foreign jurisdictions. Any such assertion may result in litigation or may require usto obtain a license for or otherwise restrict our use of the intellectual property rights of third parties. If we are requiredto obtain licenses to use any third-party technology, we would have to pay royalties, which may significantly reduce any profiton our products. In addition, any such litigation could be expensive and disruptive to our ability to generate revenue or enterinto new market opportunities. If any of our products are found to infringe other parties’ proprietary rights and we areunable to come to terms regarding a license with such parties, we may be forced to modify our products to make them non-infringingor to cease production of such products altogether.

 

Thenature of our business involves significant risks and uncertainties that may not be covered by insurance or indemnity.

 

Wedevelop and sell products where insurance or indemnification may not be available, including:

 

Designingand developing products using advanced and unproven technologies and aerostats and tethered drones in intelligence and homelandsecurity applications that are intended to operate in high demand, high risk situations; and

 

Designingand developing products to collect, distribute and analyze various types of information.

 

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Failureof certain of our products could result in loss of life or property damage. Certain products may raise questions with respectto issues of civil liberties, intellectual property, trespass, conversion and similar concepts, which may raise new legal issues.Indemnification to cover potential claims or liabilities resulting from a failure of technologies developed or deployed may beavailable in certain circumstances, but not in others. We are not able to maintain insurance to protect against all operationalrisks and uncertainties. Substantial claims resulting from an accident, failure of our product, or liability arising from ourproducts in excess of any indemnity or insurance coverage (or for which indemnity or insurance is not available or was not obtained)could harm our financial condition, cash flows, and operating results. Any accident, even if fully covered or insured, could negativelyaffect our reputation among our customers and the public, and make it more difficult for us to compete effectively.

 

Wereceive a substantial portion of our revenues from a limited number of customers, and the loss of, or a significant reductionin usage by, one or more of our major customers would result in lower revenues and could harm our business.

 

Our future successis dependent on establishing and maintaining successful relationships with a diverse set of customers. We currently receive asubstantial portion of our revenues from a limited number of customers. Revenues from one customer approximated 95% of total revenuesfor 2018 and 92% for the six months ended June 30, 2019. At December 31, 2018, accounts receivable from one customer comprised100% of the Company’s total accounts receivable-trade. Revenues from four customers approximated 85% of total revenues for2017. At December 31, 2017, accounts receivable from two customers comprised 100% of the Company’s total accounts receivable-trade.It is likely that we will continue to be dependent upon a limited number of customers for a significant portion of our revenuesfor the foreseeable future and, in some cases, the portion of our revenues attributable to individual customers may increase inthe future. The loss of one or more key customers or a reduction in usage by any major customers would reduce our revenues. Ifwe fail to maintain existing customers or develop relationships with new customers, our business would be harmed.

 

Ifcritical components or raw materials used to manufacture our products become scarce or unavailable, then we may incur delays inmanufacturing and delivery of our products, which could damage our business

 

Werely on a limited number of suppliers for the raw materials and hardware components necessary to manufacture our products. Wedo not have any long-term agreements with any of our suppliers that obligate them to continue to sell their products to us. Ourreliance on these suppliers involves significant risks and uncertainties as to whether our suppliers will provide an adequatesupply of required raw materials, component parts, and products. In addition, as the demand for these components and other productsincreases, it is likely that the price for these components will increase. If we are unable to obtain the raw materials includinghelium gas used in our aerostat products to provide lift, and component parts in the quantities and the quality we require ona timely basis and at acceptable prices, we may not be able to deliver our products on a timely or cost-effective basis, whichcould cause our customers to terminate their contracts with us, increase our costs and materially harm our business, results ofoperations, and financial condition. Furthermore, if our suppliers are unable or unwilling to supply the raw materials or componentswe require, we will be forced to locate alternative suppliers and possibly redesign our products to accommodate components fromalternative suppliers. This would likely cause significant delays in manufacturing and shipping our products to customers andcould materially harm our business.

 

Ourfuture profitability may depend on achieving cost reductions from increasing manufacturing quantities of our products. Failingto achieve such reductions in manufacturing costs could materially affect our business.

 

Wehave limited experience manufacturing our products in high volumes and do not know whether or when we will be able to developefficient, low-cost manufacturing capabilities and processes that will enable us to manufacture our products in large quantitieswhile maintaining our quality, speed, price, engineering and design standards. Our inability to develop such manufacturing processesand capabilities could have a material adverse effect on our business, financial condition, and results of operations. We expectour suppliers to experience an increase in demand for their products, and we may not have reliable access to supplies that werequire and may not be able to purchase such materials or components at cost effective prices. There is no assurance that we willobtain any material labor and machinery cost reductions associated with higher production levels, and failure to achieve thesecost reductions could adversely impact our business and financial results.

 

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Ifwe are unable to recruit and retain key management, technical and sales personnel, our business would be negatively affected.

 

Forour business to be successful, we need to attract and retain highly qualified technical, management and sales personnel. The failureto recruit additional key personnel when needed with specific qualifications and on acceptable terms or to retain good relationshipswith our partners might impede our ability to continue to develop, commercialize and sell our products. To the extent the demandfor skilled personnel exceeds supply, we could experience higher labor, recruiting and training costs in order to attract andretain such employees. The loss of any members of our management team may also delay or impair achievement of our business objectivesand result in business disruptions due to the time needed for their replacements to be recruited and become familiar with ourbusiness. We face competition for qualified personnel from other companies with significantly more resources available to themand thus may not be able to attract the level of personnel needed for our business to succeed.

 

Economicconditions in the U.S. and worldwide could adversely affect our revenues.

 

Ourrevenues and operating results depend on the overall demand for our technologies and services. If the U.S. and worldwide economiesweaken, either alone or in tandem with other factors beyond our control (including war, political unrest, shifts in market demandfor our services, actions by competitors, etc.), we may not be able to maintain or expand the growth of our revenue.

 

Wehave significant debt and if we are unable to repay our debt when it becomes due, our business, financial condition and resultsof operations could be materially harmed.

 

At June 30, 2019,we had total debt obligations of $2,000,000 (“CNB Note”), and an aggregate of $0 available for borrowings under ourrevolving line of credit from City National Bank of Florida (“CNB”) which is guaranteed by our former CEO, Jay Nussbaumand his estate. Of this debt, $2,000,000 matured on August 2, 2019. On August 29, 2019, CNB extended the maturity date until August2, 2020. In addition, to secure the Company’s obligations under the CNB Note, the Company entered into a security agreementin favor of CNB encumbering all of the Company’s accounts, inventory and equipment along with an assignment of a bank accountthe Company maintains at CNB with a balance of $120,000 (“Encumbered Assets”). Our level of indebtedness could havesignificant effects on our business, such as:

 

limitingour ability to borrow additional amounts to fund working capital, capital expenditures, acquisitions, debt service requirements,execution of our growth strategy and other purposes;

 

requiringus to dedicate a portion of our cash flow from operations to pay interest on our debt, which would reduce availability of ourcash flow to fund working capital, capital expenditures, potential acquisitions, execution of our growth strategy and other generalcorporate purposes;

 

makingus more vulnerable to adverse changes in general economic, industry and competitive conditions, in government regulation and inour business by limiting our ability to plan for and react to changing conditions; and

 

placingus at a competitive disadvantage compared with our competitors that have less debt.

 

We may not be ableto generate sufficient cash flow from our operations to repay our indebtedness when it becomes due and to meet our other cashneeds. If we or Jay Nussbaum or his estate, our guarantor on the revolving line of credit, are not able to pay our loan as itbecomes due, CNB may foreclose on the Encumbered Assets as well as we may be required to pursue one or more alternative strategies,such as selling assets, refinancing or restructuring our indebtedness or selling additional debt or equity securities. We maynot be able to refinance our debt or sell additional debt or equity securities or sell our assets on favorable terms, if at all,and if we must sell our assets or if CNB forecloses on the Encumbered Assets, we may negatively affect our ability to generaterevenue.

 

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Ifwe are unable to obtain additional funding when needed, our business operations will be harmed, and if we do obtain additionalfinancing, our then existing shareholders may suffer substantial dilution.

 

We have historicallyrequired additional funds to continue operations and may again in the future upon maturity of the City National Bank of Floridarevolving line of credit which matures on August 2, 2020 or sooner if our cash needs exceed the $0 currently available to us underthese loan facilities. We do not have any contracts or commitments for additional funding, and there can be no assurance thatfinancing will be available in amounts or on terms acceptable to us, if at all, if needed. The inability to obtain additionalcapital will restrict our ability to grow and may reduce our ability to conduct business operations. If we are unable to obtainadditional financing to finance a revised growth plan, we will likely be required to curtail such plans or cease our businessoperations. Any additional equity financing may involve substantial dilution to our then existing shareholders.

 

Opportunitiesfor expanded uses of our products in the United States are limited by federal laws and rulemaking.

 

Theproducts we design and manufacture for use within the United States are limited by federal laws and rulemaking, including thenew commercial drone regulations (Part 107) adopted by the FAA at the end of August 2016. Our ability to design, manufacture andrelease new products for use in the United States will be limited by federal law and regulations, which can be slow and subjectto delays based on political turnover and disruptions in federal funding, among other reasons. The Part 107 rules limit the altitude,available airspace and weight of a drone and also the certification of remote pilots that can operate a drone for commercial purposesin the United States. We, or our customers, may seek waivers from the Part 107 rules for expanded operations; however, the processingof waivers is lengthy and uncertain. Political limits on the ability to issue new regulations could slow the growth of the aerostatand tethered drone market.

 

Misuseof our products or unmanned products manufactured by other companies could result in injury, damage and/or negative press thatcould depress the market for unmanned systems.

 

Ifany of our products are misused by our customers or their designees, or by the operators of other unmanned systems, in violationof Part 107 or other federal, state or local regulations could result in injuries to the operators or bystanders, damage to propertyand/or negative press that could result in a reduction in the market for aerostats or tethered drones in the future. The FAA,the press and the public have been closely monitoring the growth of unmanned systems in the United States. For instance, the FAAregularly publishes reports of drone sighting and reported drone strikes of manned aircraft. One or more incidents involving unmannedsystems that results in injury or death of individuals, or damaged property could result in negative press that could put at riskcurrent and future growth.

 

Ifproduct liability lawsuits are brought against us, our business may be harmed, and we may be required to pay damages that exceedour insurance coverage.

 

Wemay face liability claims related to the use or misuse of our products. These claims may be expensive to defend and may resultin large judgments against us. Customers using our products could injure themselves or others or cause property damages for reasonsthat may or may not be related to our products. Any of these events could result in a claim of liability. Any such claims againstus, regardless of their merit, could result in significant costs to defend or awards against us that could materially harm ourbusiness, financial condition or results of operations. In addition, any such claims against us could result in a distractionto management, decreased demand for our products, an adverse effect on our public reputation, and/or difficulties in commercializingour products. To date, we have not received notice of any product liability claims against us. We maintain total products liabilityinsurance coverage of $2,000,000.

 

Althoughwe maintain product liability insurance for claims arising from the use of our products at levels that we believe are appropriate,we may not be able to maintain our existing insurance coverage or obtain additional coverage on commercially reasonable termsfor the use of our other products in the future. Also, our insurance coverage and resources may not be sufficient to satisfy anyliability resulting from product liability claims, which could materially harm our business, financial condition or results ofoperations.

 

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Productliability claims could result in regulatory authority investigation of the safety or efficacy of our products, our manufacturingprocesses and facilities, our marketing programs, our internal safety reporting systems or our staff conduct. A regulatory authorityinvestigation could also potentially lead to a recall of our products or more serious enforcement actions, limitations on theindications for which they may be used, or suspension or withdrawal of approval. Product liability claims could also result ininvestigation, prosecution or enforcement action by federal or state government agencies.

 

Ourbusiness and operations are subject to the risks of hurricanes, tropical storms, and other natural disasters.

 

Our corporate headquartersand manufacturing operations are located in Jacksonville, Florida, where major hurricanes, tropical storms, and other severe weatherconditions have occurred. A significant natural disaster, such as a hurricane, tropical storm, or other severe weather storm couldseverely affect our ability to conduct normal business operations, and as a result, our future operating results could be materiallyand adversely affected. The Company was closed between August 30 and September 4, 2019 due to mandatory evacuation orders in Jacksonville,Florida pertaining to Hurricane Dorian; however, the hurricane did not have any adverse effect upon the Company.

 

Ourfuture success depends on the continuing efforts of our key employees and our ability to attract, hire, retain and motivate highlyskilled and creative employees in the future.

 

Our future successdepends on the continuing efforts of our executive officers, our founders and other key employees, in particular to Daniyel Erdberg,our CEO and President, Kendall Carpenter, our Executive Vice President and Chief Financial Officer and Felicia Hess, a founderand our Chief Quality Officer. We rely on the leadership, knowledge and experience that our executive officers, founders and keyemployees provide. They foster our corporate culture, which we believe has been instrumental to our ability to attract and retainnew talent. Any failure to attract new or retain key creative talent could have a material adverse effect on our business, financialcondition and results of operations.

 

Themarket for talent in our key areas of operations is intensely competitive, which could increase our costs to attract and retaintalented employees. As a result, we may incur significant costs to attract and retain employees, including significant expendituresrelated to salaries and benefits and compensation expenses related to equity awards, and we may lose new employees to our competitorsor other companies before we realize the benefit of our investment in recruiting and training them.

 

Employeeturnover, including changes in our management team, could disrupt our business. The loss of one or more of our executive officers,founders or other key employees, or our inability to attract and retain highly skilled and creative employees, could have a materialadverse effect on our business, results of operations or financial condition.

 

Ourofficers, directors and principal shareholders own, and will continue to own after giving effect to this offering, a controllinginterest in our voting stock and investors will not have any voice in our management, which could result in decisions adverseto our general stockholders.

 

Ourofficers, directors and principal shareholders, in the aggregate, beneficially own or have the right to vote approximately 76.5%of our outstanding common shares on a fully diluted basis, and will continue to beneficially own after giving effect to this offering(assuming no exercise of the over-allotment option and no exercise of the warrants forming part of the units and over-allotmentoption), approximately or have the right to vote approximately 60.0% of our outstanding common shares on a fully diluted basis.As a result, these stockholders, acting together, have the ability to control substantially all matters submitted to our stockholdersfor approval including:

 

election of our board of directors

 

removal of any of our directors

 

amendment of our Articles of Incorporation or Bylaws

 

adoption of measures that could delay or prevent a change in control or impede a merger, takeover or other business combination involving us

       

Asa result of their ownership and positions, our officers and directors collectively are able to influence all matters requiringstockholder approval, including the election of directors and approval of significant corporate transactions. The interests ofour officers may differ from the interests of the other stockholders, and they may influence decisions with which the other stockholdersmay not agree. Such decisions may be detrimental to our business plan and/or operations and they may cause our business to failin which case you may lose your entire investment.

 

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Webelieve our corporate culture has contributed to our success and, if we are unable to maintain it as we grow, our business couldbe harmed.

 

Webelieve our corporate culture has been a key element of our success. However, as our organization grows, it may be difficult tomaintain our culture, which could reduce our ability to attract and maintain new talent and operate effectively. The failure tomaintain the key aspects of our culture as our organization grows could result in decreased employee satisfaction, increased difficultyin attracting top talent and increased turnover and could compromise the quality of our client service, all of which are importantto our success and to the effective execution of our business strategy. Accordingly, if we are unable to maintain our corporateculture as we grow our business, this could have a material adverse effect on our business, results of operations or financialcondition.

 

Wemay not have sufficient insurance coverage and an interruption of our business or loss of a significant amount of property couldhave a material adverse effect on our financial condition and operations.

 

Wecurrently do not maintain any insurance policies against loss of key personnel. Although we do carry business interruption andproduct liability insurance, the limits might not be sufficient to cover every contingency or claim. If we lost key personnelor had unexpectedly high insurance claims, our business, financial performance and financial position may be materially and adverselyaffected.

 

Wecould become involved in claims or litigations that may result in adverse outcomes.

 

Fromtime-to-time we may be involved in a variety of claims or litigations. Such proceeding may initially be viewed as immaterialbut could prove to be material. Litigations are inherently unpredictable and excessive verdicts do occur. Given the inherent uncertaintiesin litigation, even when we can reasonably estimate the amount of possible loss or range of loss and reasonably estimable losscontingencies, the actual outcome may change in the future due to new developments or changes in approach. In addition, such claimsor litigations could involve significant expense and diversion of management’s attention and resources from other matters.

 

Risks Relating to Our Common Stock,Our Warrants and the Offering

 

Once our common stock and warrantsare listed on NASDAQ, there can be no assurance that we will be able to comply with NASDAQ’s continued listing standards.

 

As a conditionto consummating this offering, our common stock and the warrants offered in this prospectus must be listed on the NASDAQ CapitalMarket or another national securities exchange. Accordingly, in connection with the filing of the registration statement of whichthis prospectus forms a part, we applied to list our common stock and warrants on the NASDAQ Capital Market under the symbols“DRNE” and “DRNEW”, respectively. Assuming that our common stock and warrants are listed and after theconsummation of this offering, there can be no assurance any broker will be interested in trading our stock. Therefore, it maybe difficult to sell your shares of common stock or warrants if you desire or need to sell them. Our underwriters are not obligatedto make a market in our securities, and even if it makes a market, it can discontinue market making at any time without notice.Neither we nor the underwriters can provide any assurance that an active and liquid trading market in our securities will developor, if developed, that such market will continue.

 

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Once our commonstock and warrants are approved for listing on the NASDAQ Capital Market, there is no guarantee that we will be able to maintainsuch listing for any period of time by perpetually satisfying NASDAQ’s continued listing requirements. Our failure to continueto meet these requirements may result in our securities being delisted from NASDAQ.

 

The market price of our commonstock and warrants is likely to be highly volatile because of several factors, including a limited public float.

 

The market priceof our common stock has been volatile in the past and the market price of our common stock and our warrants is likely to be highlyvolatile in the future. You may not be able to resell shares of our common stock or our warrants following periods of volatilitybecause of the market’s adverse reaction to volatility.

 

Otherfactors that could cause such volatility may include, among other things:

 

  actual or anticipated fluctuations in our operating results;
     
  the absence of securities analysts covering us and distributing research and recommendations about us;
     
  we may have a low trading volume for a number of reasons, including that a large portion of our stock is closely held;

 

  overall stock market fluctuations;
     
  announcements concerning our business or those of our competitors;
     
  actual or perceived limitations on our ability to raise capital when we require it, and to raise such capital on favorable terms;
     
  conditions or trends in the industry;
     
  litigation;
     
  changes in market valuations of other similar companies;
     
  future sales of common stock;
     
  departure of key personnel or failure to hire key personnel; and
     
  general market conditions.

 

Any of these factorscould have a significant and adverse impact on the market price of our common stock and/or warrants. In addition, the stock marketin general has at times experienced extreme volatility and rapid decline that has often been unrelated or disproportionate tothe operating performance of particular companies. These broad market fluctuations may adversely affect the trading price of ourcommon stock and/or warrants, regardless of our actual operating performance.

 

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Our common stock has in the pastbeen a “penny stock” under SEC rules, and our warrants may be subject to the “penny stock” rules in thefuture. It may be more difficult to resell securities classified as “penny stock.”

 

In the past (includingimmediately prior to this offering), our common stock was a “penny stock” under applicable SEC rules (generally definedas non-exchange traded stock with a per-share price below $5.00). While our common stock (and trading warrants) will not be considered“penny stock” following this offering since they will be listed on the NASDAQ Capital Market, if we are unable tomaintain that listing and our common stock and warrants are no longer listed on the NASDAQ Capital Market, unless we maintaina per-share price above $5.00, our common stock and warrants will become “penny stock.” These rules impose additionalsales practice requirements on broker-dealers that recommend the purchase or sale of penny stocks to persons other than thosewho qualify as “established customers” or “accredited investors.” For example, broker-dealers must determinethe appropriateness for non-qualifying persons of investments in penny stocks. Broker-dealers must also provide, prior to a transactionin a penny stock not otherwise exempt from the rules, a standardized risk disclosure document that provides information aboutpenny stocks and the risks in the penny stock market. The broker-dealer also must provide the customer with current bid and offerquotations for the penny stock, disclose the compensation of the broker-dealer and its salesperson in the transaction, furnishmonthly account statements showing the market value of each penny stock held in the customer’s account, provide a specialwritten determination that the penny stock is a suitable investment for the purchaser, and receive the purchaser’s writtenagreement to the transaction.

 

Legalremedies available to an investor in “penny stocks” may include the following:

 

  If a “penny stock” is sold to the investor in violation of the requirements listed above, or other federal or states securities laws, the investor may be able to cancel the purchase and receive a refund of the investment.
     
  If a “penny stock” is sold to the investor in a fraudulent manner, the investor may be able to sue the persons and firms that committed the fraud for damages.

 

These requirementsmay have the effect of reducing the level of trading activity, if any, in the secondary market for a security that becomes subjectto the penny stock rules. The additional burdens imposed upon broker-dealers by such requirements may discourage broker-dealersfrom effecting transactions in our securities, which could severely limit the market price and liquidity of our securities. Theserequirements may restrict the ability of broker-dealers to sell our common stock or our warrants and may affect your ability toresell our common stock and our warrants.

 

Manybrokerage firms will discourage or refrain from recommending investments in penny stocks. Most institutional investors will notinvest in penny stocks. In addition, many individual investors will not invest in penny stocks due, among other reasons, to theincreased financial risk generally associated with these investments.

 

For these reasons,penny stocks may have a limited market and, consequently, limited liquidity. We can give no assurance at what time, if ever, ourcommon stock or our warrants will not be classified as a “penny stock” in the future.

 

Ifwe fail to maintain effective internal control over financial reporting, the price of our securities may be adversely affected.

 

Our internal controlover financial reporting have weaknesses and conditions that require correction or remediation. For the year ended December 31,2018 and the quarter ended June 30, 2019, we identified a material weakness in our assessment of the effectiveness of disclosurecontrols and procedures. We did not effectively segregate certain accounting duties due to the small size of our accounting staff.We are dependent upon our Chief Financial Officer, who is knowledgeable and experienced in the application of U.S. Generally AcceptedAccounting Principles, to maintain our disclosure controls and procedures and the preparation of our financial statements forthe foreseeable future. We plan to increase the size of our accounting staff at the appropriate time for our business and itssize to ameliorate our concern that we do not effectively segregate certain accounting duties, which we believe would resolvethe material weakness in disclosure controls and procedures, but there can be no assurances as to the timing of any such actionor that we will be able to do so.

 

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Weare required to comply with certain provisions of Section 404 of the Sarbanes-Oxley Act of 2002, as amended (the “Sarbanes-OxleyAct”) and if we fail to continue to comply, our business could be harmed, and the price of our securities could decline.

 

Rulesadopted by the SEC pursuant to Section 404 of the Sarbanes-Oxley Act require an annual assessment of internal control over financialreporting, and for certain issuers an attestation of this assessment by the issuer’s independent registered public accountingfirm. The standards that must be met for management to assess the internal control over financial reporting as effective are evolvingand complex, and require significant documentation, testing, and possible remediation to meet the detailed standards. We expectto incur significant expenses and to devote resources to Section 404 compliance on an ongoing basis. It is difficult for us topredict how long it will take or costly it will be to complete the assessment of the effectiveness of our internal control overfinancial reporting for each year and to remediate any deficiencies in our internal control over financial reporting. As a result,we may not be able to complete the assessment and remediation process on a timely basis. In the event that our Chief ExecutiveOfficer or Chief Financial Officer determines that our internal control over financial reporting is not effective as defined underSection 404, we cannot predict how regulators will react or how the market prices of our securities will be affected; however,we believe that there is a risk that investor confidence and the market value of our securities may be negatively affected.

 

Ourmanagement team will have immediate and broad discretion over the use of the net proceeds from this offering and we may use thenet proceeds in ways with which you disagree.

 

The net proceeds from this offering will be immediately available to our management to use at their discretion.We currently intend to use the net proceeds from this offering to fund working capital, manage the balance on the bank line ofcredit and general corporate purposes and possibly acquisitions of other companies, products or technologies. See “Use ofProceeds.” We have not allocated specific amounts of the net proceeds from this offering for any of the foregoing purposes.Accordingly, our management will have significant discretion and flexibility in applying the net proceeds of this offering. Youwill be relying on the judgment of our management with regard to the use of these net proceeds, and you will not have the opportunity,as part of your investment decision, to assess whether the proceeds are being used appropriately. It is possible that the net proceedswill be invested in a way that does not yield a favorable, or any, return for us or our stockholders. The failure of our managementto use such funds effectively could have a material adverse effect on our business, prospects, financial condition, and resultsof operation.

 

Youwill experience immediate and substantial dilution as a result of this offering and may experience additional dilution in thefuture.

 

You will incurimmediate and substantial dilution as a result of this offering. After giving effect to the sale by us of up to $ 10,000,000 inunits (of which our common stock forms a part) offered in this offering, at an assumed public offering price of $8.30 per unit,and after deducting the underwriters’ discounts and commissions and other estimated offering expenses payable by us, investorsin this offering can expect an immediate dilution of $5.78 per share, or 69.6%, at the assumed public offering price. We alsohave a large number of outstanding stock options to purchase common stock with exercise prices that are below the public offeringprice of our common stock. To the extent that these options are exercised, you will experience further dilution.

 

Shareseligible for future sale may adversely affect the market.

 

From time to time,certain of our stockholders may be eligible to sell all or some of their shares of common stock by means of ordinary brokeragetransactions in the open market pursuant to Rule 144 promulgated under the Securities Act, subject to certain limitations. Ingeneral, pursuant to Rule 144, non-affiliate stockholders may sell freely after six months, subject only to the current publicinformation requirement. Affiliates may sell after six months, subject to the Rule 144 volume, manner of sale (for equity securities),current public information, and notice requirements. Of the approximately 2,765,613 (27,656,121 pre-reverse split) shares of ourcommon stock outstanding as of June 30, 2019, approximately 358,558 (3,585,575 pre-reverse split) shares are tradable withoutrestriction. Given the limited trading of our common stock, resale of even a small number of shares of our common stock pursuantto Rule 144 or an effective registration statement may adversely affect the market price of our common stock.

 

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Provisionsof our articles of incorporation, as amended, and bylaws, as amended, may delay or prevent a takeover which may not be in thebest interests of our stockholders.

 

Provisionsof our articles of incorporation, as amended, and our bylaws, as amended, may be deemed to have anti-takeover effects, which includewhen and by whom special meetings of our stockholders may be called, and may delay, defer or prevent a takeover attempt. In addition,certain provisions of the Nevada Revised Statutes also may be deemed to have certain anti-takeover effects. Further, our amendedand restated articles of incorporation, as amended, authorize the issuance of up to 100,000,000 shares of preferred stock withsuch rights and preferences as may be determined from time to time by our board of directors in their sole discretion. Our boardof directors may, without stockholder approval, issue series of preferred stock with dividends, liquidation, conversion, votingor other rights that could adversely affect the voting power or other rights of the holders of our common stock.

 

Wehave never paid dividends on our common stock and have no plans to do so in the future.

 

Holdersof shares of our common stock are entitled to receive such dividends as may be declared by our board of directors. To date, wehave paid no cash dividends on our shares of common stock and we do not expect to pay cash dividends on our common stock in theforeseeable future. We intend to retain future earnings, if any, to provide funds for operations of our business. Therefore, anyreturn investors in our common stock may have will be in the form of appreciation, if any, in the market value of their sharesof common stock. See “Dividend Policy.”

 

Wewill indemnify and hold harmless our officers and directors to the maximum extent permitted by Nevada law.

 

OurBylaws provide that we will indemnify and hold harmless our officers and directors against claims arising from our activities,to the maximum extent permitted by Nevada law. If we were called upon to perform under our indemnification agreement, then theportion of our assets expended for such purpose would reduce the amount otherwise available for our business.

 

Weanticipate effecting a reverse stock split of our outstanding Common Stock prior to the effective date of the registration statement(of which this prospectus forms a part). However, the reverse stock split may not increase our stock price sufficiently whilethe stock is trading, and we may not be able to list our Common Stock on a national securities exchange in which case we willnot be able to close this offering.

 

We expect that theReverse Stock Split will increase the market price of our Common Stock while our stock is trading and enable us to meet the minimummarket price requirement of the listing rules of a national securities exchange. However, the effect of a reverse stock splitupon the market price of our Common Stock cannot be predicted with certainty, and the results of reverse stock splits by companiesin similar circumstances have been varied. It is possible that the market price of our Common Stock following the reverse stocksplit will not increase sufficiently for us to be in compliance with the minimum market price requirement of a national securitiesexchange (in which case we will not be able to consummate this offering), or if it does, that such price will be sustained. Ifwe are unable to meet the minimum market price requirement prior to this offering and we are unable to list our shares on a nationalsecurities exchange, we will not be able to complete this offering. Further, if following the listing, we are unable to maintainour stock price such that it falls below the minimum stock price required by the NASDAQ Capital Market, our shares may be delisted.

 

Even if the Reverse Stock Split achievesthe requisite increase the market price of our Common Stock, there can be no assurance that we will be approved for listing ona national securities exchange or able to comply with other continued listing standards of a national securities exchange.

 

Even if the marketprice of our Common Stock increases sufficiently so that we comply with the minimum market price requirement, we cannot assureyou that we will be able to comply with the other standards that we are required to meet in order to be approved for listing ona national securities exchange or maintain a listing of our Common Stock on such exchange. Our failure to meet these requirementsprior to listing will result in the offering not occurring and our failure to meet these requirements following listing may resultin our Common Stock being delisted from a national securities exchange.

 

The Reverse Stock Split may decrease the liquidity of theshares of our Common Stock.

 

The liquidity of the shares of our Common Stock may be affected adversely by the Reverse Stock Split giventhe reduced number of shares that will be outstanding following the Reverse Stock Split. In addition, the Reverse Stock Split mayincrease the number of shareholders who own odd lots (less than 100 shares) of our Common Stock, creating the potential forsuch shareholders to experience an increase in the cost of selling their shares and greater difficulty affecting such sales.

 

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If an active, liquid tradingmarket for our warrants does not develop, you may not be able to sell your warrants quickly or at a desirable price.

 

The warrants forminga part of the units issued in this offering will be immediately exercisable and expire on the fifth anniversary of the date ofissuance. The warrants will have an initial exercise price per share equal to $9.96. In the event that the stock price of ourcommon stock does not exceed the exercise price of the warrants during the period when the warrants are exercisable, the warrantsmay not have any value.

 

There is no establishedtrading market for the warrants sold in this offering, and the market for the warrants may be highly volatile or may decline regardlessof our operating performance. We have applied for the warrants offered in this offering to be listed on the NASDAQ Capital Marketunder the symbol “DRNEW”. However, an active public market for our warrants may not develop or be sustained. We cannotpredict the extent to which investor interest in our company will lead to the development of an active trading market in our warrantsor how liquid that market might become. If a market does not develop or is not sustained, it may be difficult for you to sellyour warrants at the time you wish to sell them, at a price that is attractive to you, or at all.

 

Holders of our warrants willhave no rights as a common stockholder until they acquire our common stock.

 

Until you acquireshares of our common stock upon exercise of your warrants, you will have no rights with respect to our common stock. Upon exerciseof your warrants, you will be entitled to exercise the rights of a common stockholder only as to matters for which the recorddate occurs after the exercise date.

 

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USEOF PROCEEDS

 

We estimate that the net proceeds to us from the sale of our units in this offering will be $8,740,716,after deducting estimated underwriting discounts and commissions and offering expenses. Our net proceeds will increase by approximately$1,380,000 if the underwriters’ over-allotment option to purchase additional shares of common stock and/or warrants to purchaseshares of common stock is exercised in full for shares of common stock.

 

We intend to usethe net proceeds from this offering to fund working capital, manage the balance on the bank line of credit and general corporatepurposes and possibly acquisitions of other companies, products or technologies.

 

The balance onthe bank line of credit bears an interest rate at a variable rate equal to 1.0 percentage points over the Wall Street JournalPrime Rate payable monthly and matures on August 2, 2020.

 

This expected useof net proceeds from this offering represents our intentions based upon our current plans and business conditions. The amountsand timing of our actual expenditures may vary significantly depending on numerous factors. As a result, our management will retainbroad discretion over the allocation of the net proceeds from this offering. We may find it necessary or advisable to use thenet proceeds from this offering for other purposes, and we will have broad discretion in the application of net proceeds fromthis offering.

 

Pending our useof the net proceeds from this offering, we intend to invest the net proceeds in a variety of capital preservation investments,including short-term, investment-grade, interest-bearing instruments and U.S. government securities.

 

DIVIDENDPOLICY

 

Wehave not paid any cash dividends on our common stock and do not currently anticipate paying cash dividends in the foreseeablefuture. The agreements into which we may enter in the future, including indebtedness, may impose limitations on our ability topay dividends or make other distributions on our capital stock. Payment of future dividends on our common stock, if any, willbe at the discretion of our board of directors and will depend on, among other things, our results of operations, cash requirementsand surplus, financial condition, contractual restrictions and other factors that our board of directors may deem relevant. Weintend to retain future earnings, if any, for reinvestment in the development and expansion of our business.

 

CAPITALIZATION

 

Thefollowing table shows:

 

  Our capitalization as of June 30, 2019; and
     
  On a pro forma basis, our unaudited capitalization as of June 30, 2019, as adjusted to reflect the receipt of the net proceeds from the sale by us in this offering of units, after deducting $1,259,284 in estimated underwriting discounts and commissions and estimated offering expenses payable by us.

 

Wederived this table from, and it should be read in conjunction with and is qualified in its entirety by reference to, our historicaland unaudited pro forma consolidated financial statements and the accompanying notes included elsewhere in this prospectus. Youshould also read this table in conjunction with “Selected Historical Consolidated Financial and Operating Data” and“Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

 

    As of June 30, 2019  
    Actual    As
Adjusted (1)
 
    (unaudited)       
Cash and cash equivalents   $ 675,772     $ 9,416,488  
Stockholders’ equity:                
Common stock, $0.0001 par value; 300,000,000 shares authorized, and 2,755,613 (27,556,121 pre-reverse split) and shares issued and outstanding on an actual basis, and Preferred stock, $0.0001 par value 100,000,000 shares authorized and 0 shares issued and outstanding, respectively     2,756       3,961  
Additional paid-in capital     41,612,671       50,349,426  
Accumulated deficit     (39,521,450 )     (39,521,450 )
Total stockholders’ equity     2,093,977       10,831,937  
Total capitalization   $ 2,143,922     $ 10,881,882  

 

(1) The number of shares of common stock to be outstanding after the offering is based on 2,755,613 (27,556,121 pre- reverse split), which is the number of shares outstanding on October 11, 2019, assumes no exercise by the underwriters of their option to purchase up to an additional 180,722 shares of common stock and warrants to purchase 180,722 shares of common stock to cover over-allotments, if any, and excludes:

  

  1,394,500 (13,945,000 pre-reverse split) shares of our common stock issuable upon exercise of outstandingstock options at a weighted average exercise price of $6.10 ($0.61 pre-reverse split) per share as of October 11, 2019;

 

  227,000 (2,270,000 pre-reverse split) shares of our common stock issuable upon exercise of outstanding warrants at a weighted average exercise price of $6.70 ($0.67 pre-reverse split) per share as of October 11, 2019; and
     
  1,204,819 shares of common stock issuable upon the full exercise of the warrants (forming part of the units) offered hereby.

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MARKETPRICE FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

 

MarketInformation

 

Our common stockis presently quoted on the OTCQB, operated by OTC Markets Group, under the symbol “DRNE”. At present, there is a verylimited market for our common stock. The OTC Market is a network of security dealers who buy and sell stock. The dealers are connectedby a computer network that provides information on current “bids” and “asks”, as well as volume information.Prior to this offering, there has been no public market for our warrants on the OTC Markets or any other trading market.

 

We have appliedto list our common stock and warrants on The NASDAQ Capital Market under the symbols “DRNE” and “DRNEW,”respectively. The approval of our listing on the NASDAQ Capital Market is a condition of closing this offering. No assurance canbe given that our application will be accepted.

 

The following table sets forth the range of high and low closing bid quotations for our common stock foreach of the periods indicated as reported by the OTCQB. These quotations reflect inter-dealer prices, without retail mark-up, mark-downor commission and may not necessarily represent actual transactions. Prices in the tables below have been presented to reflectthe assumed Reverse Stock Split of our outstanding shares of common stock as well as the pre-reverse stock split prices.

 

FiscalYear Ended December 31, 2017

 

    Post-Reverse     Post-Reverse     Pre-Reverse     Pre-Reverse  
    High     Low     High     Low  
Fiscal Quarter Ended:                                
March 31, 2017   $ 29.90     $ 21.70     $ 2.99     $ 2.17  
June 30, 2017   $ 22.70     $ 13.50     $ 2.27     $ 1.35  
September 30, 2017   $ 14.50     $ 7.10     $ 1.45     $ 0.71  
December 31, 2017   $ 16.50     $ 8.90     $ 1.65     $ 0.89  

 

FiscalYear Ended December 31, 2018

 

    Post-Reverse     Post-Reverse     Pre-Reverse     Pre-Reverse  
    High     Low     High     Low  
Fiscal Quarter Ended:                                
March 31, 2018   $ 12.00     $ 7.00     $ 1.20     $ 0.70  
June 30, 2018   $ 9.00     $ 6.80     $ 0.90     $ 0.68  
September 30, 2018   $ 7.50     $ 6.10     $ 0.75     $ 0.61  
December 31, 2018   $ 6.90     $ 4.70     $ 0.69     $ 0.47  

 

FiscalYear Ended December 31, 2019

 

    Post-Reverse     Post-Reverse     Pre-Reverse     Pre-Reverse  
    High     Low     High     Low  
Fiscal Quarter Ended:                                
March 31, 2019   $ 20.00     $ 4.50     $ 2.00     $ 0.45  
June 30, 2019   $ 11.50     $ 7.20     $ 1.15     $ 0.72  
September 30, 2019   $ 11.30     $ 6.00     $ 1.13     $ 0.60  

 

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On October 9, 2019,the closing price for our common stock on the OTCQB was $8.30 ($0.83 pre-reverse split) per share with respect to an insignificantvolume of shares.

 

Thevolume of shares traded on the OTCQB was insignificant and therefore, does not represent a reliable indication of the fair marketvalue of these shares.

 

Holdersof Common Stock

 

As of October 11,2019, there were approximately 128 record holders of our common stock. The number of record holders does not include beneficialowners of common stock whose shares are held in the names of banks, brokers, nominees or other fiduciaries.

 

Wehave not paid any cash dividends on our common stock and do not currently anticipate paying cash dividends in the foreseeablefuture. We intend to retain future earnings, if any, for reinvestment in the development and expansion of our business.

 

DILUTION

 

If you invest inour units (comprised of our common stock and warrants) in this offering, your interest will be diluted to the extent of the differencebetween the public offering price per share of common stock (which forms a part of a unit) and the pro forma net tangible bookvalue per share of our common stock immediately after this offering.

 

The net tangible book value of our common stock as of June 30, 2019 was $1,337,814 orapproximately $0.49 per share after giving pro forma effect to the Reverse Stock Split of our outstanding common stock. Net tangiblebook value per share represents our total tangible assets less our total tangible liabilities, divided by the number of sharesof common stock.

 

Net tangible book value dilution per share of common stock in each unit to new investors represents thedifference between the amount per share of common stock in each unit paid by purchasers in this offering and the pro forma nettangible book value per share of our common stock immediately after the completion of this offering, after giving pro forma effectto the Reverse Stock Split of our outstanding common stock. After giving effect to our issuance and sale of units in this offeringat the assumed public offering price of $8.30 per unit, and after deducting estimated underwriting discounts and commissions andestimated offering expenses, our pro forma net tangible book value as of June 30, 2019 would have been $2.52 pershare after giving pro forma effect to the Reverse Stock Split of our outstanding common stock. This represents an immediate increasein net tangible book value of $2.03 per share to existing stockholders and an immediate dilution in net tangible book value of$5.78 per share to purchasers of units in this offering, as illustrated in the following table:

 

Assumed public offering price per unit           $ 8.30   
Net tangible book value per share as of June 30, 2019   $  0.49          
Increase in net tangible book value per share attributable to new investors   $  2.03          
Less: pro forma net tangible book value per share after giving effect to the offering           $  2.52  
Immediate dilution in net tangible book value per share to new investors           $  5.78  

 

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The foregoing illustrationalso does not reflect the dilution that would result from the exercise of any of the warrants sold in the offering.

 

The following table sets forth, as of June 30, 2019, the assumed number of shares of common stockpurchased from us, the total consideration paid to us and the average price per share paid by existing stockholders and to be paidby new investors purchasing units (of which shares of common stock form a part) in this offering, after giving pro forma effectto the new investors in this offering at the assumed public offering price of $8.30 per unit, together with the total considerationpaid an average price per share paid by each of these groups, before deducting underwriting discounts and commissions and estimatedoffering expenses.

 

    Shares Purchased     Total Consideration     Average
Price
 
    Number     Percent     Amount     Percent     per Share  
Existing stockholders     2,755,613       69.6 %   $ 41,615,427       80.6 %   $ 15.10  
New investors     1,204,819       30.4 %   $ 10,000,000       19.4 %   $ 8.30  
Total     3,960,432       100.0 %   $ 51,615,427       100.0 %   $ 13.03  

 

If the underwriters’over-allotment option is exercised in full for sharesof common stock at the assumed offering price, the number of shares held by new investors will increase to 1,385,541 (assumingno exercise of the warrants), or approximately 33.5% of the total number of shares of common stock outstanding after this offeringand the shares held by existing stockholders will be 2,755,613 but the percentage of shares held by existing stockholders willdecrease to 66.50% of the total shares outstanding.

 

To the extent thatthe underwriters’ over-allotment option is exercised or any warrants or options are exercised, there will be further dilutionto new investors.

 

The foregoing discussionand tables above do not give effect to the dilution that would result from 1,621,500(16,215,000 pre-reverse split) shares of our common stock issuable upon the exercise of our issued and outstanding warrants atan average exercise price of $6.70 ($0.67 pre-reverse split) per share and options at an average exercise price of $6.10 ($0.61pre-reverse split) per share.

 

DESCRIPTIONOF BUSINESS

 

BusinessOverview

 

We design, develop, market, sell and provide logistical services for specialized tethered aerial monitoringand communications platforms serving national defense and security customers for use in applications including intelligence, surveillanceand reconnaissance (“ISR”) and communications. We focus primarily on the development of a tethered aerostat known asthe Winch Aerostat Small Platform (“WASP”) which is principally designed for military and security applications wherethey can provide secure and reliable aerial monitoring for extended durations while being tethered to the ground via a high strengtharmored tether.

 

Wehave steadfastly pursued a vision that rapid, persistent, mobile access to altitude is a force multiplier for military and nationalsecurity operations. Our unique WASP technology fills what we believe to be significant gaps in the marketplace between the expensivemilitary drones and large, non-mobile aerostat systems.

 

As a result of recent capital contributions from a select group of management and non-management investorsand the elimination of a majority of our outstanding debt, we believe we are better able to position our business to seize opportunitiesthat lay ahead. This investment also allowed us to provide much-needed increased production capacity, through a strategic relationshipwith an established ISO 9001-certified manufacturer and new production in Florida through the lease of an additional facility.

 

Highlighted bya $3.8 million WASP award, followed by $1.1 million award for WASP Lite systems and a recent contract valued at approximately$1.7 million gross revenue from the prime contractor as a follow-on to the $3.8 million contract awarded in December 2018, wehave announced in excess of approximately $6.6 million gross revenue in new business in the first six months of 2019. Assumingreceipt of this revenue, this will represent a 144% increase over the approximately $2.7 million gross revenue reported for theentire twelve months of 2018. These awards support our belief that the WASP is well positioned to address the challenges facingtier-one end users, including the U.S. Department of Defense and the Department of Homeland Security.

 

Organization

 

DroneAviation Holding Corp. has two wholly owned subsidiaries: Lighter Than Air Systems Corp. (“LTAS”) and Drone AFS Corp.(“AFS”). Drone Aviation Holding Corp. was incorporated in Nevada on April 17, 2014, as a wholly owned subsidiary ofMacroSolve, Inc., an Oklahoma corporation (“MacroSolve”), and effective April 30, 2014, in order to consolidate ouroperations into an entity incorporated in Nevada, MacroSolve merged with and into us. On June 3, 2014, we acquired Drone AviationCorp. through a share exchange transaction, and on March 26, 2015, Drone Aviation Corp. merged with and into us. As a result ofthe share exchange and merger with Drone Aviation Corp., we acquired Drone Aviation Corp.’s subsidiary, LTAS. AFS becameour subsidiary upon its formation on July 9, 2015.

 

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Products

 

WASPTACTICAL AEROSTATS

 

The Company’s core aerostat products are designed to provide real-time, semi-persistent situationalawareness to various military and national security customers such as the Department of Defense (DoD) and units of the Departmentof Homeland Security (DHS) such as the Customs and Border Protection (CBP) to improve security at the nation’s ports andborders. The WASP tethered aerostat system provides customers with tactical, highly mobile and cost-effective aerial monitoringand communications capabilities in remote or austere locations where existing infrastructure is lacking or not accessible. CurrentWASP products include the WASP tactical aerostat and WASP Lite, a rapidly deployable, compact aerostat system. WASP aerostats areeither self-contained on a trailer that can be towed by a military all-terrain vehicle, or “MATV,” or mine resistantambush protected vehicle (“MRAP”) or other standard vehicle, operated from the bed of a pickup truck, UTV or mountedto a building rooftop. They are designed to provide semi-persistent, mobile, real-time day/night high definition video for intelligence,surveillance and reconnaissance (ISR), detection of improvised explosive devices, border security and other governmental and civilianuses. We believe that all our products can also be utilized for disaster response missions by supporting two-way and cellular communicationsand acting as a repeater or provider of wireless networking.

 

Both the WASP and WASP Lite aerostat systems employ a tethered envelope filled with helium gas for liftand carry either a stabilized ISR or communications payload, portable ground control station and a datalink between the groundstation and the envelope. Hovering between 500 and 1,500 feet above the ground, the systems provide surveillance, communicationsand communications capabilities with relatively low acquisition and operating costs. The systems require an operational crew ofa minimum of two personnel, relatively simple maintenance procedures, and feature quick retrieval and helium top-off for re-inflation.

 

 

The WASP is a mobile, tactical-sized aerostat capable of carrying a variety of payloads in support of military operations helping troops in the field gain a tactical edge while communicating over greater distances. The WASP leverages aerostat technology to elevate network payloads up to 130 pounds to an advantaged height of up to 1,500 feet, to enable persistent network connectivity while reducing risk to units conducting missions. U.S. Army WASP tactical aerostats previously acquired from us have successfully completed a number of field tests and exercises including the U.S. Department of Defense (“DoD”) CyberQuest, Enterprise Challenge, Storm Force, and various Army Network Integration Evaluations (NIE), which allows the U.S. Government to evaluate, among other things, the WASP’s ability to provide secure communications and capture and relay real-time, high definition video to various handheld devices, tablet computers and other deployed systems. In October 2016, we were awarded contracts from a prime contractor to provide a U.S. Military customer with integrated advanced communication solutions and optical payloads into their WASP aerostats which were delivered in March 2017. In October 2017, we received an award in excess of $800,000 gross revenue from a prime contractor for a multi-mission capable WASP, including secure voice and data network range extension, from an existing DoD customer, which was delivered in February 2018. In March 2018, we received our largest single DoD contract award to date for approximately $1.7 million gross revenue from a prime contractor for a multi-mission capable tactical WASP. The March 2018 order, which was delivered in October 2018, was the third repeat order awarded to us for WASP as the result of a growing number of successful international military deployments. In July 2018, we entered into an exclusive teaming agreement with a U.S. Government prime contractor which is the recipient of a previously awarded IDIQ (indefinite delivery/indefinite quantity) prime contract from of the Department of Homeland Security (“DHS”), Customs and Border Protection (“CBP”). In December 2018, the prime contractor awarded us a subcontract valued at approximately $3.8 million gross revenue for six WASP aerostat systems, which award was announced in January 2019. These WASP powered surveillance systems are expected to be deployed at a CBP Border Patrol Sector on the southern border of the United States beginning in September 2019. There are 20 Border Patrol Sectors along U.S. borders, 9 of which are located along the U.S. Southern border. We have begun production of the initial units at our facilities in Florida and at our ISO 9001-certified manufacturing strategic partner’s facility. Deliveries began late in the second quarter of 2019 and will continue throughout 2019. In June 2019, we were awarded a contract valued at approximately $1.7 million gross revenue from the prime contractor as a follow-on to the $3.8 million gross revenue contract such prime contractor awarded us in December 2018. We are working closely with the prime contractor to explore additional product and services opportunities in DHS and CBP under our exclusive teaming agreement.

 

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  The WASP Lite is a recently developed system that utilizes the proven fieldability of our larger WASP aerostat system incorporated into a small footprint design. It is a compact, non-trailer based, cost effective aerostat system that is highly mobile and can be setup and deployed virtually anywhere from the bed of a pickup truck to a rooftop while anchored or moored. WASP Lite can move while deployed up to 40 mph and supports a wide range of lighter payloads including ISR, communications, and signal intelligence (SIGINT). In May 2019, the U.S. Army selected Drone Aviation’s enhanced WASP Lite Aerostat System for multi-unit award valued at approximately $1.1 million gross revenue. Deliveries under this award commenced in July 2019.

 

Marketand Product Strengths

 

Thedemand for our lighter-than-air (LTA) advanced tethered aerostats and tethered drones has grown significantly over the last severalyears driven by the increasing need for aerial-based, real-time situational awareness by the military and those responsible fornational security operations. Also contributing to the growth in aerial monitoring is technology advances in visual monitoringand communications payloads such as electro-optical camera systems and waveform radios which are delivering enhanced capabilitiesin smaller, lighter packages.

 

Interms of the military market, in response to the changing nature of modern warfare, ground forces today are smaller and nimbler.Most importantly, these units are now becoming interlinked in a “networked battlefield” whereby information collectedfrom a growing number of sensors – satellites, manned aircraft and drones and soldiers on the ground - are all aggregatedand shared in real-time.

 

Inline with the 2020 U.S. Defense Budget Request, “Army modernization is essential to build a more lethal force foundationalfor the Joint Force” which states modernization of the Army Network as one of six priorities. The Army Network is definedin the budget request as “a tactical communications network that enables the Army to fight cohesively in any environmentwhere the electromagnetic spectrum is denied or degraded. The network includes electronic warfare; information technology; andassured position, navigation, and timing systems and software with a low signature.” Further evidence of this commitmentcan be seen through various technology integration and evaluation programs like the Army’s Enterprise Challenge and NetworkIntegration Evaluations (NIEs). Through these programs, the Army is seeking innovative ways to collect, aggregate and disseminatecritical information and data across the battlefield.

 

Innational security operations, specifically, those conducted by the DHS and in-line with the priorities stated by the Presidentof the United States and current administration in Washington, border security is a critical area for investment. Based upon newsreports and statements directly from the DHS and CBP, the situation at the southern border of the U.S. and Mexico is in crisisas surging border crossings of immigrants and increasing levels of illegal activities such as drug traffic are surpassing availablesecurity resources.

 

Thechallenges faced by the CBP are many since the southern border with Mexico stretches over 1,950 miles from California to Texas,most of which is a barren, austere environment dominated by rough and dusty terrain and is subject to high heat and windy conditions.Currently, CBP monitoring of the border is conducted by agents on foot, on horses, in vehicles, planes, helicopters, and boats.Aerial surveillance on the border is currently conducted via helicopters, aircraft, and drones, however, these platforms are limiteddue to a lack of persistence and costly operation. Additionally, the CBP operates a network of large aerostats– TetheredAerostat Radar System (TARS), Persistent Threat Detection System (PTDS), and Persistent Ground Surveillance Systems (PGSS) –however, these systems are limited due to their large size, cost and fixed installation requirements, leaving vast border areasunmonitored.

 

Toaddress the situation, the U.S. government has allocated significant resources and DHS budget to increase manpower and improveborder security via fencing and the adoption of “smart wall technology” including aerial monitoring as well as communicationsand sensors.

 

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Thepotential markets for our systems on a stand-alone basis and/or combined with other payloads relates to the following applications,among others:

 

GovernmentalMarkets:

 

  International, federal, state and local governments and agencies thereof, including DoD, U.S. Drug Enforcement Agency, U.S. Homeland Security, U.S. Customs and Border Protection, U.S. Environmental Protection Agency, U.S. Department of State, U.S. Federal Emergency Management Agency, U.S. and state Departments of Transportation, penitentiaries, and police forces;
     
  Military, including the Army, Marines, National Guard, Navy and U.S. Air Force installations;
     
  Intelligence community, including the United States Special Operations Forces;
     
  Border security monitoring, including U.S. Homeland Security, to deter and detect illegal entry;
     
  Drug enforcement along U.S. borders;
     
  Monitoring environmental pollution and sampling air emissions; and
     
  Vehicle traffic monitoring by state and local law enforcement agencies.

 

CommercialMarkets:

 

  TV and media production mobile communications systems, expanding on-site reporting capabilities to include aerial videography and photography;
     
  Agriculture monitoring, including monitoring crop health and fields monitoring to reduce costs and increase yields;
     
  Security for large events, including crowd management;
     
  Natural disaster instant infrastructure to support first responders;
     
  Oil pipeline monitoring and exploration; and
     
  Atmospheric and climate research.

 

Distribution

 

We primarily sell our products through distribution agreements with firms such as Atlantic Diving Supply,Inc. (ADS Inc.), a leading value-added logistics and supply chain solutions provider that serves the U.S. military, federal, stateand local government organizations, law enforcement agencies, first responders, partner nations and the defense industry. In addition,we sell our products through several prime contractors and our products are included in the U.S. Government’s GSA Schedule,which allows government customers to directly negotiate and acquire products and services from commercially listed suppliers.

 

Competitionand Market Advantage

 

We believe thecurrent market competitors to the WASP aerostat system include a large number of companies ranging from small “mom and pop”tethered aerostat and balloon companies to large defense contractors, including TCOM, Raytheon, Lockheed Martin, ISL, ILC Dover,Compass Systems, Raven Aerostar, Carolina Unmanned Vehicles, American Blimp Corporation, and RT Aerostat Systems, Inc., the Americansubsidiary of Israeli aerostat company RT LTA. We believe there are numerous commercial drone companies, such as DJI and Parrot,offering free flying drones for pleasure and commercial use, as well as many larger drone manufactures, such as Northrop Grumman,AeroVironment, Inc. and Boeing, offering military grade free flying drones to the U.S. Government, which could compete with theWASP. There are fewer commercial grade tethered drone competitors for our WATT tethered drone system that remain tethered to theground via a high strength armored tether, including Aria Insights (formerly Cyphy Works Inc.) located in Danvers, MA, Elistairlocated in Lyon, France, Hoverfly Technologies, Inc. located in Orlando, Florida, and Skysapience located in Yokneam, Israel.

 

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Manyof our LTA aerostat competitors have received considerable funding from government or government-related sources to develop andbuild LTA aerostats. Most of these organizations and many of our other competitors have greater financial, technical, manufacturing,marketing and sales resources and capabilities than we do. We anticipate increasing competition as a result of defense industryconsolidation, which has enabled companies to enhance their competitive position and ability to compete against us. In addition,other companies may introduce competing aerostats or solutions based on alternative technologies that may adversely affect ourcompetitive position. As a result, our products may become less or non-competitive or obsolete. For further discussion of certainrisks relating to competition, see “Risk Factors” of this prospectus.

 

Webelieve that the principal competitive factors in the markets for the Company’s tethered systems, specifically, aerostats,include product performance, features, acquisition cost, lifetime operating cost, including maintenance and support, ease of use,integration with existing equipment, size, mobility, quality, reliability, customer support, brand and reputation.

 

Ourproprietary and recently patented tethering technology, in particular, our tension control winch system, is an important competitivedifferentiator in the market. The winch systems utilized in our products have undergone extensive testing and continued refinementthrough coordination with customers, including the U.S. Army. To date, our products have been purchased through our prime contractorsby a number of key customers including the U.S. Army and DHS/CBP.

 

Ourproducts provide critical observation and communication capabilities serving the increased demand for ISR and communications,including real-time tactical reconnaissance, tracking, combat assessment and geographic data, while reducing the risks to ourtroops in theatre. Finally, in a highly constrained fiscal environment, we believe the typically lower acquisition and use/maintenancecosts of LTA advanced aerostats make them more appealing compared to their heavier than air manned or larger LTA unmanned systemalternatives.

 

Technology,Research and Development

 

We conduct the development, commercialization and manufacturing of our products in-house at our facilitiesin Jacksonville and Holly Hill, Florida.

 

Ourresearch and development efforts are largely focused on the LTA aerostat systems, including developing miniature WASP systemsand the management and recovery of helium gas, software development, electronic energy systems, and electronic data transmission systems. We have developed an aerostat system called WASP LITE for use in commercial orgovernmental applications which do not require the same level of durability and ruggedness as the WASP, and we continue towork on different models with different payloads for various applications.

 

For the six monthsended June 30, 2019 and for the years ended December 31, 2018 and 2017, we spent $53,971, $107,015 and $351,768, respectively,on research and development activities. Research and development expenditures are not borne directly by customers nor are thecosts accounted for in our pricing models. Throughout the remainder of 2019, we do not anticipate significant increases in researchand development expenses from levels reported in 2018 as we focus activities on continual, incremental improvement to the WASPplatform in order to increase its features and capabilities.

 

StrategicPartners

 

Weare party to several agreements with strategic partners and distributors to assist us with the marketing and sales of variousproducts, as we currently have limited in-house sales capabilities. Current relationships include:

 

  A sales and distribution working relationship with U.S. government prime contractor ADS Inc.; and
     
  An exclusive teaming agreement with a non-affiliate U.S. government prime contractor that is the recipient of a previously awarded IDIQ (indefinite delivery/indefinite quantity) prime contract from of the Department of Homeland Security, Customs and Border Protection.

 

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IntellectualProperty

 

OnSeptember 18 and 19, 2014, we filed provisional patent application numbers “62/052,289” and “62/052,946”entitled “Tethered Portable Aerial Media broadcast System” based on the tethered drone system. On September 18, 2015,we filed a utility patent application claiming a priority date of the two provisional patent applications and having applicationSerial Number “14858467” entitled “Apparatus and Methods for Tethered Aerial Platform and System.” OnJuly 7, 2015, we filed a provisional patent application number “62/189,341” entitled “Apparatus, Methods andSystem for Tethered Aerial Platform.” On September 20, 2016, the United States Patent and Trademark Office (“USPTO”)issued patent number 9,446,858 entitled “Apparatus and methods for tethered aerial platform and system.” This newpatent on our electric tethered aerial platform (“ETAP”) technologies covers the core systems currently incorporatedinto the WATT and BOLT products.

 

On December 5, 2016,we filed provisional patent application number “62/430,195” entitled “Converting an Onboard Battery PoweredDrone to a Ground Powered Tethered Drone”. On December 5, 2017, we filed a non-provisional patent application number “15/832,209”entitled “System for Converting a Safeguarded Free Flight Onboard Battery-Powered Drone to a Ground-Powered Tethered Drone”.On August 26, 2019, we received a Notice of Allowance and are currently awaiting the issuance and the patent.

 

OnApril 19, 2016, we filed an application for registration of the trademark “Taming Altitude”. On August 7, 2018, theUSPTO issued trademark number 5,532,648 entitled “Taming Altitude”.

 

Inaddition, the Company’s intellectual property portfolio includes an exclusive commercial license to vision-based navigationand advanced autonomous flight management software that it acquired in 2015 and exclusive commercial licenses to a number of unmannedvehicle technologies developed by Georgia Tech Research Corporation, including “GUST” (Georgia Tech UAV SimulationTool) autopilot system.

 

Oursuccess and ability to compete depends in part on our ability to develop and maintain our intellectual property and proprietarytechnology and to operate without infringing on the proprietary rights of others. As we continue the development of our aerialproducts, we expect that we will rely on patents, trade secrets, copyrights, trademarks, non-disclosure agreements and other contractualprovisions. We have also registered the trademark “Blimp in a Box.” In certain cases, when appropriate, we opt toprotect our intellectual property through trade secrets as opposed to filing for patent protection in order to preserve confidentiality.All of our employees are subject to non-disclosure agreements and other contractual provisions to establish and maintain our proprietaryrights. For further discussion of risks relating to intellectual property, see “Risk Factors” of this prospectus.For further discussion about the intellectual property rights and licenses and minimum royalties, see Note 14 – Commitmentsand Contingencies in the notes to 2018 audited financial statements.

 

Dependenceon a Few Customers and Regulatory Matters

 

Webelieve there is a large, growing market for our tethered aerial products, but anticipate that the majority of our revenue willbe derived from our LTA aerostat products sales, at least in the foreseeable future, which will come from U.S. Government andGovernment-related entities, including the DHS and other departments and agencies. Government programs that we may seek to participatein compete with other programs for consideration during Congress’s budget and appropriations hearings and may be affectedby changes not only in political power and appointments, but also general economic conditions and other factors beyond our control.Reductions, extensions or terminations in a program that we are seeking to participate in or overall defense spending or delaysin Government funding such as occurred in late December 2018 which shutdown certain departments and agencies, could adverselyaffect our ability to generate revenues and realize any profits. We cannot predict whether potential changes in security, defenseand intelligence priorities will afford opportunities for our business in terms of research and development or product contracts,but any reduction in government spending on such programs could negatively impact our ability to generate revenues.

 

Wehave registered as a contractor with the U.S. Government and are required to comply with and will be affected by laws and regulationsrelating to the award, administration and performance of U.S. Government contracts. Government contract laws and regulations affecthow we will do business with customers, and in some instances, will impose added costs on our business. A violation of specificlaws and regulations could result in the imposition of fines and penalties, the termination of any then existing contracts, orthe inability to bid on future contracts. For further discussion of the risks relating to U.S. Government contracts and FAA rulesand regulations, see “Risk Factors” of this prospectus.

 

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Duringfiscal years ended 2018 and 2017, we received a substantial portion of our revenues from a limited number of customers, and theloss of, or a significant reduction in usage by, one or more of our major customers would result in lower revenues. For furtherdiscussion about our dependence on a few major customers see Note 15 – Concentrations in the notes to the 2018 auditedfinancial statements.

 

Internationalsales of our products may also be subject to U.S. laws, regulations and policies like the U.S. Department of State restrictionson the transfer of technology, International Traffic in Arms Regulations (“ITAR”) and other export laws and regulationsand may be subject to first obtaining licenses, clearances or authorizations from various regulatory entities. Although we arenot currently pursuing international sales, we may deploy working capital towards expansion into foreign markets. This may limitour ability to sell our products abroad and the failure to comply with any of these regulations could adversely affect our abilityto conduct business and generate revenues as well as increase our operating costs. Our products may also be subject to regulationby the National Telecommunications and Information Administration and the Federal Communications Commission, which regulate wirelesscommunications.

 

Sourcesand Availability of Components

 

Certainmaterials and equipment for our products are custom made for those products and are available only from a limited number of suppliers.Failure of a supplier could cause delays in delivery of the products if another supplier cannot promptly be found or if the qualityof such replacement supplier’s components is inferior or unacceptable. For further discussion of the risks relating to sourcesand availability of components, see “Risk Factors” of this prospectus.

 

CorporateHistory

 

DroneAviation Holding Corp. was incorporated in Nevada on April 17, 2014, as a wholly owned subsidiary of MacroSolve, Inc., an Oklahomacorporation (“MacroSolve”), and effective April 30, 2014, in order to consolidate our operations into an entity incorporatedin Nevada, MacroSolve merged with and into us. On June 3, 2014, we acquired Drone Aviation Corp. through a share exchange transaction,and on March 26, 2015, Drone Aviation Corp. merged with and into us. As a result of the share exchange and merger with Drone AviationCorp., we acquired Drone Aviation Corp.’s subsidiary, LTAS. AFS became our subsidiary upon its formation on July 9, 2015.

 

Our authorizedcapital stock consists of 400,000,000 shares, of which 300,000,000 are shares of common stock, $0.0001 par value per share, and100,000,000 are shares of preferred stock, $0.0001 par value per share. As of October 11, 2019, there were 2,755,613 (27,556,121pre-reverse split) shares of common stock outstanding and no shares of preferred stock outstanding.

 

The Board of Directorsand shareholders holding a majority of the Company’s voting capital approved and adopted the 2015 Equity Incentive Plan(the “2015 Plan”) on September 4, 2015 and October 1, 2015, respectively. At the annual shareholder meeting on December6, 2016, shareholder’s approved the 2015 Plan and an amendment to the plan to (i) increase the number of shares of our commonstock with may be granted under the plan from 25,000 (250,000 pre-reverse split) to 88,300 (883,000 pre-reverse split) and (ii)reduce the automatic increase in the Share Limit provided for in Section 7.1.(b) of the 2015 Plan from 20% to 10% with such amountrounded down to the nearest 100 (1,000 pre-reverse split) shares.

 

OnOctober 29, 2015, we effected a 1-for-40 reverse stock split of our issued and outstanding common stock. As a result of the reversestock split, every 40 shares of our pre-reverse split common stock was combined and reclassified into one share of our commonstock, and fractional shares were rounded up to the next highest number of whole shares of our common stock.

 

On September 29,2016, the Company issued a convertible promissory note (the “Convertible Promissory Notes Series 2016”) which wasdue October 1, 2017 in the aggregate principal amount of $3,000,000 in a private placement to the former Chairman of the Boardand the Chairman of the Strategic Advisory Board of the Company, both of whom are greater than 10% shareholders of the Company.On December 21, 2018, the Company issued 617,742 (6,177,411 pre-reverse split) shares of common stock to the note holders in fullsettlement of the $3,000,000 principal balance and $88,705 accrued interest.

 

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During the yearended December 31, 2016, the Company issued a net total of 355,664 (3,556,635 pre-reverse split) shares of common stock as follows:

 

  (a) On January 12, 2016, the Company issued 250 (2,500 pre-reverse split) shares of common stock pursuant to conversions of an aggregate of 1,000 shares of Series A preferred stock.

 

  (b) On January 12, 2016, the Company issued 18,347 (183,468 pre-reverse split) shares of common stock pursuant to conversions of an aggregate of 73,387 shares of Series C preferred stock.

 

  (c) On January 12, 2016, the Company issued 5,000 (50,000 pre-reverse split) shares of common stock pursuant to conversions of an aggregate of 2,000,000 shares of Series D preferred stock.

 

  (d) On January 12, 2016, the Company issued 5,000 (50,000 pre-reverse split) shares of common stock pursuant to conversions of an aggregate of 1,999,998 shares of Series F preferred stock.

 

  (e) On January 12, 2016, the Company issued 5,000 (50,000 pre-reverse split) shares of common stock pursuant to conversions of an aggregate of 2,000,000 shares of Series G preferred stock.

 

  (f) On April 27, 2016, the Company issued 10,000 (100,000 pre-reverse split) shares of common stock to Lt. Gen. Michael T. Flynn, a newly appointed director. Lt. Gen. Flynn resigned as a director on December 31, 2016 due to his appointment as National Security Advisor to President Donald Trump. Lt. General Flynn forfeited 6,667 (66,667 pre-reverse split) unvested shares and disclaimed 3,333 (33,333 pre-reverse split) vested shares.

 

  (g) On April 27, 2016, the Company issued an aggregate of 115,000 (1,150,000 pre-reverse split) shares of common stock to Jay Nussbaum, Felicia Hess, Daniyel Erdberg, Kendall Carpenter, and Kevin Hess pursuant to stock award agreements.

 

  (h) On May 2, 2016, the Company issued 15,000 (150,000 pre-reverse split) shares of common stock to Strategic Advisory Board members, Dr. Philip Frost and Steven Rubin, for 12 months of services.

 

  (i) On June 3, 2016, the Company issued 5,000 (50,000 pre-reverse split) shares of common stock to Adaptive Flight Inc (AFI) due to the triggering of a ‘make whole’ provision in the value of escrowed shares.

 

  (j) On September 26, 2016, the Company issued 133,900 (1,339,000 pre-reverse split) shares of restricted common stock to employees Jay Nussbaum, Felicia Hess, Daniyel Erdberg, Kendall Carpenter, Mike Silverman and Lt. Gen. Michael Flynn pursuant to stock award agreements. Lt. Gen. Flynn resigned as a director on December 31, 2016 due to his appointment as National Security Advisor to President Donald Trump. Lt. Gen. Flynn forfeited 2,500 (25,000 pre-reverse split) unvested shares.

 

  (k) On September 26, 2016, the Company issued 3,500 (35,000 pre-reverse split) shares of common stock to Reginald Brown pursuant to stock award agreement for consulting services.

 

  (l) On September 26, 2016, the Company issued 2,500 (25,000 pre-reverse split) shares of common stock to a member of the Strategic Advisory Board.

 

  (m) On September 29, 2016, the Company issued 49,667 (496,667 pre-reverse split) shares of common stock to twelve investors, including 40,667 (406,666 pre-reverse split) shares to four affiliate investors. These investors purchased stock at $50.00 ($5.00 pre-reverse split) per share and under the purchase agreement received twelve months of price protection. The Convertible Promissory Notes Series 2016 due October 1, 2017 included a $30.00 ($3.00 pre-reverse split) per share conversion factor, thereby triggering the price protection feature.

 

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During the yearended December 31, 2016, the Company granted 6,500 (65,000 pre-reverse split) common stock options to employees for service providedwith exercise prices between $29.10 ($2.91 pre-reverse split) and $37.70 ($3.77 pre-reverse split).

 

During the yearended December 31, 2016, the Company granted 6,000 (60,000 pre-reverse split) common stock warrants to consultants for serviceprovided with an exercise price of $29.10 ($2.91 pre-reverse split).

 

During the yearended December 31, 2017, the Company issued a total of 50,025 (500,250 pre-reverse split) shares of common stock as follows:

 

  (a) On April 24, 2017, the holder of Series A preferred stock converted a total of 100,100 shares of Series A for an aggregate of 25,025 (250,250 pre-reverse split) shares of restricted common stock in accordance with their conversion rights which includes a blocker with respect to individual ownership percentages.

 

  (b) On August 3, 2017, the Company issued 25,000 (250,000 pre-reverse split) shares of restricted common stock to two members of the Strategic Advisory Board as compensation for their extended service agreement from May 1, 2017 until April 30, 2018.

 

During the yearended December 31, 2017, the Company issued a total of 751,000 (7,510,000 pre-reverse split) options to purchase common stockas follows:

 

  (a) On January 9, 2017, the Company issued an option to a director to purchase 10,000 (100,000 pre-reverse split) shares of common stock with an exercise price of $29.00 ($2.90 pre-reverse split) per share.

 

  (b) On August 3, 2017, the Company issued options to purchase an aggregate of 521,000 (5,210,000 pre-reverse split) shares of the Company’s common stock outside its 2015 Equity Plan to officers, directors and employees for services provided with an exercise price of $10.00 ($1.00 pre-reverse split) per share.

 

  (c) On November 9, 2017, the Company issued options to purchase an aggregate of 200,000 (2,000,000 pre-reverse split) shares of its common stock outside its 2015 Equity Plan to officers and directors, and for services provided with an exercise price of $13.50 ($1.35 pre-reverse split) per share.

 

  (d) On December 13, 2017, the Company issued options to purchase an aggregate of 20,000 (200,000 pre-reverse split) shares of the Company’s common stock outside its 2015 Equity Plan to two newly-appointed directors with an exercise price of $10.00 ($1.00 pre-reverse split).

 

During the yearended December 31, 2017, the Company issued a total of 205,000 (2,050,000 pre-reverse split) warrants to purchase common stockas follows:

 

  (a) On August 3, 2017, the Company issued warrants to purchase an aggregate of 3,000 (30,000 pre-reverse split) shares of the Company’s common stock outside its 2015 Equity Plan to consultants for services provided with an exercise price of $10.00 ($1.00 pre-reverse split) per share.

 

  (b) On August 3, 2017, the Company issued a warrant to purchase 200,000 (2,000,000 pre-reverse split) shares of the Company’s common stock to Dr. Philip Frost for services to be provided under the terms of his service to the Strategic Advisory Board through April 2018 with an exercise price of $10.00 ($1.00 pre-reverse split) per share.

 

  (c) On November 9, 2017, the Company issued a warrant to purchase 2,000 (20,000 pre-reverse split) shares of the Company’s common stock outside its 2015 Equity Plan to consultants for services provided with an exercise price of $13.50 ($1.35 pre-reverse split) per share.

 

On August 2, 2017,the Company issued a promissory note to City National Bank of Florida (“CNB”) in the principal amount of $2,000,000,the CNB Note, with a maturity date of August 2, 2018. On September 26, 2018, the Company and CNB agreed to extend the maturitydate of the CNB Note to August 2, 2019. On August 29, 2019, the Company and CNB agreed to extend the maturity date of the promissorynote to August 2, 2020.

 

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On August 3, 2017,the Company issued a secured promissory note (the “Secured Convertible Promissory Note Series 2017”) due August 2,2018 in the aggregate principal amount of $2,000,000 in a private placement to Frost Nevada Investments Trust (“Frost Nevada”)of which Dr. Phillip Frost, an affiliate shareholder of the Company, is the trustee. On September 26, 2018, the Company and FrostNevada agreed to extend the maturity date of the Secured Convertible Promissory Note Series 2017 to August 2, 2019. On December21, 2018, the Company issued 403,074 (4,030,740 pre-reverse split) shares of common stock to Frost Nevada in full settlement ofthe $2,000,000 principal balance and $15,370 accrued interest.

 

InOctober 2017, we received an award in excess of $800,000 gross revenue from a prime contractor for a multi-missioncapable WASP, including secure voice and data network range extension from an existing DoD customer, which was deliveredin February 2018.

 

In March 2018, we received an approximately $1.7 million gross revenueaward, our largest single DoD award to date from a prime contractor for a multi-mission capable tactical WASP.The March 2018 order, which was delivered in October 2018, was the third repeat order awarded to us for WASP as the result of agrowing number of successful international military deployments.

 

During the yearended December 31, 2018, the Company issued a total of 1,445,816 (14,458,151 pre-reverse split) shares of common stock as follows:

 

  (a) On October 25, 2018, the Company issued 25,000 (250,000 pre-reverse split) shares of restricted common stock to two members of the Strategic Advisory Board as compensation for their extended service agreement from November 1, 2018 until October 31, 2019.

 

  (b) On October 24, 2018, the Company commenced an offering of up to 1,000,000 (10,000,000 pre-reverse split) shares of its common stock (the “Offered Shares”) in a private placement of up to $5,500,000 to certain accredited investors at a purchase price of $5.50 ($0.55 pre-reverse split) per share pursuant to a Stock Purchase Agreement (the “SPA”). Closing of the offering pursuant to the SPA is conditioned upon certain, limited customary representations and warranties, as well as the Company having received an aggregate of $4,000,000 in new orders from a prime government contractor or directly from the U.S. government at any time commencing after October 9, 2018 (the “Qualifying Sales Order”). As required under the SPA, upon receipt by the Company of a Qualifying Sales Order, the Company will give written notice to the investors notifying them that the Company intends to close on the purchase of the Offered Shares pursuant to the SPA. Within three days after the delivery of the notice to the investors, the Company and the investors will then close under the SPA and at closing, the Company will issue to each purchasing investor the number of shares subscribed for by each Investor.

 

  (c) On December 21, 2018, the Board approved an Amended and Restated Stock Purchase Agreement (the “Amended SPA”) relating to the Offered Shares to reduce the purchase price in the Offering to $5.00 ($0.50 pre reverse split) per share, reduce the maximum offering amount from $5,500,000 to $5,000,000, extend the initial closing date of the Offering to January 15, 2019 and permit sales of the Common Stock for a period of 30 days after the initial closing in order to attract a greater number of investors. In addition, the Amended and Restated Stock Purchase Agreement revised the definition of the event triggering the initial closing date to the date when the Company enters into an agreement with a prime government contractor at any time commencing after October 8, 2018 whereby the Company agrees to provide a minimum of $4,000,000 in goods and services to such contractor.

 

  (d)

On December 21, 2018, the Company issued 617,742 (6,177,411 pre-reverse split) shares of common stock pursuant to conversion of the Convertible Promissory Notes Series 2016 and 403,074 (4,030,740 pre-reverse split) shares of common stock pursuant to conversion of the Secured Convertible Promissory Note Series 2017.

 

  (e)

On December 27, 2018, the Company completed the sale of 400,000 (4,000,000 pre-reverse split) shares of its common stock pursuant to the Amended SPA at $5.00 ($0.50 pre-reverse split) per share for an aggregate of $2,000,000, of which 100,000 shares (1,000,000 pre-reverse split) shares were issued to Jay Nussbaum, the Company’s former Chief Executive Officer and Chairman of the Board of Directors, and 300,000 (3,000,000 pre-reverse split) shares were issued to Frost Gamma Investment Trust, of which Dr. Phillip Frost, an affiliate shareholder of the Company, is the trustee. On January 25, 2019, the Company completed the sale of 401,550 (4,015,500 pre-reverse split) shares of its common stock pursuant to the Amended SPA at $5.00 ($0.50 pre-reverse split) per share for an aggregate of $2,007,750. The aggregate consideration consisted of (1) cash in the aggregate amount of $1,432,750, (2) a promissory note from a single non-affiliate investor in the aggregate principal amount of $500,000, which was repaid on February 8, 2019 including $575 in accrued interest, (3) a full-recourse promissory note payable with a maturity date of January 25, 2020 by Dan Erdberg, the Company’s CEO and President, in the amount of $50,000 which was cancelled on April 30, 2019 pursuant to Stock Redemption and Note Cancellation Agreements, and (4) a full-recourse promissory note payable with a maturity date of January 25, 2020 by Kendall Carpenter, the Company’s Executive Vice President and Chief Financial Officer, in the amount of $25,000 which was reduced by $7,500 in January 2019, leaving a principal balance of $17,500 which was repaid in full on April 30, 2019, including $134 in accrued interest. Each note bore an interest rate at a fixed rate of 3% per annum and principal and interest under the notes could be prepaid at any time without penalty.

 

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During the yearended December 31, 2018, the Company issued a net total of 656,000 (6,560,000 pre-reverse split) options to purchase common stockas follows:

 

  (a) On March 28, 2018, the Company issued options to purchase an aggregate of 10,000 (100,000 pre-reverse split) shares of the Company’s common stock outside its 2015 Equity Plan to a newly-appointed directors with an exercise price of $10.00 ($1.00 pre-reverse split).

 

  (b) On May 16, 2018, the Company issued options to purchase an aggregate of 46,000 (460,000 pre-reverse split) shares of the Company’s common stock outside its 2015 Equity Plan to four employees with an exercise price of $10.00 ($1.00 pre-reverse split).

 

  (c) On August 22, 2018, the Company granted options to purchase an aggregate of 500,000 (5,000,000 pre-reverse split) shares of the Company’s common stock outside its 2015 Equity Plan to five management employees and four directors at an exercise price of $10.00 ($1.00 pre-reverse split) per share. On September 26, 2018, the Board resolved to cancel these options which had not vested.

 

  (d) On September 26, 2018, the Company granted options to purchase an aggregate of 600,000 (6,000,000 pre-reverse split) shares of Company common stock outside its 2015 Equity Plan to five management employees and four directors at an exercise price of $6.50 ($0.65 pre-reverse split) per share.

 

During the yearended December 31, 2018, the Company issued a total of 10,000 (100,000 pre-reverse split) warrants to purchase common stock asfollows:

 

  (a) On September 26, 2018, the Company issued a warrant to purchase 10,000 (100,000 pre-reverse split) shares of the Company’s common stock outside its 2015 Equity Plan to Global Security Innovative Strategies, LLC for services at an exercise price of $10.00 ($1.00 pre-reverse split) per share.

 

In July 2018, we enteredinto an exclusive teaming agreement with a U.S. Government prime contractor which is the recipient of a previously awarded IDIQ(indefinite delivery/indefinite quantity) prime contract from of the Department of Homeland Security (“DHS”), Customsand Border Protection (“CBP”). Under the terms of the teaming agreement:

 

  We agreed to work together to propose retrofit and new production of surveillance systems developed under the prime contract; and

 

  We agreed to provide the WASP aerostat, engineering support for WASP system integration, Field Service Representatives personnel support for WASP aerostat maintenance, training, WASP deployment, retrieval and movement, and warranty for WASP.

 

In December 2018,the prime contractor awarded us a subcontract valued at approximately $3.8 million gross revenue for six WASP aerostat systems.These WASP powered surveillance systems are expected to be deployed at a CBP Border Patrol Sector on the southern border of theUnited States commencing in September 2019. There are 20 Border Patrol Sectors along U.S. borders, 9 of which are located alongthe U.S. Southern border. We have begun production of the initial units at our facilities in Florida and at our ISO 9001-certifiedmanufacturing strategic partner’s facility. Deliveries began late in the second quarter of 2019 and will continue throughout2019. We are working closely with the prime contractor to explore additional product and services opportunities in DHS and CBPunder our exclusive teaming agreement.

 

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Ourmarketing efforts include submission of bids on several government procurement projects. In the past, we also showcased our productsand technologies at numerous conferences and live demonstrations, including the 2017 Special Operations Forces Industry Conference,Warrior Expo East and took part in a series of tests conducted on the southern border of the United States, State of Florida HURREXexercise, CyberQuest 2017, and presentations to a variety of federal and state government agencies. We have also increased marketingefforts and announced the following:

 

  On August 13, 2019, we announced that we delivered the initial set of WASP Aerostat systems in support of the United States Border Patrol; U.S. Customs and Border Protection. The initial award valued at approximately $3.8 million gross revenue was announced in January 2019 and the follow-on order of approximately $1.7 million gross revenue was announced in June 2019. Due to customer-related confidentiality considerations, we were not permitted to provide additional information about those awards at the time of the announcements.
     
  On July 18, 2019, we announced that we delivered our first contract award for the Ultra-Tactical WASP Lite System, valued in excess of $1.1 million, from prime contractor ADS, Inc. to a U.S. Army customer. The award was originally announced on May 7, 2019.
     
  On February 14, 2019, we announced that we had commenced the communications upgrade of a U.S. Army-owned WASP tactical aerostat. The upgrade will enable secure communications links utilizing advanced waveforms connecting soldiers on the battlefield.
     
  On January 31, 2019, we announced that we secured an additional $2.0 million in capital, completing a private placement raising an aggregate of $4.0 million which will be used to expand production and staffing.
     
  On January 22, 2019, we announced the conclusion of training for a U.S. Army unit on the next generation WASP ERS tactical aerostat. The delivery of the $1.7 million order itself was announced on October 15, 2018.
     
  On January 15, 2019, we announced the expansion of our manufacturing capacity.
     
  On December 27, 2018, we announced that we had eliminated over 70% of our existing debt in support of our planned growth.

 

During the sixmonths ended June 30, 2019, the Company issued a total of 391,550 (3,915,500 pre-reverse split) shares of common stock as follows:

 

  (a)

On January 25, 2019, the Company completed the sale of 401,550 (4,015,500 pre-reverse split) shares of its common stock pursuant to the Amended SPA at a purchase price of $5.00 ($0.50 pre-reverse split) per share, for an aggregate purchase price of $2,007,750. The aggregate consideration consisted of (1) cash in the aggregate amount of $1,432,750, (2) a promissory note from a single non-affiliate investor in the aggregate principal amount of $500,000, (3) a full-recourse promissory note payable by Dan Erdberg in the amount of $50,000 and (4) a full-recourse promissory note payable by Kendall Carpenter in the amount of $25,000. The principal amount of the Carpenter note was reduced by $7,500 on January 28, 2019 leaving a principal balance of $17,500. On April 30, 2019, Kendall Carpenter, the Company’s Executive Vice President and Chief Financial Officer, repaid the entire principal balance of the $17,500 note described above in Footnote #8 to the March 31, 2019 unaudited financial statements, including $134 in accrued interest. On April 30, 2019, Daniyel Erdberg, the Company’s CEO and President, entered into a Stock Redemption and Note Cancellation Agreement whereby the Company redeemed 10,000 (100,000 pre-reverse split) shares of common stock paid pursuant to the note described above in Footnote #8 to the June 30, 2019 unaudited financial statements and cancelled the $50,000 note and the related $267 in accrued interest.

 

OnFebruary 8, 2019, the non-affiliate investor repaid the $500,000 principal due on the promissory note and on February 11, 2019,the $575 accrued interest.

 

On April 30, 2019,the Company entered into a Stock Redemption and Note Cancellation Agreement with Daniyel Erdberg to redeem 10,000 (100,000 pre-reversesplit) shares in exchange for cancellation of the $50,000 note.

 

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OnApril 30, 2019, the Carpenter note was repaid in full, including principal of $17,500 and accrued interest of $134.

 

During the sixmonths ended June 30, 2019, the Company issued a net total of 13,000 (130,000 pre-reverse split) options to purchase common stockas follows:

 

  (a) On March 20, 2019, the Company issued options to purchase an aggregate of 13,000 (130,000 pre-reverse split) shares of the Company’s common stock outside its 2015 Equity Plan to two employees for services provided with an exercise price of $10.60 ($1.06 pre-reverse split) per share.

 

During the sixmonths ended June 30, 2019, the Company issued a net total of 5,000 (50,000 pre-reverse split) warrants to purchase common stockas follows:

 

  (a) On March 20, 2019, the Company issued a warrant to purchase 5,000 (50,000 pre-reverse split) shares of the Company’s common stock outside its 2015 Equity Plan to a contractor for services provided with an exercise price of $10.60 ($1.06 pre-reverse split) per share.

 

OnMarch 21, 2019, concurrent with the resignation of Kevin Hess, the Company’s prior Chief Technology Officer, the Companyand Cognitive Carbon Corporation (“CCC”), a related party, entered into an agreement pursuant to which CCC agreedto provide Chief Technology Officer services, sales and marketing services and outsourced software and platform development servicesto be provided personally by Kevin Hess or third-party development firms of his choosing for outsourced development. CCC willreceive $19,750 per month for one year for the Chief Technology Officer services and potential bonuses and an amount up to $120,000for outsourced software and platform development. Felicia Hess, the Company’s Chief Quality Officer, who is married to KevinHess, is the President and Director of CCC.

 

RecentDevelopments

 

On July 18, 2019,we announced that we delivered our first contract award for the Ultra-Tactical WASP Lite System from prime contractor ADS, Inc.to a U.S. Army customer. The order was originally announced on May 7, 2019. Under the terms of the award, valued in excess of$1.1 million gross revenue, we will supply multiple WASP Lite aerostat systems capable of enhancing and extending the modern networkedbattlefield supporting specialized waveform communications equipment and day/night ISR (Intelligence, Surveillance and Reconnaissance)payloads. The WASP Lite employs the same proprietary, advanced tethering technologies found in our Winch Aerostat Small Platform(“WASP”) tactical aerostat for secure power and data transmission. Deliveries under this award commenced in July 2019.

 

On August 13, 2019,we announced that we delivered the initial set of WASP Aerostat systems in support of the United States Border Patrol; U.S. Customsand Border Protection. The initial award valued at approximately $3.8 million gross revenue was announced in January 2019 andthe follow-on order of approximately $1.7 million gross revenue was announced in June 2019. Due to customer-related confidentialityconsiderations, we were not permitted to provide additional information about those awards at the time of the announcements.

 

On August 31, 2019,Jay H. Nussbaum, the Company’s Chairman of the Board and Chief Executive Officer, passed away.

 

On September 4,2019, the Company’s Board appointed Mr. Aguilar, who has served as a member of the Board since 2017, as Chairman of theBoard. On September 4, 2019, in connection with Mr. Aguilar’s appointment as Chairman of the Board, the parties to the 2017Director Agreement agreed to amend the 2017 Director Agreement (“2017 Amendment”) pursuant to which the Company agreedto pay Mr. Aguilar an annual fee of $120,000 in exchange for his services as Chairman of the Board. See footnote regarding Mr.Aguilar in “Executive Compensation – Director Compensation Table” in this prospectus.

 

On September 4,2019, the Board appointed Daniyel Erdberg as the Company’s Chief Executive Officer and as a member of the Board to fillthe vacancy created by Mr. Nussbaum’s death. Mr. Erdberg also continues to serve as the Company’s President sincehis appointment to that position on October 2, 2015. In connection with Mr. Erdberg’s appointment as Chief Executive Officerand director, the Company and Mr. Erdberg entered into Amendment No. 6 (“Amendment No. 6”) to the Employment Agreementwith Mr. Erdberg on September 4, 2019. Pursuant to the terms of Amendment No. 6, the term of employment was extended to December31, 2020 and the annual base salary payable under the Employment Agreement was increased from $175,000 to $250,000. See “ExecutiveCompensation - Employment Contracts and Potential Payments Upon Termination or Change in Control” in this prospectus.

  

On September 4,2019, Robert Guerra resigned as a director and member of the Board’s committees, effective immediately. Mr. Guerra’sresignation was not the result of any disagreement with the Company on any matter relating to its operation, policies or practices.On September 4, 2019, the Company redeemed 10,000 (100,000 pre-reverse split) shares of its common stock, which are now TreasuryStock, pursuant to a Redemption Agreement at $5.00 ($0.50 pre-reverse split) per share for an aggregate of $50,000 which wereissued to Mr. Guerra, the Company’s former director.

 

As a result ofthese changes to the composition of the board and its committees and the officers on September 4, 2019, the Company’s officersand directors are as follows since September 5, 2019:

 

Name   Age   Positions and Offices
Daniyel Erdberg   41   Chief Executive Officer, President and Director
Kendall Carpenter   63   Executive Vice President, Chief Financial Officer, Secretary and Treasurer
Felicia Hess   52   Chief Quality Officer
David Aguilar   63   Chairman of the Board
Timothy Hoechst   53   Director and Chairman of the Compensation Committee
John E. Miller   78   Director and Chairman of the Audit Committee

    

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GoingConcern

 

For the year endedDecember 31, 2017, the Company disclosed that its ability to continue as a going concern was predicated on the Company’sability to create and market innovative products, raise capital, reduce debt or renegotiate terms, and to sustain adequate workingcapital to finance its operations. During 2018, the Company met or exceeded those predications. In 2018, the Company made a strategicdecision to focus on its aerostats, WASP and WASP Lite, and opportunities for those products with military and government customers,resulting in an order valued in excess of $3.8 million in gross revenues which was received in December 2018 and expected to bedelivered by the end of 2019. In December 2018 and January 2019, the Company raised over $4,000,000 through stock sales whichwill provide ample working capital to produce WASP systems. In December 2018, the holders of $5,000,000 in convertible notes exercisedtheir rights to convert to equity leaving only $2,000,000 in bank debt on the books. As of June 30, 2019, the Company has approximately$1,200,000 in working capital, an improvement of approximately $1,000,000 more than the Company’s working capitalbalance at the end of 2018. The Company announced its first-ever profitable financial results for the second quarter ended June30, 2019.

 

Thefocus on opportunities for aerostats, the settlement of debt obligations, the funds generated from stock sales and other initiativescontributing to additional working capital should avoid any substantial doubt about the Company’s ability to continue asa going concern as defined by FASB Accounting Standards Update 2014-05, Disclosure of Uncertainties about an Entity’sability to Continue as a Going Concern. We believe that the actions discussed above mitigate the substantial doubt raisedby our recent operating losses and satisfy our estimated liquidity needs twelve months from the issuance of the financial statements.In light of the foregoing, our auditor did not include a going concern qualification in their audit report dated March 22, 2019for the years ended December 31, 2018 and 2017 notwithstanding our historical operating losses and accumulated deficit.

 

NasdaqListing and Reverse Stock Split

 

We applied to listof our common stock and warrants on the NASDAQ Capital Market. If our application to the NASDAQ Capital Market is not approvedor we otherwise determine that we will not be able to secure the listing of the common stock and warrants on the NASDAQ CapitalMarket, we will not complete the offering.

 

On June 5, 2019,our board of directors and stockholders holding a majority of our outstanding voting power, approved resolutions authorizing areverse stock split of the outstanding shares of our common stock in the range from one-for-five (1-for-5) to one-for-ten (1-for-10),which ratio will be selected by the board of directors. The board of directors will set the ratio of the reverse stock split,and the reverse stock split will become effective following approval by FINRA of the reverse stock split, prior to the effectivedate of the registration statement (of which this prospectus forms a part). The reverse stock split is intended to allow us tomeet the minimum share price requirement of the NASDAQ Capital Market.

 

Except as otherwiseindicated and except in our financial statements and the notes thereto, all references to our common stock, share data, per sharedata and related information depict an assumed reverse stock split ratio of 1-for-10 (“Reverse Stock Split”) untilfinal determination by the board of directors as if it was effective and as if it had occurred at the beginning of the earliestperiod presented. The Reverse Stock Split, when effective, will combine each ten shares of our outstanding common stock into oneshare of common stock, without any change in the par value per share, and the Reverse Stock Split correspondingly will adjust,among other things, the exercise rate of our warrants and options into our common stock. No fractional shares will be issued inconnection with the Reverse Stock Split, and any fractional shares resulting from the Reverse Stock Split will be rounded up tothe nearest whole share.

 

ORGANIZATIONALSTRUCTURE

 

Thediagram below depicts our organizational structure after this Offering:

 

 

Thisdiagram assumes the underwriters exercise their over-allotment option in full but does not assume the exercise of the warrantsforming part of the units or the over-allotment option.

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Employees

 

As of October 11,2019, we had 22 full-time and 3 part-time employees. We have no labor union contracts and believe relations with our employeesare satisfactory.

 

Properties

 

Ourprincipal executive office is located at 11651 Central Parkway, #118, Jacksonville, Florida 32224. Several of our management employeeswork remotely. We have entered into a 60-month operating lease for 5,533 square feet of office and manufacturing space at 11651Central Parkway, #118, Jacksonville, Florida 32224. The lease commenced February 1, 2015 and we took occupancy in June 2015. OnMarch 1, 2019, the Company entered into a 37-month operating lease for 2,390 square feet in Holly Hill, Florida for aerostat manufacturing.Several of our executives work from home-based offices in Florida, Virginia and Oklahoma and receive nominal reimbursement forhome office expenses.

 

LegalProceedings.

 

The Company

 

Fromtime to time, we may become involved in various lawsuits and legal proceedings which arise in the ordinary course of business.

 

We are currently party to the following material legal proceeding:

 

BancoPopular North America v Aerial Products Corporation d/b/a Southern Balloon Works, et al. (Fourth Judicial Circuit Court, DuvalCounty Florida-Civil Division) Case No. 16:2016:CA-003343

 

OnMay 16, 2016, Banco Popular North America (“Banco”) filed a lawsuit in Duval County, Florida in the Circuit Courtof the Fourth Judicial Circuit against Aerial Products Corporation d/b/a Southern Balloon Works (“Aerial Products”),Kevin M. Hess, LTAS, and the Company to collect on a delinquent Small Business Administration loan that Banco made in 2007 toAerial Products with Mr. Hess as the personal guarantor. LTAS and the Company filed an Answer on June 30, 2016 and Responses toInterrogatories on December 16, 2016. On August 31, 2017, LTAS and the Company filed Responses to Production of Documents. OnMay 29, 2019, Banco filed a Motion for Partial Summary Judgment against Aerial Products and Mr. Hess only.  It is our positionthat neither LTAS nor the Company are continuations of Aerial Products, and LTAS and the Company has denied all allegations madeby Banco and are vigorously defending themselves. The Company has evaluated the probability of loss as possible, but the rangeof loss is unable to be estimated.

 

Otherthan as set forth above, there are no pending material claims, actions, suits, proceedings, inquiries, labor disputes or investigationsinvolving the Company.

 

Dr. PhillipFrost

 

As a public companyand as a supplier to various military and national security customers, in particular, we continually engage in a rigorous reviewof our business and operations and hold ourselves to the highest ethical standards. It has been brought to our attention thatin September 2018, the SEC charged Dr. Phillip Frost, a substantial stockholder of the Company, and Frost Gamma Investments Trust,of which Dr. Frost is the trustee (“FGIT”) (among other individuals and entities unrelated to the Company), with certainviolations of the Securities Act and the Exchange Act, which violations are not alleged to be related to the Company and do notrelate to his Company stockholdings or transactions in Company securities. Dr. Frost, with his affiliates, including FGIT, isthe beneficial holder of 11,672,318 shares of the Company’s common stock, representing approximately 46.3% of the Company’s outstandingcommon stock. Although Dr. Frost has been a member of the Company’s Strategic Advisory Board since August 2014, Dr. Frost’srole with the Company has been strictly advisory, and he has not been involved in any way with the Company’s operations,including day-to-day management, accounting or reporting. Dr. Frost, through FGIT and another affiliated entity, has providedcredit facilities to the Company in 2016 and 2017. As of March 31, 2019, and December 31, 2018, the Company was not, and as ofthe date of this prospectus the Company is not, indebted to Dr. Frost. The Company has no current plans to enter into any futuredebt financings with Dr. Frost or any of his affiliates. In December 2018, in a settlement, subject to court approval, Dr. Frostagreed with the SEC to resolve the action brought against him, which action is unrelated to the Company, Dr. Frost’s Companystockholdings or any transactions by Dr. Frost or his affiliates in Company securities. Without admitting or denying the SEC’sallegations, Dr. Frost agreed to injunctions from certain violations of the Securities Act and the Exchange Act, approximately$5.5 million in penalty, disgorgement and pre-judgment interest, and a prohibition, with certain exceptions, from participatingin an offering of, or trading in, penny stocks. In January 2019, FGIT agreed to injunctions from certain violations of the SecuritiesAct and a prohibition, with certain exceptions, from participating in an offering of, or trading in, penny stocks. The allegationsand settlement were in no way related to the Company or its securities. The Company prides itself on maintaining the highest ethicalstandards, as evidenced by its adoption of the Code of Ethics and Business Conduct that applies to all of its directors, officersand employees. The Code of Ethics and Business Conduct is available on our website at ir.droneaviationcorp.com/governance-docs.

 

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MANAGEMENT’S DISCUSSION AND ANALYSISOF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS

 

The following discussionof our financial condition and results of operations should be read in conjunction with the consolidated financial statements andthe notes to those financial statements that are included elsewhere in this prospectus. Our discussion includes forward-lookingstatements based upon current expectations that involve risks and uncertainties, such as our plans, objectives, expectations andintentions. Actual results and the timing of events could differ materially from those anticipated in these forward-looking statementsas a result of a number of factors, including those set forth under the Risk Factors, Cautionary Statement Regarding Forward-LookingStatements and Business sections in this prospectus. We use words such as “anticipate,” “estimate,” “plan,”“project,” “continuing,” “ongoing,” “expect,” “believe,” “intend,”“may,” “will,” “should,” “could,” and similar expressions to identify forward-lookingstatements.

 

Growth and percentagecomparisons made herein generally refer to the six months ended June 30, 2019 compared with the six months ended June 30, 2018or year ended December 31, 2018 compared with the year ended December 31, 2017, as applicable, unless otherwise noted. Unless otherwiseindicated or unless the context otherwise requires, all references in this document to “we,” “us,” “our,”the “Company,” and similar expressions refer to Drone Aviation Holding Corp. and, depending on the context, its subsidiaries.

 

Business Overview

 

We design, develop,market, sell and provide logistical services for specialized tethered aerial monitoring and communications platforms serving nationaldefense and security customers for use in applications including intelligence, surveillance and reconnaissance (“ISR”)and communications. We focus primarily on the development of a tethered aerostat known as the Winch Aerostat Small Platform (“WASP”)and have developed and sold tethered drone products, including the WATT electric drone and the FUSE Tether System designed forthe DJI Matrice 200 (M200) professional drones. Our products are primarily designed for military and security applications wherethey can provide secure and reliable aerial monitoring for extended durations while being tethered to the ground via a high strengtharmored tether.

 

Our marketing effortsinclude submission of bids on several government procurement projects. In the past, we also showcased our products and technologiesat numerous conferences and live demonstrations, including the 2017 Special Operations Forces Industry Conference and the WarriorExpo East, and took part in a series of tests conducted on the southern border of the United States, State of Florida HURREX exercise,CyberQuest 2017, and presentations to a variety of federal and state government agencies. We have also increased marketing effortsand announced the following:

 

  On August 13, 2019, we announced that we delivered the initial set of WASP Aerostat systems in support of the United States Border Patrol; U.S. Customs and Border Protection. The initial award valued at approximately $3.8 million gross revenue was announced in January 2019 and the follow-on order of approximately $1.7 million gross revenue was announced in June 2019. Due to customer-related confidentiality considerations, we were not permitted to provide additional information about those awards at the time of the announcements.
     
  On July 18, 2019, we announced that we delivered our first contract award for the Ultra-Tactical WASP Lite System, valued in excess of $1.1 million, from prime contractor ADS, Inc. to a U.S. Army customer. The award was originally announced on May 7, 2019.

 

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  On February 14, 2019, we announced that we had commenced the communications upgrade of a U.S. Army-owned WASP tactical aerostat. The upgrade will enable secure communications links utilizing advanced waveforms connecting soldiers on the battlefield.
     
  On January 31, 2019, we announced that we secured an additional $2.0 million in capital, completing a private placement raising an aggregate of $4.0 million which will be used to expand production and staffing.

 

  On January 22, 2019, we announced the conclusion of training for a U.S. Army unit on the next generation WASP elevated relay system (ERS) tactical aerostat. The delivery of the $1.7 million order itself was announced on October 15, 2018.
     
  On January 15, 2019, we announced the expansion of our manufacturing capacity.
     
  On December 27, 2018, we announced that we had eliminated over 70% of our existing debt in support of our planned growth.

 

Inaddition to our plans to organically grow our lighter than air systems through increased marketing and sales, we intend to continueto consider potential strategic transactions, which could involve acquisitions of businesses or assets, joint ventures or investmentsin businesses, products or technologies that expand, complement or otherwise relate to our current or future business.

 

Departmentof Homeland Security and Customs and Border Protection

 

InJuly 2018, we entered into an exclusive teaming agreement with a U.S. Government prime contractor which is the recipient of apreviously awarded IDIQ (indefinite delivery/indefinite quantity) prime contract from the U.S. Department of Homeland Security(“DHS”), U.S. Customs and Border Protection (“CBP”). Under the terms of the teaming agreement:

 

  We agreed to work together to propose retrofit and new production of surveillance systems developed under the prime contract; and

 

  We agreed to provide the WASP aerostat, engineering support for WASP system integration, Field Service Representatives personnel support for WASP aerostat maintenance, training, WASP deployment, retrieval and movement, and warranty for WASP.

 

In December 2018,the prime contractor awarded us a subcontract valued at $3.8 million gross revenue for six WASP aerostat systems. These WASP poweredsurveillance systems are expected to be deployed at a CBP Border Patrol Sector on the southern border of the United States commencingin September 2019. There are 20 Border Patrol Sectors along U.S. borders, nine of which are located along the U.S. Southern border.We have begun production of the initial units at our facilities in Florida and at our ISO 9001-certified manufacturing strategicpartner’s facility. Deliveries began late in the second quarter of 2019 and will continue throughout 2019. In June 2019,we were awarded a contract valued at approximately $1.7 million gross revenue from the prime contractor as a follow-on to the$3.8 million contract they awarded us in December 2018. We are working closely with the prime contractor to explore additionalproduct and services opportunities in DHS and CBP under our exclusive teaming agreement.

 

Departmentof Defense

 

On May 7, 2019,we announced our first contract award for our newly designed aerostat product, the WASP Lite, from prime contractor ADS, Inc.for delivery to a U.S. Army customer. Under the terms of the award, valued in excess of $1.1 million gross revenue, we will supplymultiple WASP Lite aerostat systems capable of enhancing and extending the modern networked battlefield supporting specializedwaveform communications equipment and day/night ISR (Intelligence, Surveillance and Reconnaissance) payloads. The WASP Lite employsthe same proprietary, advanced tethering technologies found in our Winch Aerostat Small Platform (“WASP”) tacticalaerostat for secure power and data transmission. Deliveries under this award commenced in July 2019.

 

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CriticalAccounting Policies and Estimates

 

Thefollowing is not intended to be a comprehensive list of our accounting policies or estimates. Our significant accounting policiesare more fully described in Note 1–Summary of Significant Accounting Policies in the Notes. In preparing our financialstatements and accounting for the underlying transactions and balances, we apply our accounting policies and estimates as disclosedin the Notes. We consider the policies and estimates discussed below as critical to an understanding of our financial statementsbecause their application places the most significant demands on our judgment, with financial reporting results dependent on estimatesabout the effect of matters that are inherently uncertain and may change in subsequent periods. Specific risks for these criticalaccounting estimates are described in the following paragraphs. The impact and any associated risks related to these estimateson our business operations are discussed throughout this MD&A where such estimates affect our reported and expected financialresults. Preparation of this prospectus requires us to make estimates and assumptions that affect the reported amount of assetsand liabilities, disclosure of contingent assets and liabilities at the date of our financial statements and the reported amountsof revenue and expenses during the reporting period. Actual results may differ from those estimates.

 

Besidesestimates that meet the “critical” accounting estimate criteria, we make many other accounting estimates in preparingour financial statements and related disclosures. All estimates, whether or not deemed critical, affect reported amounts of assets,liabilities, revenue and expenses as well as disclosures of contingent assets and liabilities. Estimates are based on experienceand other information available prior to the issuance of the financial statements. Materially different results can occur as circumstanceschange and additional information becomes known, including for estimates that we do not deem “critical.”

 

AccountsReceivable and Credit Policies:

 

Accounts receivable-tradeconsists of amounts due from the sale of tethered aerostats, accessories, spare parts, and customization and refurbishment ofaerostats. Such accounts receivable are uncollateralized customer obligations due under normal trade terms requiring payment within30 days of receipt of the invoice. We provide an allowance for doubtful accounts equal to the estimated uncollectible amountsbased on historical collection experience and a review of the current status of trade accounts receivable. At June 30, 2019 andDecember 31, 2018, none of the Company’s accounts receivable-trade was deemed uncollectible.

 

RevenueRecognition and Unearned Revenue:

 

InMay 2014, the FASB issued Accounting Standards Update No. 2014-09 (Topic 606) “Revenue from Contracts with Customers.”Topic 606 supersedes the revenue recognition requirements in Topic 605 “Revenue Recognition” (Topic 605). The newstandard’s core principal is that an entity will recognize revenue at an amount that reflects the consideration to whichthe entity expects to be entitled in exchange for transferring good or services to a customer. The principals in the standardare applied in five steps: 1) Identify the contract(s) with a customer; 2) Identify the performance obligations in the contract;3) Determine the transaction price; 4) Allocate the transaction price to the performance obligations in the contract; and 5) Recognizerevenue when (or as) the entity satisfies a performance obligation. We adopted Topic 606 as of January 1, 2018 using the modifiedretrospective transition method. We recognized the cumulative effect of adopting this guidance as an adjustment to our openingbalance of retained earnings. Prior periods will not be retrospectively adjusted. The adoption of Topic 606 does not have a materialimpact to our consolidated financial statements, including the presentation of revenues in our Consolidated Statements of Operations,which were not broken down by revenue stream or geographic areas since the Company only sells within the United States and hasonly one revenue stream.

 

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Long-LivedAssets:

 

Weaccount for long-lived assets in accordance with the provisions of ASC 360-10-35, “Impairment or Disposal of Long-livedAssets.” This accounting standard requires that long-lived assets be reviewed for impairment whenever events or changesin circumstances indicate that the carrying amount may not be recoverable. Recoverability of assets to be held and used is measuredby a comparison of the carrying amount of an asset to future undiscounted net cash flows expected to be generated by the asset.If the carrying amount of an asset exceeds its estimated future cash flows, an impairment charge is recognized by the amount bywhich the carrying amount of the asset exceeds the fair value of the asset.

 

On July 20, 2015,we, through our wholly-owned subsidiary AFS, entered into an agreement to acquire exclusive commercial software licenses for the“GUST” (Georgia Tech UAV Simulation Tool) autopilot system from AFI. Through the purchase of the assets of AFI, weassumed the transferable licenses from the Georgia Tech Research Corporation, which include flight simulation tools and faulttolerant flight control algorithms. In addition, we acquired AFI’s dedicated flight computer and additional related hardwareand airframes. We paid $100,000 in immediately available funds and $100,000 were held in escrow. In addition, we issued 15,000(150,000 pre-reverse split) shares of unregistered common stock valued at $84.00 ($8.40 pre-reverse split) per share, on a post-reversesplit basis, on the closing date of the acquisition, to be held in escrow. We issued 5,000 (50,000 pre-reverse split) shares ofcommon stock to AFI in the second quarter of 2016 after all milestones had been met as a requirement of the terms of the acquisitionbecause the value of the escrowed shares fell below $1,400,000 and triggered a ‘make whole’ provision. The asset acquisitionwith AFI did not qualify as a business combination under ASC 805-10, “Business Combinations,” and has been accountedfor as a regular asset purchase.

 

Weaccount for goodwill and intangible assets in accordance with ASC 350,” Intangibles-Goodwill and Other.” ASC 350 requiresthat goodwill and other intangibles with indefinite lives be tested for impairment annually or on an interim basis if events orcircumstances indicate that the fair value of an asset has decreased below its carrying value.

 

DerivativeFinancial Instruments:

 

Weevaluate our financial instruments to determine if such instruments are derivatives or contain features that qualify as embeddedderivatives. For derivative financial instruments that are accounted for as liabilities, the derivative instrument is initiallyrecorded at its fair value and is then re-valued at each reporting date, with changes in the fair value reported in the statementsof operations. For stock-based derivative financial instruments, we use a Black-Scholes option pricing model, in accordance withASC 815-15, “Derivative and Hedging,” to value the derivative instruments at inception and on subsequent valuationdates. The classification of derivative instruments, including whether such instruments should be recorded as liabilities or asequity, is evaluated at the end of each reporting period. Derivative instrument liabilities are classified in the balance sheetas current or non-current based on whether or not net-cash settlement of the derivative instrument could be required within 12months of the balance sheet date.

 

EmployeeStock-Based Compensation:

 

Weaccount for stock-based compensation in accordance with ASC 718, “Compensation-Stock Compensation.” ASC 718 requirescompanies to measure the cost of employee services received in exchange for an award of equity instruments, including stock options,based on the grant-date fair value of the award and to recognize it as compensation expense over the period the employee is requiredto provide service in exchange for the award, usually the vesting period.

 

RecentlyIssued Accounting Pronouncements

 

EffectiveJanuary 1, 2019, the Company adopted ASU No. 2018-07, Compensation – Stock Based Compensation (Topic 718): Improvementsto Nonemployee Share-Based Payment Accounting (“ASU 2018-7”), which aligns accounting for share-based payments issuedto nonemployees to that of employees under the existing guidance of Topic 718, with certain exceptions. This update supersedesprevious guidance for equity-based payments to nonemployees under Subtopic 505-50, Equity – Equity-Based Payments to Non-Employees.The adoption of ASU 2018-07 did not have a material impact on the Company’s consolidated financial statements.

 

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In February 2016,the FASB issued ASU 2016-02, Leases, which will amend current lease accounting to require lessees to recognize (i) a lease liability,which is a lessee’s obligation to make lease payments arising from a lease, measured on a discounted basis, and (ii) a right-of-useasset, which is an asset that represents the lessee’s right to use, or control the use of, a specified asset for the leastterm. ASU 2016-02 does not significantly change lease accounting requirements applicable to lessors; however, certain changeswere made to align, where necessary, lessor accounting with the lessee accounting model. This standard is effective for fiscalyears beginning after December 15, 2018, including interim periods within those fiscal years. The adoption of ASU 2016-02 resultedin $116,876 and $72,887 initial recognition of ROU assets and lease liabilities as of January 1 and March 1, 2019, respectively.The ending balance of ROU assets and lease liabilities as of June 30, 2019 are $146,642 and $147,390, respectively.

 

Otherthan those pronouncements, management does not believe that there are any other recently issued, but not effective, accountingstandards which, if currently adopted, would have a material effect on the Company’s financial statements.

 

Resultsof Operations

 

Three Months Ended June 30, 2019compared to Three Months Ended June 30, 2018

 

Revenues:Revenues of $1,373,047 for the quarter ended June 30, 2019 increased $1,331,047, or 3,169%, from $42,000 for the same period in2018. Sources of revenue were derived primarily from the delivery of the first two WASP systems to a prime contractor and relatedservices. The revenue for the quarter ended June 30, 2018 was primarily a result of the delivery of additional aerostats to anexisting customer. We expect increased sales in future periods based on a product pipeline developed following our increased marketingefforts discussed in the Business Overview section above, including the order we announced in December 2018, valued in excessof $3.8 million, which is in production with deliveries expected to be completed by the end of 2019.

 

Cost of GoodsSold and Gross Profit: Cost of goods sold of $401,262 for the quarter ended June 30, 2019 increased $389,625, or 3,348%, from$11,637 for the same period in 2018. Costs included materials, parts, labor and overhead associated with the delivery of the firsttwo WASP systems to a prime contractor. The $971,785 gross profit for the quarter ended June 30, 2019 was an increase of $941,422,or 3,101%, from the $30,363 in gross profit for the same quarter of 2018. Overall gross profit margins were 71% and 72% for thequarters ended June 30, 2019 and 2018, respectively. Margins also vary based on customer payload selection; therefore, futuremargins may vary accordingly.

 

General andAdministrative Expense: General and administrative expense primarily consists of payroll and related costs, sales and marketingcosts, travel costs, business overhead and costs related to maintaining a public entity. General and administrative expense decreasedoverall by $143,443, or 14%, to $884,876 in the quarter ended June 30, 2019 from $1,028,319 for the same period in 2018. Contributingto the decrease was non-cash stock-based compensation of $25,807 which decreased $154,600 from $180,407 in the same period of2018. Payroll expenses of $341,555 decreased $80,267, travel expenses of $84,859 decreased $31,585 while legal and investor relationsexpenses of $158,384 increased $117,641 due to costs associated with preparing an S-1 public offering and the potential uplistingof the Company’s securities to a national exchange, compared to the same period in 2018. General and Administrative expensesare expected to increase as the Company grows the labor force to meet product demand. Sales and marketing and travel related expensesare also expected to increase during 2019 in support of increased product demand.

 

Income fromOperations: Income from operations of $86,909 for the quarter ended June 30, 2019 increased $1,084,865, or 109%, from lossfrom operations of $997,956 for the same period in 2018. The increase was primarily due to an increase in gross profit of $941,422and by the decrease of general and administrative expense of $143,453 as discussed above.

 

Other Expense:Total other expense of $33,095 for the quarter ended June 30, 2019 was $45,049 less than the total other expense of $78,144 inthe same period in 2018. This decrease was primarily due to interest expense on the related party notes payable which were settledin December 2018.

 

Net Income:Net income increased $1,129,914, or 105%, to $53,814 for the quarter ended June 30, 2019 from net loss of $1,076,100 for the sameperiod in 2018. The increase in net income was due to factors discussed above.

 

Six Months Ended June 30, 2019 comparedto Six Months Ended June 30, 2018

 

Revenues:Revenues of $1,380,497 for the six months ended June 30, 2019 increased $469,474, or 52%, from $911,023 for the same period in2018. Sources of revenue were derived primarily from the delivery of the first two WASP systems to a prime contractor and relatedservices. The revenue for the six months ended June 30, 2018 included delivery of a WASP system valued in excess of $800,000 tothe U.S. Army. We expect increased sales in future periods based on a product pipeline developed following our increased marketingefforts discussed in the Business Overview section above, including the order we announced in December 2018, valued in excessof $3.8 million, which is in production with deliveries expected to be completed by the end of 2019.

 

Cost of GoodsSold and Gross Profit: Cost of goods sold of $404,812 for the six months ended June 30, 2019 decreased $81,218, or 17%, from$486,030 for the same period in 2018. Costs included materials, parts, labor and overhead associated with the delivery of thefirst two WASP systems to a prime contractor. The $975,685 gross profit for the six months ended June 30, 2019 was an increaseof $550,692, or 130%, from the $424,993 in gross profit for the same period in 2018. Overall gross profit margins were 71% and47% for the six months ended June 30, 2019 and 2018, respectively. Margins also vary based on customer payload selection; therefore,future margins may vary accordingly.

 

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General andAdministrative Expense: General and administrative expense primarily consists of payroll and related costs, sales and marketingcosts, travel costs, business overhead and costs related to maintaining a public entity. General and administrative expense decreased$1,071,140, or 35%, to $1,959,788 for the six months ended June 30, 2019 from $3,030,928 for the same period in 2018. Contributingto the decrease was non-cash stock-based compensation of $114,012 which decreased $1,089,891 from $1,203,903 in the same periodof 2018. Payroll expenses of $771,114 decreased $144,187, travel expenses of $133,983 decreased $7,522 while legal and investorrelations expenses of $250,912 increased $138,913 due to costs associated with preparing an S-1 public offering and potentialuplisting of the Company’s securities to a national exchange, compared to the same period in 2018. General and Administrativeexpenses are expected to increase as the Company grows the labor force to meet product demand. Sales and marketing and travelrelated expenses are also expected to increase during 2019 in support of increased product demand. 

 

Loss from Operations:Loss from operations for the six months ended June 30, 2019 decreased $1,621,832, or 62%, to $984,103 from loss from operationsof $2,605,935 for the same period in 2018. The decrease was primarily due to an increase in gross profit of $550,692 and by thedecrease of general and administrative expense of $1,071,140 as discussed above.

 

Other Expense:Total other expense of $65,257 for the six months ended June 30, 2019 was $83,198 less than the total other expense of $148,455in the same period in 2018. This decrease was primarily due to interest expense on the related party notes payable which weresettled in December 2018.

 

Net Loss:Net loss decreased $1,705,030, or 62%, to $1,049,360 for the six months ended June 30, 2019 from net loss of $2,754,390 for thesame period in 2018. The decrease in net loss was due to factors discussed above.

 

YearEnded December 31, 2018 Compared to Year Ended December 31, 2017

 

TotalNet Revenues: Total net revenues increased $2,160,635, or 384%, to $2,722,713 in 2018 from $562,078 in 2017. Sources of revenuewere derived primarily from aerostat products and accessories ordered in 2018 and delivered in 2018. The reason for the increaseis that revenues in 2017 were primarily related to refurbishments and enhancements of aerostat systems and the revenues in 2018were primarily from the sale of two aerostat systems. We expect increased sales in future periods based on a product pipelinedeveloped following our increased marketing efforts discussed in Item 1. Business-Business Overview included elsewhere in thisreport.

 

Costof Goods Sold and Gross Profit: Cost of goods sold for 2018 increased $1,875,587, or 554%, from $338,579 in 2017 to $2,214,166in 2018, primarily consisting of materials, parts and labor associated with the sale of aerostat systems and FUSE tether systems.A total charge of approximately $565,000 was taken on inventory written off as slow moving. The Company is focusing exclusivelyon its aerostat products due to demand and determined that approximately $143,000 in FUSE tether system inventory, $204,000 payloadinventory, $186,000 powered drone inventory and $32,000 other inventory was unlikely to be monetized in the next twelve months.The $508,547 gross profit for 2018 was an increase of $285,048 or 128% from the $223,499 in gross profit for 2017. Gross profitmargins were 19% and 40% for 2018 and 2017, respectively. The gross profit margin in 2018 was negatively affected by the inventorywritten off by 20% as gross profit on revenue without regard to the write offs was 39%. Margins also vary based on customer payloadselection; therefore, future margins may vary accordingly.

 

Generaland Administrative Expenses: General and administrative (“G&A”) expenses primarily consist of payroll andrelated costs, sales and marketing costs, research and development costs, business overhead and costs related to maintaining apublic entity. G&A expense decreased by $1,430,477, or 14%, to $8,639,364 in 2018 from $10,069,841 in 2017. Contributing tothe decrease was non-cash stock-based compensation which decreased $1,856,201 or 28% in 2018 to $4,746,605 from $6,602,806 in2017. Research and development expenses decreased $244,753 or 70% to $107,015 in 2018 from $351,768 in 2017. This decrease wasanticipated as the Company is relying on past research and development to support its current products. Future research and developmentcosts are not expected to rise significantly. Marketing expense in 2018 was $185,284 which was a decrease of $128,900, or 41%,from marketing expense of $314,184 in 2017. During 2017, the Company conducted a thirty-day demonstration on the US/Mexican borderwhich caused an increase that year. Legal expense decreased $73,747 or 56% to $58,671 in 2018 from $132,418 in 2017. Legal defensecosts in the Banco matter decreased approximately $28,000 in 2018 and the Company saved approximately $40,000 on securities counselwhen it changed representation to another highly qualified firm. Payroll expense increased by $940,570 or 70% to $2,275,256 in2018 from $1,334,686 in 2017. Payroll increased approximately $84,000 due to bringing a contractor onto salary, $75,000 due tothe bonus effect of payroll taxes paid on the vesting of the September 2016 stock awards and $670,000 bonuses approved for milestoneachievements in 2018, $350,000 of which remain accrued at December 31, 2018 and salary adjustments.

 

Lossfrom Operations: Loss from operations for 2018 of $8,130,817 was a decrease of $1,715,525, or 17%, less than the loss fromoperations in 2017 of $9,846,342. The increase was primarily due to the increase in gross profit of $285,048 and by the decreasein general and administrative expense of $1,430,477 as discussed above.

 

OtherIncome and Expense: Total other expense of $344,496 in 2018 was $133,154, or 28%, less than the total other expense of $477,650in 2017. This decrease was primarily due to interest expense on bank and related party notes payable of $344,496 for 2018 whichwas $126,989 or 58% greater than the $217,507 interest expense for that debt in 2017 offset by $(260,143) combined effect of amortizationof discount to convertible note, accounting for derivative gain and debt extinguishment recognized in 2017.

 

NetLoss: Net loss of $8,475,313 in 2018 was $1,848,679, or 18%, less than the net loss in 2017 of $10,323,992 primarily due tothe factors discussed above.

 

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Therewas no provision for income taxes for the fiscal years ended 2018 and 2017 due to a valuation allowance of $2,968,891 and $2,250,939recorded for the years ended December 31, 2018 and 2017, respectively, on the total tax provision, because we believed that itis more likely than not that the tax asset will not be utilized during the next year.

 

Liquidityand Capital Resources

 

Liquidity is theability of an enterprise to generate adequate amounts of cash to meet its needs for cash requirements. As of June 30, 2019, theCompany had $675,772 in cash compared to $2,282,365 in cash at December 31, 2018, a decrease of $1,606,593. As of June 30, 2019,the Company had accounts receivable of $1,372,994 compared to $18,000 at December 31, 2018, an increase of $1,354,994 resultingfrom a sharp increase in revenue in June 2019.

 

The Company hadtotal current assets of $3,702,189 and total current liabilities of $2,494,221 or working capital of $1,207,968 at June 30, 2019compared to total current assets of $2,697,903 and total current liabilities of $2,485,024 or working capital of $212,879 at December31, 2018.

 

We have historicallyfinanced our operations through operating revenues and sales of equity and convertible debt securities. Although as of June 30,2019 we have cash of $675,772 and working capital of $1,207,968, we incurred a net loss of $1,049,360. Furthermore, the Companyhas a history of negative cash flow from operations, primarily due to historically heavy investment in research and developmentand costs associated with maintaining a public entity. We expect a substantial increase in revenues for the remainder of 2019.In 2018, the Company made a strategic decision to focus on its aerostats, WASP and WASP Lite, and opportunities for those productswith military and government customers, resulting in an order valued in excess of $3.7 million which was announced in December2018 and expected to be delivered by the end of 2019. To date in 2019, we have announced a $1.7 million follow on order to the$3.7 million order and a new order from the U.S. Army for $1.1 million. In December 2018 and January 2019, the Company raisedover $4,000,000 through stock sales which will provide ample working capital to produce WASP systems. In December 2018, the holdersof $5,000,000 in convertible notes exercised their rights to convert to equity leaving only $2,000,000 in bank debt on the books.As of June 30, 2019, the Company has $1,207,968 in positive working capital, an improvement of nearly $1,000,000 over the capitalbalance at the end of 2018.

 

As of the dateof this prospectus, we believe we have sufficient working capital, including cash on hand and accounts receivables, to continueour operations at the same level for the next 12 months. We may have to raise additional funds to effectuate all aspects of ourbusiness plan. We potentially will have to issue additional debt or equity or enter into a strategic arrangement with a thirdparty to carry out some aspects of our business plan or potentially curtail some aspects of our future operations. If we needto raise additional funds through the issuance of equity, equity-related or convertible debt securities in the future, these securitiesmay have rights, preferences or privileges senior to those of the rights of holders of our common stock. We cannot predict whetheradditional financing will be available to us on favorable terms when required, or at all. The issuance of additional common stockmay have the effect of further diluting the proportionate equity interest and voting power of holders of our common stock. Historically,we have financed our cash needs by private placements of our securities and loans, bank financing and revenues from sales of ourproducts. There is no assurance that we will be able to obtain financing on terms consistent with our past financings or satisfactoryto us, if at all.

 

Other than theCNB Line of Credit as discussed below, we currently have no agreements, arrangements or understandings with any person to obtainfunds through bank loans, lines of credit or any other sources. Consequently, our inability to raise funds to meet our expectedworking capital requirements will have a severe negative impact on our ability to remain a viable company. We are dependent uponour significant shareholders to provide or loan us funds to meet our working capital needs.

 

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RevolvingLine of Credit from City National Bank of Florida. On August 2, 2017, the Company issued a promissory note to CNB in the principalamount of $2,000,000 (the “CNB Note”) with a maturity date of August 2, 2018. On September 26, 2018, the Company and CNB agreed to extend the maturity date of the CNB Note toAugust 2, 2019. On August 29, 2019, the Company andCNB agreed to extend the maturity date of the promissory note to August 2, 2020. The Company evaluated the modification underthe Financial Accounting Standards Board’s (the “FASB”) Accounting Standards Codification (“ASC”)470-50 and determined that it did not qualify as an extinguishment of debt. The CNB Note evidences the CNB Line of Credit withadvances that may be requested by the Company until the maturity date of August 2, 2020 so long as no event of default existsunder the CNB Note, the Company or Jay H. Nussbaum or his estate, the Company’s former Chairman of the Board and Chief ExecutiveOfficer, does not cease doing business, Mr. Nussbaum or his estate does not seek to revoke or modify his guarantee of the CNBNote, the Company does not misapply the proceeds of this loan or CNB in good faith does not believe itself insecure. The initialCNB Note bore an interest rate at a variable rate equal to 0.250 percentage points over the Wall Street Journal Prime Rate payablemonthly. At renewal, the variable rate was modified to reflect the average of the interest rates per annum at which United StatesDollars are offered in the London Interbank Borrowing Market (“Libor”) for a 30-day period (the “Index”)plus 2.9 percentage points over the Index, or a total of 5.09% annual interest rate as of August 29, 2019. The Company will payto CNB a late charge of 5.0% of any monthly payment not received by CNB within 10 calendar days after its due date. The Companymay prepay the CNB Note at any time without penalty. In the event of a default, the interest rate will increase to the highestlawful rate. The Company is obligated to maintain depository accounts with CNB with a minimum average annual balance of $1,600,000in the aggregate with Mr. Nussbaum or his estate. In the event the Company does not maintain this account balance, CNB may chargethe Company a fee equal to 2% of the deficiency as additional interest under the CNB Note. The CNB Note is personally guaranteedby Mr. Nussbaum and his estate pursuant to a written guarantee in favor of CNB. Mr. Nussbaum and his estate and the Company areobligated to maintain an aggregate unencumbered liquidity of no less than $6,000,000 in the form of cash, repurchase agreements,certificates of deposit or marketable securities acceptable to CNB. In addition, to secure the Company’s obligations underthe CNB Note, the Company entered into a security agreement in favor of CNB encumbering all of the Company’s accounts, inventoryand equipment along with an assignment of a bank account the Company maintains at CNB with a balance of $120,000. As of June 30,2019, $2,000,000 has been drawn against the CNB Line of Credit. Accrued interest of $11,194 related to the CNB Line of Credithas been recorded as of June 30, 2019.

 

The accompanyingconsolidated financial statements and notes have been prepared assuming the Company will continue as a going concern. For thesix months ended June 30, 2019, the Company incurred a net loss of $1,049,360, generated negative cash flow from operations, hasan accumulated deficit of $39,521,450 and working capital of $1,207,968. 

 

Going Concern

 

For the year endedDecember 31, 2017, the Company disclosed that its ability to continue as a going concern was predicated on the Company’sability to create and market innovative products, raise capital, reduce debt or renegotiate terms, and to sustain adequate workingcapital to finance its operations. During 2018, the Company met or exceeded those predications. In 2018, the Company made a strategicdecision to focus on its aerostats, WASP and WASP Lite, and opportunities for those products with military and government customers,resulting in an order valued in excess of $3.8 million in gross revenues which was received in December 2018 and expected to bedelivered by the end of 2019. In December 2018 and January 2019, the Company raised over $4,000,000 through stock sales whichwill provide ample working capital to produce WASP systems. In December 2018, the holders of $5,000,000 in convertible notes exercisedtheir rights to convert to equity leaving only $2,000,000 in bank debt on the books. As of June 30, 2019, the Company has approximately$1,200,000 in working capital, an improvement of approximately $1,000,000 more than the Company’s working capitalbalance at the end of 2018. The Company announced its first-ever profitable financial results for the second quarter ended June30, 2019.

 

The focus on opportunitiesfor aerostats, the settlement of debt obligations, the funds generated from stock sales and other initiatives contributing toadditional working capital should avoid any substantial doubt about the Company’s ability to continue as a going concernas defined by FASB Accounting Standards Update 2014-05, Disclosure of Uncertainties about an Entity’s ability to Continueas a Going Concern. We believe that the actions discussed above mitigate the substantial doubt raised by our recent operatinglosses and satisfy our estimated liquidity needs twelve months from the issuance of the financial statements. In light of theforegoing, our auditor did not include a going concern qualification in their audit report dated March 22, 2019 for the yearsended December 31, 2018 and 2017 notwithstanding our historical operating losses and accumulated deficit. However, we cannot predict,with certainty, the outcome of our actions to generate liquidity and the failure to do so could negatively impact our future operations.

 

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Sources and Uses of Cash for theSix Months Ended June 30, 2019 and 2018

 

    Six Months Ended
June 30,
 
    2019     2018  
Cash flows used in operating activities   $ (3,465,878 )   $ (1,243,840 )
Cash flows (used in) provided by investing activities     (98,465 )     58,070  
Cash flows provided by financing activities     1,957,750       1,000,000  
Net decrease in cash and cash equivalents   $ (1,606,593 )   $ (185,770 )

 

OperatingActivities

 

Net cash used inoperating activities during the six months ended June 30, 2019 was $3,465,878, which was an increase of $2,222,038, or 179%, from$1,243,840 net cash used in operating activities for the same period in 2018. The net loss of $1,049,360 for the first six monthsof 2019 was $1,705,030 less than the same period of 2018, which was a net loss of $2,754,390. In addition to the decreased netloss, the Company recognized $1,089,891 less non-cash stock-based compensation in the first six months of 2019 than the same periodin the 2018. During the first six months of 2019, the Company’s accounts receivable increased by $1,354,994, inventory increasedby $1,151,740 and prepaid expenses increased by $104,145, primarily related to the production of WASP and WASP Lite systems thatare being delivered between June 2019 and the end of the year.

 

InvestingActivities

 

Net cash used ininvesting activities was $98,465 during the six months ended June 30, 2019 compared to $58,070 net cash provided by investingactivities during the six months ended June 30, 2018. During the six months ended June 30, 2019, the Company invested $19,305in computers for new hires. The Company also invested $59,660 in new shop equipment, $1,266 in office furnishings and $18,234in leasehold improvements, primarily in connection with the opening of a satellite location for aerostat manufacturing. 

 

FinancingActivities

 

Net cash providedby financing activities was $1,957,750 during the six months ended June 30, 2019 compared to $1,000,000 net cash provided by debtborrowing for the same period in 2018. The aggregate consideration consisted of (1) cash in the aggregate amount of $1,432,750,(2) a promissory note from a single non-affiliate investor in the aggregate principal amount of $500,000, (3) a full-recoursepromissory note payable by Daniyel Erdberg, the Company’s CEO and President, in the amount of $50,000, and (4) a full-recoursepromissory note payable by Kendall Carpenter, the Company’s Executive Vice President and Chief Financial Officer, in theamount of $25,000. Each note bears an interest rate at a fixed rate of 3% per annum and principal and interest under the notesmay be prepaid at any time without penalty. The non-affiliate note was fully repaid on February 8, 2019, including $575 in accruedinterest. Each of the Erdberg and Carpenter notes has a maturity date of January 25, 2020. The principal amount of the Carpenternote was reduced by $7,500 on January 28, 2019. On April 30, 2019, Kendall Carpenter repaid the remaining principal balance ofthe $17,500 note, including $134 in accrued interest. On April 30, 2019, Daniyel Erdberg entered into a Stock Redemption and NoteCancellation Agreement whereby the Company redeemed 10,000 (100,000 pre-reverse split) shares of common stock paid pursuant tothe note described above and cancelled the $50,000 note and the related $267 in accrued interest.

 

Sourcesand Uses of Cash for the Years Ended December 31, 2018 and 2017

 

   Years Ended Dec 31, 
   2018   2017 
         
Cash flows (used in) operating activities  $(2,387,731)  $(3,326,022)
Cash flows provided by (used in) investing activities   54,721    (73,817)
Cash flows provided by financing activities   4,000,000    2,000,000 
Net increase (decrease) in cash and cash equivalents  $1,666,990   $(1,399,839)

 

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OperatingActivities:

 

Netcash used in operating activities during 2018 was $2,387,731, which was a decrease of $938,291, or 28%, from $3,326,022 net cashused in operating activities during 2017. The net loss of $8,475,313 for 2018 was $1,848,679 less than the same period of 2017,which was $10,323,992. Inventory decreased $683,772 to $307,925 in 2018 primarily due to a write down of $565,406 for parts andfinished goods not expected to be monetized in the next twelve months. The Company recorded $4,746,605 in non-cash stock-basedcompensation expenses which was a decrease of $1,856,201 in 2018 from the previous year. The company recognized a non-cash gainon derivative liability of $1,831,635 offset by $1,409,790 amortization of debt discount expense and $681,988 loss on debt extinguishmentin 2017.

 

InvestingActivities:

 

Netcash provided by investing activities was $54,721 in 2018 compared to $73,817 net cash used in investing activities in 2017, apositive difference of $128,538. Net cash provided by investing activities for 2018 was comprised of $60,000 from the sale ofa vehicle partially offset in both periods by purchases of fixed assets that included shop machines and equipment, computers,electronics and furniture and equipment. The Company plans to invest in upgraded aerostat manufacturing equipment and leaseholdimprovements for newly leased space to accommodate expanded aerostat manufacturing in 2019.

 

FinancingActivities:

 

Financing activitiesduring 2018 included $1,000,000 proceeds from a bank line of credit, $1,000,000 proceeds from the related party Series 2017 SecuredConvertible Note and $100,000 proceeds from a short-term related party note which was subsequently repaid. In 2018, financingactivity included $2,000,000 proceeds from the sale of common stock.

 

Off-BalanceSheet Arrangements

 

Wedo not have any off-balance sheet arrangements that have had or are reasonably likely to have a current or future material effecton our financial condition, changes in financial condition, revenues, expenses, results of operations, liquidity, capital expendituresor capital resources.

 

DIRECTORSAND EXECUTIVE OFFICERS

 

Thefollowing table sets forth the names and ages of the members of our Board of Directors and our executive officers and the positionsheld by each. Our Board of Directors elects our executive officers annually by majority vote. Each director’s term continuesuntil his or her successor is elected or qualified at the next annual meeting, unless such director earlier resigns or is removed.

 

Name   Age   Positions and Offices
Daniyel Erdberg   41   Chief Executive Officer, President and Director
Kendall Carpenter   63   Executive Vice President, Chief Financial Officer, Secretary and Treasurer
Felicia Hess   52   Chief Quality Officer
Timothy Hoechst   53   Director and Chairman of the Compensation Committee
John E. Miller   78   Director and Chairman of the Audit Committee
David Aguilar   63   Director and Chairman of the Board

 

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Biographicalinformation concerning our directors and executive officers listed above is set forth below.

 

Daniyel Erdberg. Mr. Erdberg served as the Company’s Chief Operating Officer from June 2014 to October 2015 and President from October 2015 toSeptember 2019 when he also became Chief Executive Officer and a member of the Board of Directors. Mr. Erdberg has worked withour wholly-owned subsidiary, Lighter Than Air Systems (LTAS), for more than 7 years with a focus on advancing specialized tetheredaerial solutions. Mr. Erdberg successfully developed and implemented LTAS’s aerial surveillance solutions in various verticalmarkets of Government and commercial sectors including multiple Department of Defense (DoD), Department of Homeland Security (DHS)and commercial customers. Over the past 15 years, Mr. Erdberg has played instrumental roles in building public and private companiesinvolved in various technology sectors, including: software development, telecommunications, wireless networking and unmannedaerial systems. Mr. Erdberg graduated from Florida International University with a B.A. in International Business.

   

KendallW. Carpenter, CPA, CGMA, CMA. Ms. Carpenter joined MacroSolve in 2006 as Controller. She was promoted to Executive VicePresident and Chief Financial Officer in 2008 and transitioned to Drone Aviation in 2014. Ms. Carpenter is also the CorporateSecretary and Treasurer. Ms. Carpenter’s previous experience includes Division Controller with Allied Waste Industries,over 10 years of experience as the top financial officer of an enterprise software company with an international customer baseand over 8 years of public accounting experience. Ms. Carpenter graduated with a B.S. in Accounting from Oklahoma State Universityand has earned the professional designations of Certified Public Accountant, Chartered Global Management Accountant and CertifiedManagement Accountant.

 

FeliciaHess. Ms. Hess has served as our Chief Quality Officer since December 4, 2018. Prior to that time, she served as our ChiefOperating Officer since October 2, 2015. Mr. Hess was appointed Chief Executive Officer and one of our directors upon the closingof the Share Exchange on June 3, 2014. She resigned those positions on October 2, 2015 Ms. Hess founded and began serving as Presidentand a director of LTAS in 2009. Ms. Hess continued serving as President and a director of LTAS after it was sold in 2013 to WorldSurveillance Group Inc. (“WSGI”), a developer of lighter-than-air aerostats and unmanned aerial systems, and continuedserving as President and a director of LTAS after it was acquired from WSGI by Drone Aviation Corp. until Drone Aviation Corp.merged with and into us. Ms. Hess leverages her background in marketing, web site development and customer acquisition to furtherthe Company’s growth strategies. Ms. Hess graduated from the University of Virginia with a B.A. in Rhetoric and Communications.

 

TimothyHoechst. Mr. Hoechst was appointed to our Board of Directors on December 13, 2017 and agreed to serve as Chair of theCompensation Committee. Prior to his retirement in June 2016, Mr. Hoechst held the position of Chief Technology Officer at AccentureFederal Services (AFS), a leading IT solutions provider to the US government from March 2015 until June 2016. At AFS, he was responsiblefor identifying and introducing new technologies to help the government with challenging IT problems. From March 2007 until March2015, he served as Chief Technology Officer at Agilex Technologies, an IT consulting firm service the Department of Defense, HomelandSecurity and various government agencies. Agilex was acquired by AFS in 2015. From June 1997 until December 2006, Mr. Hoechstheld senior positions at Oracle Corporation, including serving as Senior Vice President of the Public Sector Division. Mr. Hoechsthas a B.A. in Computer Science from Harvard University. Mr. Hoechst’s government and management experience qualifies himto serve on the board of directors and its committees on which he serves.

 

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JohnE. Miller. Mr. Miller was appointed to our Board of Directors on December 13, 2017 and agreed to serve as Chair of theAudit Committee. From September 2007 to the present, General Miller has operated his own consulting practice providing operationaland technical assessments in support of fielding new military hardware and innovations for military training and education. FromJanuary 2005 until August 2007, he served as a Divisional President for L-3 Communication providing linguist, intelligence analystand technical support for deployed forces in 13 countries. From September 1997 to January 2005, LTG Miller was a regional VicePresident for Oracle Corporation’s Public Sector Division. Lieutenant General Miller (Retired) is a decorated combat veteranwho served in the US Army from 1963 to 1997. At the time of his retirement from active duty on September 1, 1997, he was servingas the Deputy Commanding General of the US Army Training and Doctrine Command (TRADOC) responsible for coordinating the implementationof the Army’s first digitized command and control system in a combat brigade. He also had multiple assignments at the USArmy Command and General Staff College where help positions from Tactics Instructor to Commandant. While Commandant, he was concurrentlyresponsible for 11 other Army Schools that provide tactical training and education for Commissioned and Non-Commissioned Officers.General Miller holds a B.S. in Mathematics from Missouri State University and an M.S. in Operations Research from Georgia Tech.He is a graduate of the Army Command and General Staff College and the Army War College. For these reasons, we believe GeneralMiller has the requisite set of skills and experience to serve as a valuable member of our Board of Directors and its committeeson which he serves.

 

DavidAguilar. Mr. Aguilar was appointed to our Board of Directors on January 9, 2017. On September 4, 2019, following the demiseof Jay Nussbaum, Mr. Aguilar was appointed Chairman of the Board. Since February 2013, Mr. Aguilar has been a principal at GlobalSecurity Innovation Strategies, LLC. In April 2010, Mr. Aguilar became Deputy Commissioner of U.S. Customs and Border Protection(“CBP”) and, from December 2011 until his retirement in February 2013, he served as acting Commissioner of CBP. FromJuly 2004 to January 2010, he served as Chief of the U.S. Border Patrol within the CBP. As Acting Commissioner of CBP, Mr. Aguilartook the helm of a workforce of 60,000 agents, officers, and other personnel with responsibility for strategic planning and oversightof an annual budget of nearly $12 billion. Mr. Aguilar is a recipient of the 2005 President’s Meritorious Excellence Award,and in 2008, was a recipient of the Presidential Rank Award. Prior to joining the CBP, Mr. Aguilar held a variety of operationaland administrative positions within the U.S. Board Patrol since entering duty in June 1978. Mr. Aguilar holds an Associate Degreein Accounting from Laredo Community College and attended Laredo State University and the University of Texas at Arlington. Heis a graduate of the Senior Executive Fellows program at Harvard University’s John F. Kennedy School of Government. Mr.Aguilar’s government and management experience qualifies him to serve on the board of directors.

  

Meetingsof the Board of Directors

 

During the sixmonths ended June 30, 2019, our Board of Directors held one meeting and approved certain actions by unanimous written consent.During the fiscal year ended December 31, 2018, our Board of Directors held three meetings and approved certain actions by unanimouswritten consent. We expect our directors to attend all meetings of the Board of Directors and the committees thereof on whichsuch directors serve and to spend the time needed to prepare for such meetings and meet as frequently as necessary to properlydischarge their responsibilities.

 

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BoardCommittees and Director Independence

  

Our common stockis presently quoted on the OTCQB under the symbol “DRNE”. Under the rules of the OTCQB, we are not required to maintaina majority of independent directors on our Board of Directors and we are not required to establish committees of the Board ofDirectors consisting of independent directors. However, we have applied to list our common stock and warrants on the Nasdaq CapitalMarket (“NASDAQ”). In order to list our securities on the NASDAQ, we are required to comply with the NASDAQ standardsrelating to corporate governance, requiring, among other things, that:

 

A majority of our Board of Directors to consist of “independent directors” as defined by the applicable rules and regulations of the NASDAQ;

 

The compensation of our executive officers to be determined, or recommended to the Board of Directors for determination, by independent directors constituting a majority of the independent directors of the Board in a vote in which only independent directors participate or by a Compensation Committee comprised solely of independent directors;

 

That director nominees to be selected, or recommended to the Board of Directors for selection, by independent directors constituting a majority of the independent directors of the Board in a vote in which only independent directors participate or by a nomination committee comprised solely of independent directors; and

 

Establishment of an audit committee with at least three independent directors as well as composed entirely of independent directors, where at least one of the independent directors qualifies as an audit committee financial expert under SEC rules and as a financially sophisticated audit committee member under the applicable Exchange rules.

 

Under applicableNASDAQ rules, a director will only qualify as an “independent director” if, in the opinion of the listed company’sboard of directors, that person does not have a relationship that would interfere with the exercise of independent judgment incarrying out the responsibilities of a director. In order to be considered independent for purposes of Rule 10A-3, a member ofan audit committee of a listed company may not, other than in his or her capacity as a member of the audit committee, the boardof directors, or any other board committee, accept, directly or indirectly, any consulting, advisory, or other compensatory feefrom the listed company or any of its subsidiaries or otherwise be an affiliated person of the listed company or any of its subsidiaries.Our Board of Directors has determined in its business judgment that General John Miller and Mr. Hoechst are independent withinthe meaning of the NASDAQ rules for U.S. Companies, the Sarbanes-Oxley Act and related SEC rules. The Company has commenced asearch for an additional director following Mr. Guerra’s resignation on September 4, 2019. Prior to the closing of the Offering,we expect to appoint the replacement director and that the replacement director to be independent and to serve on the Audit, Compensationand Nominating and Corporate Governance Committees. Thereafter, a majority of the members of our Board of Directors will be independent.

 

Inaddition, our Board of Directors has three standing committees: an Audit Committee, a Compensation Committee and Nominating andCorporate Governance Committee.

 

AuditCommittee

 

The Board of Directorshas adopted a written charter for the Audit Committee. Our Audit Committee is responsible for: (1) the integrity of our financialreporting process, systems of internal controls, and financial statements and reports; (2) the compliance by us with legal andregulatory requirements; and (3) the appointment, compensation and oversight of our independent auditor’s preparation andissuance of an audit report or related work. A more detailed description of our Audit Committee’s purposes and responsibilitiesis contained in its charter. The Audit Committee is currently comprised of Chairman General John Miller and Timothy Hoechst. Priorto the closing of the Offering, we expect to appoint the replacement director and that the replacement director to serve as amember of the Audit Committee. Following the appointment of the replacement director, our Board of Directors anticipates makingthe determination in its business judgment that all of the members of our Audit Committee will be independent within the meaningof the NASDAQ rules for U.S. Companies, the Sarbanes-Oxley Act and related SEC rules. Director Miller is an “audit committeefinancial expert” within the meaning of Item 407(d)(5)(ii) of Regulation S-K and NASDAQ Rule 5605(c)(2)(A). During the sixmonths ended June 30, 2019, our Audit Committee held one meeting independent of the Board of Directors. During the fiscal yearended December 31, 2018, our Audit Committee held one meeting independent of the Board of Directors.

 

CompensationCommittee

 

Our Board of Directorshas adopted a written charter setting forth the authority and responsibilities of the Compensation Committee. Our CompensationCommittee has responsibility for assisting the Board of Directors in, among other things, evaluating and making recommendationsregarding the compensation of our executive officers and directors, assuring that the executive officers are compensated effectivelyin a manner consistent with our stated compensation strategy, producing an annual report on executive compensation in accordancewith the rules and regulations promulgated by the SEC, periodically evaluating the terms and administration of our incentive plansand benefit programs, and monitoring of compliance with the legal prohibition on loans to our directors and executive officers.A more detailed description of our Compensation Committee’s purposes and responsibilities is contained in its charter. TheCompensation Committee is comprised of Chairman Timothy Hoechst and General John Miller. Prior to the closing of the Offering,we expect to appoint the replacement director and that the replacement director to serve as a member of the Compensation Committee.Following the appointment of the replacement director and member of this committee, our Board of Directors anticipates makingthe determination in its business judgment that a majority of our Compensation Committee will be independent within the meaningof the NASDAQ rules for U.S. Companies and SEC rules. During the six months ended June 30, 2019, our Compensation Committee heldone meeting. During the fiscal year ended December 31, 2018, our Compensation Committee held one meeting.

 

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Nominatingand Corporate Governance Committee

 

Our Board of Directorshas adopted a written charter setting forth the authority and responsibilities of the Nominating and Corporate Governance Committee.Our Nominating and Corporate Governance Committee has responsibility for assisting the Board of Directors in, among other things,identifying individuals qualified to become board members and recommending director, nominees and board members for committeemembership, developing and recommending to our board corporate governance guidelines, review and determine the compensation arrangementsfor directors, and overseeing the evaluation of our board of directors and its committees and management. The Nominating and CorporateGovernance Committee is comprised of Timothy Hoechst and General John Miller. Prior to the closing of the Offering, we expectto appoint the replacement director and that the replacement director to serve as a member and Chairman of the Nominating andCorporate Governance Committee. Following the appointment of the replacement director and member of this committee, our Boardof Directors anticipates making the determination in its business judgment that a majority of our Nominating and Corporate GovernanceCommittee will be independent within the meaning of the NASDAQ rules for U.S. Companies and SEC rules. The Nominating and CorporateGovernance Committee was recently formed on May 2, 2019 and, therefore, did not hold any meetings during the six months endedJune 30, 2019 or the fiscal year ended December 31, 2018.

 

BoardLeadership Structure and Role in Risk Oversight

 

David Aguilar isthe Chairman of the Board. The Chairman has authority, among other things, to preside over Board meetings and set the agenda forBoard meetings. Accordingly, the Chairman has substantial ability to shape the work of our Board. We currently believe that separationof the roles of Chairman (David Aguilar) and Chief Executive Officer (Daniyel Erdberg) ensures appropriate oversight by the Boardof our business and affairs. However, no single leadership model is right for all companies and at all times. The Board recognizesthat depending on the circumstances, other leadership models, such as the appointment of a lead independent director, might beappropriate. Accordingly, the Board may periodically review its leadership structure. In addition, following the completion ofthe offering, the Board will hold executive sessions in which only independent directors are present.

 

OurBoard of Directors is primarily responsible for overseeing our risk management processes. Our Board of Directors receives andreviews periodic reports from management, auditors, legal counsel, and others, as considered appropriate regarding our Company’sassessment of risks. The Board of Directors focuses on the most significant risks facing our Company and our Company’s generalrisk management strategy, and also ensures that risks undertaken by our Company are consistent with the Board’s appetitefor risk. While the Board oversees our Company, our Company’s management is responsible for day-to-day risk management processes.We believe this division of responsibilities is the most effective approach for addressing the risks facing our Company and thatour Board leadership structure supports this approach.

 

CompensationCommittee Interlocks and Insider Participation

 

Noneof the members of our Compensation Committee, at any time, has been one of our officers or employees. None of our executive officerscurrently serves, or in the past year has served, as a member of the Board of Directors or Compensation Committee of any entitythat has one or more executive officers on our Board of Directors or Compensation Committee. For a description of transactionsbetween us and members of our Compensation Committee and affiliates of such members, please see “Certain Relationships andRelated Party Transactions”.

 

Codeof Ethics

 

TheCompany has adopted a Code of Ethics and Business Conduct that applies to all of its directors, officers (including our principalexecutive officer, principal financial officer, principal accounting officer or controller, and any person performing similarfunctions) and employees. The Code of Ethics and Business Conduct is available on our website at ir.droneaviationcorp.com/governance-docs.

 

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EXECUTIVECOMPENSATION

 

The following tableprovides certain summary information concerning compensation awarded to, earned by or paid to our named executive officers duringthe fiscal years ended December 31, 2018 and 2017. Named executive officers includes our Chief Executive Officer and our two othermost highly compensated officers in the fiscal years ended December 31, 2018 and 2017.

 

Name and Principal Position   Year  

Salary

($)

   

Bonus

($)

   

Stock

Awards

($)(4)

   

Option

Awards

($)(5)

    All Other Compensation ($)    

Total

($)

 
Jay Nussbaum,   2018     245,000       225,000       315,000       848,017       29,096       1,662,113  
Former Chief Executive Officer and Chairman (1)   2017     128,000       0       0 (1)     2,380,417       0       2,508,417  
                                                     
Felicia Hess,   2018     150,833       25,000       302,050       347,904       22,744       848,531  
Chief Quality Officer (2)   2017     150,000       0       0 (2)     1,182,460       0       1,332,460  
                                                     
Daniyel Erdberg,   2018     165,833       175,000       232,750       347,904       17,525       939,012  

Chief Executive Officer,

President and Director (3)
  2017     156,250       0       0 (3)     1,035,378       3,500       1,195,128  

 

(1)

On August 31, 2019, Jay H. Nussbaum, the Company’s Chairman of the Board and Chief Executive Officerpassed away. For service as Chief Executive Officer in 2018, Mr. Nussbaum received one option award. On August 22, 2018, Mr. Nussbaum was awarded a Stock Option to purchase 195,000 (1,950,000 pre-reverse split) shares of the Company’s common stock with an exercise price of $10.00 ($1.00 pre-reverse split) per share and a performance vesting condition. One September 26, 2018, the August 22, 2018 Option was cancelled and reissued as 235,000 (2,350,000 pre-reverse split) shares with an exercise price of $6.50 ($0.65 pre-reverse split) per share. On December 27, 2018, the option became fully vested. The Company recognized $848,017 expense in 2018 on the September 26, 2018 Option award. Mr. Nussbaum received a bonus of $29,096 for taxes paid on his behalf on the March 28, 2018 vesting of 45,000 (450,000 pre-reverse split) shares of stock issued in September 2016 valued at $315,000 on the date vested. Mr. Nussbaum earned a 2018 year-end bonus of $225,000 of which $125,000 was paid in 2018 and the balance of $100,000 to be paid in 2019.

 

For service as Chief Executive Officer in 2017, Mr. Nussbaum received two option awards. The first award of 200,000 (2,000,000 pre-reverse split) option shares were immediately vested with a strike price of $10.00 ($1.00 pre-reverse split) and an expiration date of August 3, 2021 and valued at $1,284,925. The second award of 90,000 (900,000 pre-reverse split) option shares were immediately vested with a strike price of 13.50 ($1.35 pre-reverse split) and an expiration date of November 9, 2021 and valued at $830,734. On December 21, 2018 these two 2017 options were modified to an exercise price of $5.00 ($0.50 pre-reverse split) per share. The Company recognized an additional $164,156 and $100,602 expense in 2018 on these August 3 and November 9, 2017 option awards, respectively.

 

(2)

On December 4, 2018 Ms. Hess’s title changed to Chief Quality Officer.

 

For service as Chief Operating Officer and Chief Quality Officer in 2018, Ms. Hess received one option award. On August 22, 2018, Ms. Hess was awarded a Stock Option to purchase 80,000 (800,000 pre-reverse split) shares of the Company’s common stock with an exercise price of $10.00 ($1.00 pre-reverse split) per share and a performance vesting condition. One September 26, 2018, the August 22, 2018 Option was cancelled and reissued as 100,000 (1,000,000 pre-reverse split) shares with an exercise price of $6.50 ($0.65 pre-reverse split) per share. On December 27, 2018, the option became fully vested. The Company recognized $347,904 expense in 2018 on the September 26, 2018 Option award. Ms. Hess received a bonus of $22,744 for taxes paid on her behalf on the March 28, 2018 vesting of 43,150 (431,500 pre-reverse split) shares of stock issued in September 2016 valued at $302,050 on the date vested. Ms. Hess earned a 2018 year-end bonus of $25,000 of which $0 was paid in 2018 and the balance of $25,000 to be paid in 2019.

 

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  For service as Chief Operating Officer in 2017, Ms. Hess received two option awards. The first award of 120,000 (1,200,000 pre-reverse split) option shares were immediately vested with a strike price of $10.00 ($1.00 pre-reverse split) and an expiration date of August 3, 2021 and valued at $773,522. The second award of 30,000 (300,000 pre-reverse split) option shares were immediately vested with a strike price of $13.50 ($1.35 pre-reverse split) and an expiration date of November 9, 2021 and valued at $276,911. On December 21, 2018 these two 2017 options were modified to an exercise price of $5.00 ($0.50 pre-reverse split) per share. The Company recognized an additional $98,493 and $33,534 expense in 2018 on these August 3 and November 9, 2017 option awards, respectively.
   
(3)

On September 4, 2019, Mr. Erdberg was named Chief Executive Office and was appointed as a Director. For service as President in 2018, Mr. Erdberg received one option award. On August 22, 2018, Mr. Erdberg was awarded a Stock Option to purchase 80,000 (800,000 pre-reverse split) shares of the Company’s common stock with an exercise price of $10.00 ($1.00 pre-reverse split) per share and a performance vesting condition. One September 26, 2018, the August 22, 2018 Option was cancelled and reissued as 100,000 (1,000,000 pre-reverse split) shares with an exercise price of $6.50 ($0.65 pre-reverse split) per share. On December 27, 2018, the option became fully vested. The Company recognized $347,904 expense in 2018 on the September 26, 2018 Option award. Mr. Erdberg received a bonus of $17,525 for taxes paid on his behalf on the March 28, 2018 vesting of 33,250 (332,500 pre-reverse split) shares of stock issued in September 2016 valued at $232,750 on the date vested. Mr. Erdberg earned a 2018 year-end bonus of $175,000 of which $150,000 was paid in 2018 and the balance of $25,000 to be paid in 2019.

 

For service as President in 2017, Mr. Erdberg received two option awards. The first award of 114,000 (1,140,000 pre-reverse split) option shares were immediately vested with a strike price of $10.00 ($1.00 pre-reverse split) and an expiration date of August 3, 2021 and valued at $734,846. The second award of 20,000 (200,000 pre-reverse split) option shares were immediately vested with a strike price of $13.50 ($1.35 pre-reverse split) and an expiration date of November 9, 2021 and valued at $184,607. On December 21, 2018 these two 2017 options were modified to an exercise price of $5.00 ($0.50 pre-reverse split) per share. The Company recognized an additional $93,569 and $22,356 expense in 2018 on these August 3 and November 9, 2017 option awards, respectively.

 

(4) Amounts shown in the “Stock Awards” column reflect the aggregate grant date fair value calculated in accordance with FASB ASC 718 for the respective fiscal year with respect to shares of restricted stock and immediately vested shares granted to our named executive officers. Amounts reflect our accounting for these awards and do not necessarily correspond to the actual values that may be realized by our named executive officers. The grant date fair values of shares of restricted stock and immediately vested shares were determined as of the grant date using the closing bid price of our common stock on the grant date. The assumptions used for the valuations are set forth in Note 9 – Shareholder Equity in the Notes to the December 31, 2018 audited financial statements. Pursuant to SEC rules, we disregarded the estimates of forfeitures related to service-based vesting conditions. See the Outstanding Equity Awards at Fiscal Year-End Table in this Annual Report and related notes for information with respect to equity awards made prior to fiscal 2017.
   
(5) Amounts shown in the “Option Awards” column reflect the aggregate grant date fair value calculated in accordance with FASB ASC 718 for the respective fiscal year with respect to stock options granted to our named executive officers.  Amounts reflect our accounting for these option grants and do not necessarily correspond to the actual values that may be realized by our named executive officers.  The grant date fair values of these option grants were calculated at the grant date using the Black-Scholes-Merton option-pricing model.  The assumptions used for the valuations are set forth in Note 11Employee Stock Options in the notes to 2018 audited financial statements.  Pursuant to SEC rules, we disregarded the estimates of forfeitures related to service-based vesting conditions.  See the Outstanding Equity Awards at Fiscal Year-End Table in this prospectus and related notes for information with respect to stock options granted prior to fiscal 2017.  

 

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EmploymentContracts and Potential Payments Upon Termination or Change in Control

 

Exceptas set forth below, we currently have no written employment agreements with any of our officers, directors, or key employees.

 

Jay NussbaumEmployment Agreement. On April 27, 2016, we entered into an Employment Agreement with Jay Nussbaum (as amended, the “NussbaumEmployment Agreement”), whereby Mr. Nussbaum agreed to serve as our Chief Executive Officer and a director (with such serviceas a director subject to the terms of a Director Agreement, dated June 1, 2015) for a period of two (2) years and twenty-two (22)days, subject to renewal for successive one year terms, in consideration of an annual salary of $1 base salary. The Nussbaum EmploymentAgreement was subsequently amended to extend the term of Mr. Nussbaum’s employment to December 31, 2018. On December 4,2018, the Nussbaum Employment Agreement was amended to reflect an increase in Mr. Nussbaum’s base salary to $300,000 andto extend his term of employment to December 31, 2019. Additionally, Mr. Nussbaum is eligible for an annual cash bonus in an amountequal to up to one hundred fifty percent (150%) of his then-current base salary if we meet or exceed criteria adopted by the CompensationCommittee of the Board of Directors. Mr. Nussbaum shall also be eligible for grants of awards under stock option or other equityincentive plans of our Company as our Compensation Committee may from time to time determine and shall be entitled to participatein all benefits plans we provide to our senior executives. We shall reimburse Mr. Nussbaum for all reasonable out-of-pocket expensesactually incurred or paid by Mr. Nussbaum in the course of his employment. In the event Mr. Nussbaum’s employment is terminatedwithout Cause or by Mr. Nussbaum with Good Reason (as such terms, including death, are defined in the Nussbaum Employment Agreement),then in addition to receiving accrued but unpaid compensation and vacation pay through the end of the term of employment, benefitsaccrued and outstanding under benefit plans, and the reimbursement of documented, unreimbursed expenses prior to the date of termination,Mr. Nussbaum will be entitled to receive severance benefits equal to six months of his then-current base salary, continued coverageunder our benefit plans for a period of twelve months and payment of his pro-rated earned annual bonus. Mr. Nussbaum has alsoagreed to non-competition and non-solicitation provisions effective during his term of employment and for one year thereafter.Mr. Nussbaum passed away on August 31, 2019.

 

Felicia HessEmployment Agreement. On May 18, 2015, we entered into an employment agreement with Felicia Hess (as amended, the “F.Hess Employment Agreement”), whereby Ms. Hess agreed to serve as our Chief Executive Officer and director for a period oftwo (2) years, subject to renewal for successive one-year terms, in consideration for an annual salary of $150,000. On October2, 2015, Ms. Hess resigned as Chief Executive Officer and as a director, and the F. Hess Employment Agreement was amended to reflectMs. Hess’s appointment as Chief Operating Officer. The F. Hess Employment Agreement was subsequently amended to extend theterm of Ms. Hess’s employment to December 31, 2018. On December 4, 2018, the F. Hess Employment Agreement was amended toreflect an increase in Ms. Hess’ base salary to $160,000 and to extend her term of employment to December 31, 2019. Ms.Hess title was also changed to Chief Quality Officer. Under the F. Hess Employment Agreement, Ms. Hess is eligible for an annualcash bonus in an amount equal to up to one hundred fifty percent (150%) of her then-current base salary if we meet or exceed criteriaadopted by the Compensation Committee of the Board of Directors. Ms. Hess shall also be eligible for grants of awards under stockoption or other equity incentive plans of our Company as our Compensation Committee may from time to time determine and shallbe entitled to participate in all benefits plans we provide to our senior executives. We shall reimburse Ms. Hess for all reasonableout-of-pocket expenses actually incurred or paid in the course of her employment. In the event Ms. Hess’ employment is terminatedwithout Cause or by Ms. Hess with Good Reason (as such terms are defined in the F. Hess Employment Agreement), then in additionto receiving accrued but unpaid compensation and vacation pay through the end of the term of employment, benefits accrued andoutstanding under benefit plans, and the reimbursement of documented, unreimbursed expenses prior to the date of termination,Ms. Hess shall be entitled to receive severance benefits equal to six months of her then-current base salary, continued coverageunder our benefit plans for a period of twelve months, payment of her pro-rated earned annual bonus, and the vesting of all unvestedoptions or restricted stock awards will be accelerated. Ms. Hess has also agreed to non-competition and non-solicitation provisionsduring her term of employment and for one year thereafter.

 

Daniyel ErdbergEmployment Agreement. On May 18, 2015, we entered into an employment agreement with Daniyel Erdberg (as amended, the “ErdbergEmployment Agreement”), whereby Mr. Erdberg agreed to serve as our Chief Operating Officer for a period of two (2) years,subject to renewal for successive one-year terms, in consideration for an annual salary of $140,000. On October 2, 2015, Mr. Erdbergresigned as Chief Operating Officer, and the Erdberg Employment Agreement was amended to reflect his appointment as Presidentof the Company. The Erdberg Employment Agreement was subsequently further amended to increase Mr. Erdberg’s base salaryto $150,000 and to extend his term of employment to December 31, 2018. On August 3, 2017, the Erdberg Employment Agreement wasamended to reflect an increase in Mr. Erdberg’s base salary to $165,000. On December 4, 2018, the Erdberg Employment Agreementwas amended to reflect an increase in Mr. Erdberg’s base salary to $175,000 and to extend his term of employment to December31, 2019. On September 4, 2019, the Erdberg Employment Agreement was amended to reflect his appointment as Chief Executive Officerand Director and an increase in his base salary to $250,000 and to extend the term of his employment to December 31, 2020. Underthe Erdberg Employment Agreement, Mr. Erdberg is eligible for an annual cash bonus in an amount equal to up to one hundred fiftypercent (150%) of his then-current base salary if we meet or exceed criteria adopted by the Compensation Committee of the Boardof Directors. Mr. Erdberg shall also be eligible for grants of awards under stock option or other equity incentive plans of ourCompany as the Compensation Committee may from time to time determine and shall be entitled to participate in all benefits planswe provide to our executives. We shall reimburse Mr. Erdberg for all reasonable out-of-pocket expenses actually incurred or paidin the course of his employment. In the event Mr. Erdberg’s employment is terminated without Cause or by Mr. Erdberg withGood Reason (as such terms are defined in the Erdberg Employment Agreement), then in addition to receiving accrued but unpaidcompensation and vacation pay through the end of the term of employment, benefits accrued and outstanding under benefit plans,and the reimbursement of documented, unreimbursed expenses prior to the date of termination, Mr. Erdberg shall be entitled toreceive severance benefits equal to six months of his then-current base salary, continued coverage under our benefit plans fora period of twelve months after his termination date and payment of his pro-rated earned annual bonus. Mr. Erdberg has also agreedto non-competition and non-solicitation provisions during the term of his employment and for one year thereafter.

 

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2015Equity Incentive Plan

 

TheBoard of Directors and shareholders holding a majority of the Company’s voting capital approved and adopted the 2015 EquityIncentive Plan (the “2015 Plan”) on September 4, 2015 and October 1, 2015, respectively. The2015 Plan authorizes the issuance of up to an aggregate maximum of 1,000,000 (10,000,000 pre-reverse split) shares of the commonstock, subject to adjustment as described in the 2015 Plan. The 2015 Plan shall be administered by the Board or one ormore committees appointed by the Board or another committee (“Administrator”).The Administrator, in its discretion, selects the individuals to whom awards may be granted, the time or times at which such awardsare granted, and the terms of such awards. The 2015 Plan authorizes the Company to grant stock options, stock appreciation rights,restricted shares, restricted share unit, cash awards, other awards, and performance-based awards. Awards may be granted to theCompany’s officers, employees, directors and consultants.

 

Thepurpose of 2015 Plan is to promote the success of the Company and to increase stockholder value by providing an additional meansthrough the grant of awards to attract, motivate, retain and reward selected employees and other eligible persons. The Board may,at any time, terminate or, from time to time, amend, modify or suspend this 2015 Plan, in whole or in part. To the extent thenrequired by applicable law or any applicable stock exchange or required under the Internal Revenue Code to preserve the intendedtax consequences of the 2015 Plan, or deemed necessary or advisable by the Board, the 2015 Plan and any amendment to the 2015Plan shall be subject to stockholder approval. Unless earlier terminated by the Board, the 2015 Plan will terminate ten yearsfrom the date of adoption.

 

OutstandingEquity Awards at Fiscal Year-End

 

Thefollowing table sets forth outstanding equity awards to our named executive officers as of December 31, 2018.

 

                Pre-
Reverse Split Option awards
 
Name   Post Reverse Split Number of securities underlying unexercised options (#) exercisable     Post Reverse Split Option
exercise
price
($)
    Number of securities underlying unexercised options (#) exercisable     Option
exercise
price
($)
    Option
expiration
date
(a)   (b)     (e)     (b)     (e)     (f)
Jay Nussbaum                                    
Option Grant     200,000       5.00       2,000,000       0.50     8/3/2021
Option Grant     90,000       5.00       900,000       0.50     11/9/2021
Option Grant     235,000       6.50       2,350,000       0.65     9/26/2022
                                     
Kendall Carpenter                                    
Option Grant     27,500       5.00       275,000       0.50     8/3/2021
Option Grant     17,000       5.00       170,000       0.50     11/9/2021
Option Grant     13,000       10.00       130,000       1.00     5/16/2022
Option Grant     30,000       6.50       300,000       0.65     9/26/2022
                                     
Felicia Hess                                    
Option Grant     120,000       5.00       1,200,000       0.50     8/3/2012
Option Grant     30,000       5.00       300,000       0.50     11/9/2021
Option Grant     100,000       6.50       1,000,000       0.65     9/26/2022
                                     
Daniyel Erdberg                                    
Option Grant     114,000       5.00       1,140,000       0.50     8/3/2012
Option Grant     20,000       5.00       200,000       0.50     11/9/2021
Option Grant     100,000       6.50       1,000,000       0.65     9/26/2022

 

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DirectorCompensation

 

Eachof our non-employee directors receives an annual cash retainer that ranges between $24,000 and $36,000. We reimburse our non-employeedirectors for reasonable travel expenses incurred in attending board and committee meetings. Our non-employee directors also participatein our equity compensation plans.

 

2018Director Compensation Table

 

Thefollowing table sets forth director compensation for the fiscal year ended December 31, 2018 (excluding compensation to the Company’sexecutive officers set forth in the summary compensation table below).

 

Name 

Fees

Earned
or Paid
in Cash

   Stock Awards(1)   Total
($)
 
Robert Guerra(2)  $20,500   $32,611   $53,111 
David Aguilar(3)  $26,500   $120,073   $146,573 
Timothy Hoechst(4)  $26,500   $46,096   $72,596 
LTG John E. Miller (Ret.)(5)  $38,500   $46,009   $84,509 
                
Total:  $112,000   $244,786   $356,789 

 

(1)The amounts reflected for Stock Awards in the table above represent the dollar amount recognized for financial statement reporting purposes with respect to the fair value of securities granted in accordance with SFAS 123R. Pursuant to SEC rules, the amounts shown exclude the impact of estimated forfeitures related to service-based vesting conditions. These amounts reflect our accounting expense for these awards, and do not correspond to the actual value that may be realized upon exercise.

 

(2)

Mr. Guerra was appointed on March 28, 2018 for a term of two years and, pursuant to the terms of a Director Agreement, will be paid an annual fee of $24,000 and was awarded Stock Options (the “Director Options”) to purchase 10,000 (100,000 pre-reverse split) shares of the Company’s common stock with an exercise price of $10.00 ($1.00 pre-reverse split) per share valued at $38,393 on the date of the award, with $21,739 expense recognized in 2018 and $16,54 expense to be recognized. The Director Options vest as follows: 5,000 (50,000 pre-reverse split) shares one year after the date of appointment so long as he is a member of the Board and 5,000 (50,000 pre-reverse split) shares two years after the date of appointment so long as he is a member of the Board. Mr. Guerra’s appointment will terminate, however, upon his resignation, removal or failure to be appointed or re-appointed by the Company’s shareholders as a director of the Company as provided for in its bylaws or as provided for under Nevada law, or upon request of the Company’s Chief Executive Officer. Mr. Guerra voluntarily resigned effective September 4, 2019 resulting in the forfeiture of 5,000 (50,000 pre-reverse split) unvested options. The 5,000 (50,000 pre-reverse split) vested but unexercised options expired on October 4, 2019.

 

On August 22, 2018, Mr. Guerra was awarded a Stock Option to purchase 2,500 (25,000 pre-reverse split) shares of the Company’s common stock with an exercise price of $10.00 ($1.00 pre-reverse split) per share and a performance vesting condition. On September 26, 2018, the August 22, 2018 Option was cancelled and reissued with an exercise price of $6.50 ($0.65 pre-reverse split) per share. On December 27, 2018, the option became fully vested. The Company recognized $10,872 expense in 2018 on the September 26, 2018 Option award. The vested but unexercised option expired on October 4, 2019.

 

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(3)

Mr. Aguilar was appointed on January 9, 2017 for a term of two years and, pursuant to the terms of a Director Agreement with Global Security Innovative Strategies, LLC (“GSIS”), will be paid an annual fee of $24,000 and was awarded Stock Options (the “Director Options”) to purchase 10,000 (100,000 pre-reverse split) shares of the Company’s common stock with an exercise price of $29.00 ($2.90 pre-reverse split) per share. Mr. Aguilar has been reappointed for another two-year term through January 9, 2021 at the same annual fee of $24,000. On September 4, 2019, Mr. Aguilar was named Chairman of the Board and his Director Agreement was amended to reflect an annual fee of $120,000. The Company recognized $45,516 expense in 2018 related to the Director Options. The Director Options vest as follows: 5,000 (50,000 pre-reverse split) shares one year after the date of appointment so long as he is a member of the Board and 5,000 (50,000 pre-reverse split) shares two years after the date of appointment so long as he is a member of the Board. The Director Options became fully vested on January 2, 2019.

 

On August 22, 2018, Mr. Aguilar was awarded a Stock Option to purchase 15,000 (150,000 pre-reverse split) shares of the Company’s common stock with an exercise price of $10.00 ($1.00 pre-reverse split) per share and a performance vesting condition. One September 26, 2018, the August 22, 2018 Option was cancelled and reissued with an exercise price of $6.50 ($0.65 pre-reverse split) per share. On December 27, 2018, the option became fully vested. The Company recognized $65,232 expense in 2018 on the September 26, 2018 Option award.

 

  On August 3, 2017, Mr. Aguilar was awarded a Stock Option to purchase 10,000 (100,000 pre-reverse split) shares of the Company’s common stock with an exercise price of $10.00 ($1.00 pre-reverse split) per share and immediate vesting. On November 9, 2017, Mr. Aguilar was awarded a Stock Option to purchase 1,000 (10,000 pre-reverse split) shares of the Company’s common stock with an exercise price of $10.00 ($1.00 pre-reverse split) per share and immediate vesting. On December 21, 2018 these two options were modified to an exercise price of $5.00 ($0.50 pre-reverse split) per share. The Company recognized an additional $8,208 and $1,117 expense in 2018 on these August 3 and November 9, 2017 option awards, respectively.

 

(4)

Mr. Hoechst was appointed on December 13, 2017 for a term of two years and, pursuant to the terms of a Director Agreement, will be paid an annual fee of $24,000 and was awarded Stock Options (the “Director Options”) to purchase 10,000 (100,000 pre-reverse split) shares of the Company’s common stock with an exercise price of $10.00 ($1.00 pre-reverse split) per share valued at $49,733 on the date of award. The Company recognized $35,224 expense in 2018 with $12,778 expense to be recognized The Director Options vest as follows: 5,000 (50,000 pre-reverse split) shares one year after the date of appointment so long as he is a member of the Board and 5,000 (50,000 pre-reverse split) shares two years after the date of appointment so long as he is a member of the Board. Mr. Hoechst’s appointment will terminate, however, upon his resignation, removal or failure to be appointed or re-appointed by the Company’s shareholders as a director of the Company as provided for in its bylaws or as provided for under Nevada law, or upon request of the Company’s Chief Executive Officer.

 

On August 22, 2018, Mr. Hoechst was awarded a Stock Option to purchase 2,500 (25,000 pre-reverse split) shares of the Company’s common stock with an exercise price of $10.00 ($1.00 pre-reverse split) per share and a performance vesting condition. One September 26, 2018, the August 22, 2018 Option was cancelled and reissued with an exercise price of $6.50 ($0.65 pre-reverse split) per share. On December 27, 2018, the option became fully vested. The Company recognized $10,872 expense in 2018 on the September 26, 2018 Option award.

 

(5)

Mr. Miller was appointed on December 13, 2017 for a term of two years and, pursuant to the terms of a Director Agreement, will be paid an annual fee of $36,000 and was awarded Stock Options (the “Director Options”) to purchase 10,000 (100,000 pre-reverse split) shares of the Company’s common stock with an exercise price of $10.00 ($1.00 pre-reverse split) per share valued at $49,699 on the date of award. The Company recognized $35,137 expense in 2018 with $12,770 expense to be recognized. The Director Options vest as follows: 5,000 (50,000 pre-reverse split) shares one year after the date of appointment so long as he is a member of the Board and 5,000 (50,000 pre-reverse split) shares two years after the date of appointment so long as he is a member of the Board. Mr. Miller’s appointment will terminate, however, upon his resignation, removal or failure to be appointed or re-appointed by the Company’s shareholders as a director of the Company as provided for in its bylaws or as provided for under Nevada law, or upon request of the Company’s Chief Executive Officer.

 

On August 22, 2018, Mr. Miller was awarded a Stock Option to purchase 2,500 (25,000 pre-reverse split) shares of the Company’s common stock with an exercise price of $10.00 ($1.00 pre-reverse split) per share and a performance vesting condition. One September 26, 2018, the August 22, 2018 Option was cancelled and reissued with an exercise price of $6.50 ($0.65 pre-reverse split) per share. On December 27, 2018, the option became fully vested. The Company recognized $10,872 expense in 2018 on the September 26, 2018 Option award. 

 

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CERTAINRELATIONSHIPS AND RELATED PARTY TRANSACTIONS

 

UnderItem 404 of SEC Regulation S-K, a related person transaction is any actual or proposed transaction, arrangement or relationshipor series of similar transactions, arrangements or relationships, including those involving indebtedness not in the ordinary courseof business, to which we or our subsidiaries were or are a party, or in which we or our subsidiaries were or are a participant,in which the amount involved exceeded or exceeds the lesser of $120,000 or one percent of the average of our total assets at year-endfor the last two completed fiscal years and in which any of our directors, nominees for director, executive officers, beneficialowners of more than 5% of any class of our voting securities (a “significant shareholder”), or any member of the immediatefamily of any of the foregoing persons, had or will have a direct or indirect material interest.

 

Werecognize that transactions between us and any of our directors or executives or with a third party in which one of our officers,directors or significant shareholders has an interest can present potential or actual conflicts of interest and create the appearancethat our decisions are based on considerations other than the best interests of our Company and stockholders.

 

TheAudit Committee of the Board of Directors is charged with responsibility for reviewing, approving and overseeing any transactionbetween the Company and any related person (as defined in Item 404 of Regulation S-K), including the propriety and ethical implicationsof any such transactions, as reported or disclosed to the Audit Committee by the independent auditors, employees, officers, membersof the Board of Directors or otherwise, and to determine whether the terms of the transaction are not less favorable to us thancould be obtained from an unaffiliated party. 

 

From time to timewe engage in transactions with related parties. The following is a summary of the related party transactions during the six monthsended June 30, 2019 and the fiscal years ended December 31, 2018 and 2017 requiring disclosure pursuant to Item 404 of RegulationS-K.

 

Series2016 Convertible Notes

 

On September 29,2016, the Company issued Convertible Promissory Notes Series 2016 due October 1, 2017 in the aggregate principal amount of $3,000,000in a private placement to the former Chairman of the Board and the Chairman of the Strategic Advisory Board of the Company, bothof whom are greater than 10% shareholders of the Company. The notes bear interest at a rate of six percent (6%) per annum. TheCompany may prepay the notes at any time without penalty.

 

OnAugust 3, 2017, the Company entered into amendments with the owners and holders of the Series 2016 Convertible Notes to extendthe maturity date for each of the notes to April 1, 2019 and revise the conversion price to mean $10.00 ($1.00 pre-reverse split)per share subject to proportional adjustment in the event of stock splits, stock dividends and similar corporate events.

 

OnDecember 21, 2018, the Company entered into amendments with the owners and holders of the Series 2016 Convertible Notes to reducethe conversion price under such notes to $5.00 ($0.50 pre-reverse split) per share in exchange for the holders of such convertiblenotes agreement to convert the principal amount and accrued interest under such notes concurrently with the execution of the amendment.The Company issued 317,742 (3,177,411 pre-reverse split) shares of common stock to Frost Gamma in full settlement of the $1,500,000principal balance and $88,705 accrued interest. The Company issued 300,000 (3,000,000 pre-reverse split) shares of common stockto Jay Nussbaum in full settlement of the $1,500,000 principal balance and settled $88,212 accrued interest in cash.

 

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Series2017 Convertible Note

 

OnAugust 3, 2017, the Company issued a Secured Convertible Promissory Note Series 2017 due August 2, 2018 in the aggregate principalamount of $2,000,000 (the “Series 2017 Convertible Note”) in a private placement to Frost Nevada Investments Trust(“Frost Nevada”). Frost Nevada is a trust that is controlled by Dr. Frost, a substantial shareholder of the Company.The note evidences a revolving line of credit with advances that may be requested by the Company until the maturity date of August2, 2018 so long as no event of default exists under the loan. As of December 31, 2017, we have borrowed a total of $1,000,000under the Series 2017 Secured Convertible Note leaving availability of $1,000,000 under such note. Accrued interest of $5,625has been recognized as of December 31, 2017.

 

During2018, the Company borrowed an additional $1,000,000 on the Series 2017 Convertible Note bringing the total amount of principalto $2,000,000. On December 21, 2018, the Company entered into an amendment with Frost Nevada to reduce the conversion price undersuch notes to $5.00 ($0.50 pre-reverse split) per share in exchange for Frost Nevada’s agreement to convert the principalamount and accrued interest under such notes concurrently with the execution of the amendment. The Company issued 403,074 (4,030,740pre-reverse split) shares of common stock to Frost Nevada in full settlement of the $2,000,000 principal balance and $15,370 accruedinterest.

 

GlobalSecurity Innovative Strategies, LLC

 

On November 10,2017, the Company and Global Security Innovative Strategies, LLC (“GSIS”), a related party, entered in an agreementwhereby GSIS will provide business development support and general consulting services for sales opportunities with U.S. governmentagencies and other identified prospects. The agreement is for a period of six months beginning on November 1, 2017. The Companyagreed to pay GSIS a fee of $10,000 per month and will evaluate the fee after 90 days. On September 26, 2018, the parties amendedthe agreement to extend the period of service through September 2019 with monthly auto renew extensions thereafter. The Companyalso agreed to issue 10,000 (100,000 pre-reverse split) options to purchase Company stock which were immediately vested, had astrike price of $10.00 ($1.00 pre-reverse split) and terminate on September 26, 2022. The Company agreed to pay the expenses ofGSIS incurred in connection with the performance of its duties under the agreement. Either party may terminate or renew the agreementat any time, for any reason or no reason, upon at least 30 days’ notice to the other party. David Aguilar, Chairman of theCompany’s board of directors, is a principal at GSIS.

 

2018Common Stock Issuance

 

On December 27,2018, the Company completed the sale of 400,000 (4,000,000 pre-reverse split) shares of its common stock pursuant to the AmendedSPA at $5.00 ($0.50 pre-reverse split) per share for an aggregate of $2,000,000, of which 100,000 shares (1,000,000 pre-reversesplit) shares were issued to Jay Nussbaum, the Company’s former Chief Executive Officer and Chairman of the Board of Directors,and 300,000 (3,000,000 pre-reverse split) shares were issued to Frost Gamma Investment Trust, of which Dr. Phillip Frost, a substantialshareholder of the Company, is the trustee.

 

2019Common Stock Issuance

 

On January 25,2019, the Company completed the sale of 401,550 (4,015,500 pre-reverse split) shares of its common stock pursuant to the AmendedSPA at $5.00 ($0.50 pre-reverse split) per share for an aggregate of $2,007,750. The aggregate consideration consisted of (1)cash in the aggregate amount of $1,432,750, (2) a promissory note from a single non-affiliate investor in the aggregate principalamount of $500,000, which was repaid on February 8, 2019 including $575 in accrued interest, (3) a full-recourse promissory notepayable with a maturity date of January 25, 2020 by Dan Erdberg, the Company’s CEO and President, in the amount of $50,000which was cancelled on April 30, 2019 pursuant to Stock Redemption and Note Cancellation Agreements, and (4) a full-recourse promissorynote payable by Kendall Carpenter, the Company’s Executive Vice President and Chief Financial Officer, in the amount of$25,000. Each note bears an interest rate at a fixed rate of 3% per annum and principal and interest under the notes may be prepaidat any time without penalty. The non-affiliate note was fully repaid on February 8, 2019, including $575 in accrued interest.Each of the Erdberg and Carpenter notes has a maturity date of January 25, 2020. The principal amount of the Carpenter note wasreduced by $7,500 on January 28, 2019. On April 30, 2019, Kendall Carpenter repaid the remaining principal balance of the $17,500note, including $134 in accrued interest. On April 30, 2019, Daniyel Erdberg entered into a Stock Redemption and Note CancellationAgreement whereby the Company redeemed 10,000 (100,000 pre-reverse split) shares of common stock paid pursuant to the note describedabove and cancelled the $50,000 note and the related $267 in accrued interest.

 

2019 Common Stock Redemption

 

On September 4, 2019, the Company redeemed 10,000 (100,000 pre-reverse split)shares of its common stock, which are now Treasury Stock, pursuant to a Redemption Agreement at $5.00 ($0.50 pre-reverse split)per share for an aggregate of $50,000 which were issued to Robert Guerra, the Company’s former director.

 

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OutsourcedTechnology Services

 

OnMarch 21, 2019, concurrent with the resignation of Kevin Hess, the Company’s prior Chief Technology Officer, the Companyand Cognitive Carbon Corporation (“CCC”), a related party, entered into an agreement pursuant to which CCC agreedto provide Chief Technology Officer services, sales and marketing services and outsourced software and platform development servicesto be provided personally by Kevin Hess or third-party development firms of his choosing for outsourced development. CCC willreceive $19,750 per month for one year for the Chief Technology Officer services and potential bonuses and an amount up to $120,000for outsourced software and platform development. Felicia Hess, the Company’s Chief Quality Officer, who is married to KevinHess, is the President and Director of CCC.

 

DirectorIndependence

 

Underthe rules of the OTCQB, we are not required to maintain a majority of independent directors on our Board of Directors and we arenot required to establish committees of the Board of Directors consisting of independent directors. However, we intend to applyto list our common stock on the Nasdaq Capital Market (“NASDAQ”). In order to list our common stock on the NASDAQ,we are required to comply with the NASDAQ standards relating to corporate governance, requiring, among other things, that:

 

Amajority of our Board of Directors to consist of “independent directors” as defined by the applicable rules and regulationsof the NASDAQ;

 

Thecompensation of our executive officers to be determined, or recommended to the Board of Directors for determination, by independentdirectors constituting a majority of the independent directors of the Board in a vote in which only independent directors participateor by a Compensation Committee comprised solely of independent directors;

 

Thatdirector nominees to be selected, or recommended to the Board of Directors for selection, by independent directors constitutinga majority of the independent directors of the Board in a vote in which only independent directors participate or by a nominationcommittee comprised solely of independent directors; and

 

Establishmentof an audit committee with at least three independent directors as well as composed entirely of independent directors, where atleast one of the independent directors qualifies as an audit committee financial expert under SEC rules and as a financially sophisticatedaudit committee member under the applicable Exchange rules.

 

Under applicableNASDAQ rules, a director will only qualify as an “independent director” if, in the opinion of the listed company’sboard of directors, that person does not have a relationship that would interfere with the exercise of independent judgment incarrying out the responsibilities of a director. In order to be considered independent for purposes of Rule 10A-3, a member ofan audit committee of a listed company may not, other than in his or her capacity as a member of the audit committee, the boardof directors, or any other board committee, accept, directly or indirectly, any consulting, advisory, or other compensatory feefrom the listed company or any of its subsidiaries or otherwise be an affiliated person of the listed company or any of its subsidiaries.Our Board of Directors has determined in its business judgment that General John Miller and Mr. Hoechst are independent withinthe meaning of the OTCQX Rules for U.S. Companies, NASDAQ rules for U.S. Companies, the Sarbanes-Oxley Act and related SEC rules.The Company has commenced a search for an additional director following Mr. Guerra’s resignation on September 4, 2019 andexpects the replacement to be independent and to serve on the Audit, Compensation and Nominating and Corporate Governance Committees.Thereafter, a majority of the members of our Board of Directors will be independent.

 

SECURITYOWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

 

The following tablesets forth the number of shares of and percent of the Company’s common stock beneficially owned as of October 11, 2019 (pre-reversesplit and post-reverse split), by all directors, our named executive officers, our directors and executive officers as a group,and persons or groups known by us to own beneficially 5% or more of our common stock, immediately prior to this Offering, andimmediately after the closing of this offering, as adjusted to reflect the assumed sale of 1,204,819 units (which includes 1,204,819 sharesof our common stock and immediately exercisable warrants to purchase 1,204,819 shares of our common stock) in this Offering andthe exercise of the underwriters’ over-allotment option in full to purchase additional 180,722 shares of common stock andwarrants to purchase 180,722 shares of common stock, but assumes the warrants forming part of the units and over-allotment optionare not exercised.

 

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Thebusiness address of each of the beneficial owners listed below is c/o Drone Aviation Holding Corp., 11651 Central Parkway, #118,Jacksonville, Florida 32224.

 

Name of Beneficial Owner  

Pre-Reverse
Split

Amount and
Nature of
Beneficial
Ownership

   

Post-Reverse
Split

Amount and
Nature of
Beneficial
Ownership

    Pre-ClosingPercentage
of Class (1)
   

Post-Closing

Amount and
Nature of
Beneficial
Ownership

    Post-ClosingPercentage
of Class (1)
 
5% Shareholders                              
Dr. Phillip Frost (2)     13,672,318       1,367,232       46.3 %     1,367,232            31.5 %
                                         
Ira Entis, Trustee (3)     10,946,433       1,094,644       33.4 %     1,094,644         23.5 %
                                         
Named Executive Officers and Directors                                        
Felicia Hess (4)     3,739,833       373,984       12.4 %     373,984           8.5 %
                                         
Daniyel Erdberg (5)     3,243,833       324,384       10.9 %     324,384          7.4 %
                                         
Timothy Hoechst (6)     180,000       18,000       *     18,000         * %
                                         
John E. Miller (7)     125,000       12,500       * %     12,500       * %
                                         
David Aguilar (8)     410,000       41,000       1.5 %     41,000       * %
                                         
Executive Officers and Directors as a Group (6 persons) (9)     8,874,999       887,500       26.10 %     887,500        18.5 %

  

*lessthan 1%.

 

(1)

The pre-closing percentages in the table have been calculated on the basis of treating as outstandingfor a particular person, all shares of our capital stock outstanding on October 11, 2019. The post-closing percentages in the tablehave been calculated on the basis of treating as outstanding for a particular person, all shares of our capital stock outstandingon October 11, 2019, plus the assumed sale of 1,204,819 units (which includes 1,204,819 shares of our common stock and immediatelyexercisable warrants to purchase 1,204,819 shares of our common stock) in this Offering and the exercise of the underwriters’over-allotment option in full to purchase 180,722 shares of common stock and warrants to purchase 180,722 shares of common stock,but assumes the warrants forming part of the units and over-allotment option are not exercised. On October 11, 2019, there were2,755,613 (27,556,121 pre-reverse split) shares of our common stock outstanding. To calculate a stockholder’s percentageof beneficial ownership, we include in the numerator and denominator the common stock outstanding and all shares of our commonstock issuable to that person in the event of the exercise of outstanding options and other derivative securities owned by thatperson which are exercisable within 60 days of October 11, 2019. Common stock options and derivative securities held by other stockholdersare disregarded in this calculation. Therefore, the denominator used in calculating beneficial ownership among our stockholdersmay differ. Unless we have indicated otherwise, each person named in the table has sole voting power and sole investment powerfor the shares listed opposite such person’s name.

   
(2) Represents 1,167,232 (11,672,318 pre-reverse split) shares of common stock and 200,000 (2,000,000 pre-reverse split) shares underlying vested warrants with an exercise price of $5.00 ($0.50 pre-reverse split) which expire on August 3, 2022.
   
(3) Mr. Entis is the trustee of the revocable living trust of Jay Nussbaum, our former Chief Executive Officer and Chairman of the Board of our Company. Mr. Entis’ beneficial ownership includes the following securities, acquired as administrator of Mr. Nussbaum’s estate: 559,644 (5,596,433 pre-reverse split) shares of common stock, 200,000 (2,000,000 pre-reverse split) shares underlying vested options with an exercise price of $5.00 ($0.50 pre-reverse split) which expire on August 3, 2021, 90,000 (900,000 pre-reverse split) shares underlying vested options with an exercise price of $5.00 ($0.50 pre-reverse split) which expire on November 9, 2021 and 235,000 (2,350,000 pre-reverse split) shares underlying vested options with an exercise price of $6.50 ($0.65 pre-reverse split) which expire on September 26, 2022.  Mr. Nussbaum’s beneficial ownership is still in probate pending completion.  In addition, Mr. Entis owns 10,000 (100,000 pre-reverse split) shares of the common stock individually.

 

74

 

(4) Represents 123,984 (1,239,833 pre-reverse split) shares of common stock (of which (i) Mrs. Hess directly beneficially owns 118,984 (1,189,833 pre-reverse split) shares  and (ii) Mrs. Hess may be deemed to indirectly beneficially own 5,000 (50,000 pre-reverse split) shares owned by Kevin Hess, her husband), 120,000 (1,200,000 pre-reverse split) shares underlying vested options with an exercise price of $5.00 ($0.50 pre-reverse split) which expire on August 3, 2021, 30,000 (300,000 pre-reverse split) shares underlying vested options with an exercise price of $5.00 ($0.50 pre-reverse split) which expire on November 9, 2021 and 100,000 (1,000,000 pre-reverse split) shares underlying vested options with an exercise price of $6.50 ($0.65 pre-reverse split) which expire on September 26, 2022.
   
(5) Represents 90,384 (903,833 pre-reverse split) shares of common stock, 114,000 (1,140,000 pre-reverse split) shares underlying vested options with an exercise price of $5.00 ($0.50 pre-reverse split) which expire on August 3, 2021, 20,000 (200,000 pre-reverse split) shares underlying vested options with an exercise price of $5.00 ($0.50 pre-reverse split) which expire on November 9, 2021 and 100,000 (1,000,000 pre-reverse split) shares underlying vested options with an exercise price of $6.50 ($0.65 pre-reverse split) which expire on September 26, 2022.
   
(6) Represents 5,500 (55,000 pre-reverse split) shares of common stock, 10,000 (100,000 pre-reverse split) sharesunderlying vested options with an exercise price of $10.00 ($1.00 pre-reverse split) which expire on December 13, 2021 and 2,500(25,000 pre-reverse split) shares underlying vested options with an exercise price of $6.50 ($0.65 pre-reverse split) which expireon September 26, 2022.
   
(7) Represents 10,000 (100,000 pre-reverse split) shares underlying vested options with an exercise price of $10.00($1.00 pre-reverse split) which expire on December 13, 2021 and 2,500 (25,000 pre-reverse split) shares underlying vested optionswith an exercise price of $6.50 ($0.65 pre-reverse split) which expire on September 26, 2022.
   
(8) Represents 5,000 (50,000 pre-reverse split) shares of common stock, 10,000 (100,000 pre-reverse split) shares underlying vested options with an exercise price of $29.00 ($2.90 pre-reverse split) which expire on January 9, 2021, 10,000 (100,000 pre-reverse split) shares underlying vested options with an exercise price of $5.00 ($0.50 pre-reverse split) which expire on August 3, 2021, 1,000 (10,000 pre-reverse split) shares underlying vested options with an exercise price of $5.00 ($0.50 pre-reverse split) which expire on November 9, 2021 and 15,000 (150,000 pre-reverse split) shares underlying vested options with an exercise price of $6.50 ($0.65 pre-reverse split) which expire on September 26, 2022.
   
(9)

Includes Felicia Hess, Daniyel Erdberg, Timothy Hoechst, John Miller, David Aguilar, and Kendall Carpenter, our Chief Financial Officer. Kendall Carpenter beneficially owns 117,633 (1,176,333 pre-reverse split) shares, representing (i) 17,633 (176,333 pre-reverse split) shares of common stock and (ii) 27,500 (275,000 pre-reverse split) shares underlying vested options with an exercise price of $5.00 ($0.50 pre-reverse split) which expire on August 3, 2021, 17,000 (170,000 pre-reverse split) shares underlying vested options with an exercise price of $5.00 ($0.50 pre-reverse split) which expire on November 9, 2021, 13,000 (130,000 pre-reverse split) shares underlying vested options with an exercise price of $10.00 ($1.00 pre-reverse split) which expire on May 16, 2022, and 42,500 (425,000 pre-reverse split) shares underlying vested options with an exercise price of $6.50 ($0.65 pre-reverse split) which expire on September 26, 2022. The pre-closing and post-closing beneficial ownership percentages of Kendall Carpenter are 4.1% and 2.8%, respectively.

 

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SecuritiesAuthorized for Issuance under Equity Compensation Plans

 

Thefollowing table provides information as of December 31, 2018, regarding our compensation plans under which equity securities areauthorized for issuance:

 

Plan category  

Post-Reverse Split

Number of
securities to
be issued
upon
exercise of
outstanding
options, warrants and rights

   

Post-Reverse Split

Weighted-average
exercise
price of
outstanding
options, warrants and rights

   

Post-Reverse Split

Number of securities
remaining
available
for future
issuance
under equity
compensation
plans (excluding
securities
reflected
in column (a))

   

Pre-Reverse Split

Number of
securities to
be issued
upon
exercise of
outstanding
options, warrants and rights

   

Pre-Reverse Split

Weighted-average
exercise
price of
outstanding
options, warrants and rights

      Pre-Reverse Split Number of securities
remaining
available
for future
issuance
under equity
compensation
plans (excluding
securities
reflected
in column (a))
 
    (a)     (b)     (c)     (a)     (b)       (c)  
Equity compensation plans approved by security holders     6,000     $ 29.10       230,407       60,000     $ 2.91       2,304,062  
Equity compensation plans not approved by security holders     1,614,000       6.00       0       16,140,000       0.60       0  
Total     1,620,000     $ 6.10       230,407       16,200,000     $ 0.61       2,304,062  

 

UNDERWRITING

  

Roth Capital Partnersand Aegis Capital Corp. will be acting as the co-bookrunning managers for the offering. We have entered into an underwriting agreementdated _______________, 2019 with Roth Capital Partners and Aegis Capital Corp. as representatives of the underwriters (the “Representatives”).Subject to the terms and conditions of an underwriting agreement between us and the Representatives, we have agreed to sell toeach underwriter named below, and each underwriter named below has severally agreed to purchase, at the public offering priceless the underwriting discounts set forth on the cover page of this prospectus, the number of units listed next to its name inthe following table:

 

Name of Underwriter   Number of Units  
Roth Capital Partners        
Aegis Capital Corp                   
Total        

  

The underwritersare committed to purchase all the units offered by this prospectus if they purchase any units. The underwriting agreement alsoprovides that if an underwriter defaults, the purchase commitments of non-defaulting underwriters may be increased, or the offeringmay be terminated. The underwriters are not obligated to purchase the units covered by the underwriters’ option to purchaseadditional shares of common stock and/or warrants to purchase additional shares of common stock described below. The underwritersare offering the units, subject to prior sale, when, as and if issued to and accepted by them, subject to approval of legal mattersby their counsel, and other conditions contained in the underwriting agreement, such as the receipt by the underwriters of officer’scertificates and legal opinions. The underwriters reserve the right to withdraw, cancel or modify offers to the public and toreject orders in whole or in part.

 

Over-AllotmentOption

 

We have granted to the underwriters an over-allotment option, exercisable for 45 days from the date ofthe underwriting agreement to purchase up to 180,722 shares of common stock and/or additional warrants to purchase up to 180,722shares of common stock based on the assumed offeringprice (15% of the shares of common stock and warrants included in the units sold in this offering) at the public offering priceper share and warrant, respectively, that appears on the cover page of this prospectus, less the underwriting discount. The over-allotmentoption may be used to purchase shares of common stock and/or warrants in any combination thereof, as determined by the underwriters.The underwriters may exercise this option, in whole or in part, solely for the purpose of covering over-allotments, if any, madein connection with the offering of the securities pursuant to this prospectus. To the extent the option is exercised and the conditionsof the underwriting agreement are satisfied, we will be obligated to sell to the underwriters, and subject to the terms and conditionsof the underwriting agreement the underwriters will be obligated to purchase, these additional shares of common stock and/or warrants.

 

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Discountand Commissions.

 

We have agreedto pay the underwriters a cash fee equal to eight percent (8%) of the aggregate gross proceeds.

 

The Representativeshave advised us that the underwriters propose to offer the units directly to the public at the public offering price set forthon the cover of this prospectus. In addition, the Representatives may offer some of the units to other securities dealers at suchprice less a concession of up to $_________ per unit. After the offering to the public, the offering price and other selling termsmay be changed by the Representatives without changing the Company’s proceeds from the underwriters’ purchase of theunits.

 

Thefollowing table shows the public offering price, underwriting discount and proceeds, before expenses, to us. The information assumeseither no exercise or full exercise by the underwriters of their over-allotment option. The underwriting commissions are equalto the public offering price per unit less the amount per unit the underwriters pay us for the units.

 

          Total  
    Per
Unit
    Without Over-
Allotment Option
    With Over-
Allotment Option
 
Public offering price   $            $              $              
Underwriting discounts and commissions   $     $          $  
Proceeds, before expenses, to us   $     $     $  

  

We estimate thatthe total expenses of the offering, including registration, filing and listing fees, printing fees and legal and accounting expenses,but excluding underwriting discounts and commissions, will be approximately $459,284, all of which are payable by us. This figureincludes expense reimbursements we have agreed to pay the Representatives for reimbursement of its expenses related to the offeringup to a maximum aggregate expense allowance of $150,000, for which we have paid a $25,000 advance, which will be returned to usto the extent not offset by actual expenses.

 

Determinationof Offering Price

 

Before this offering,there has been a very limited public market for our common stock and no public market for our warrants. Accordingly, the publicoffering price will be negotiated between us and the Representatives. Among the factors to be considered in the negotiations are:

 

the prospects for our company and the industry in which we operate;

 

  our past and present financial and operating information;

 

  our present operations, and the prospects for, and timing of, our future revenues;

 

the present state of our development;

 

Financial and operating information and market valuations of publicly traded companies engaged in activities similar to ours; and

 

other factors deemed relevant.

 

Lock-UpAgreements 

 

We and each ofour officers, directors, affiliates and certain existing stockholders aggregating at least 5% of our outstanding shares have agreed,subject to certain exceptions, not to offer, issue, sell, contract to sell, encumber, grant any option for the sale of or otherwisedispose of any shares of our common stock or other securities convertible into or exercisable or exchangeable for shares of ourcommon stock for a period of six (6) months after this offering is completed without the prior written consent of the Representatives.

 

The Representativesmay in their sole discretion and at any time without notice release some or all of the shares subject to lock-up agreements priorto the expiration of the lock-up period. When determining whether or not to release shares from the lock-up agreements, the representativeswill consider, among other factors, the security holder’s reasons for requesting the release, the number of shares for whichthe release is being requested and market conditions at the time.

 

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Rightof First Refusal

 

Following closingof the offering and the listing of our securities on the NASDAQ Capital Market, the Representatives shall have the right of firstrefusal for a period of twelve (12) months to act as the Company’s co-book running managers for any and all capital-raisingtransaction undertaken by the Company during such twelve (12) month period but in no case will the right of first refusal extendbeyond the third anniversary of the commencement of sales of the offering.

 

Indemnification

 

Wehave agreed to indemnify the underwriters against specified liabilities, including liabilities under the Securities Act, and tocontribute to payments the underwriters may be required to make in respect thereof.

 

ElectronicOffer, Sale and Distribution of Shares.

 

A prospectus inelectronic format may be made available on a website maintained by the Representatives and may also be made available on a websitemaintained by other underwriters. The underwriters may agree to allocate a number of units to underwriters for sale to their onlinebrokerage account holders. Internet distributions will be allocated by the Representatives to underwriters that may make Internetdistributions on the same basis as other allocations. In connection with the offering, the underwriters or syndicate members maydistribute prospectuses electronically. No forms of electronic prospectus other than prospectuses that are printable as Adobe®PDF will be used in connection with this offering.

 

The underwritershave informed us that they do not expect to confirm sales of units offered by this prospectus to accounts over which they exercisediscretionary authority.

 

Otherthan the prospectus in electronic format, the information on any underwriter’s website and any information contained inany other website maintained by an underwriter is not part of the prospectus or the registration statement of which this prospectusforms a part, has not been approved and/or endorsed by us or any underwriter in its capacity as underwriter and should not berelied upon by investors.

 

PriceStabilization, Short Positions, and Penalty Bids

 

In connection withthis offering, the underwriters may engage in transactions that stabilize, maintain or otherwise affect the price of our securities.Specifically, the underwriters may over-allot in connection with this offering by selling more securities than are set forth onthe cover page of this prospectus. This creates a short position in our securities for its own account. The short position maybe either a covered short position or a naked short position. In a covered short position, the number of securities over-allottedby the underwriters is not greater than the securities that they may purchase in the over-allotment option. In a naked short position,the number of securities involved is greater than the number of securities in the over-allotment option. To close out a shortposition, the underwriters may elect to exercise all or part of the over-allotment option. The underwriters may also elect tostabilize the price of our securities or reduce any short position by bidding for, and purchasing, securities in the open market.

 

Theunderwriters may also impose a penalty bid. This occurs when a particular underwriter or dealer repays selling concessions allowedto it for distributing a security in this offering because the underwriter repurchases that security in stabilizing or short coveringtransactions.

 

Finally,the underwriters may bid for, and purchase, securities in market making transactions, including “passive” market makingtransactions as described below.

 

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These stabilizingtransactions, covering transactions and penalty bids may have the effect of raising or maintaining the market price of our securitiesor preventing or retarding a decline in the market price of our securities. As a result, the price of our securities may be higherthan the price that might otherwise exist in the open market.

 

Neither we northe underwriters make any representation or prediction as to the effect that the transactions described above may have on theprices of our securities. These transactions may occur on the over the counter market or on any other trading market. If any ofthese transactions are commenced, they may be discontinued without notice at any time.

 

Passive Market Making

 

In connection withthis offering, underwriters and selling group members may engage in passive market making transactions in our securities on theNASDAQ Capital Market in accordance with Rule 103 of Regulation M under the Exchange Act, during a period before the commencementof offers or sales of the securities and extending through the completion of the distribution. A passive market maker must displayits bid at a price not in excess of the highest independent bid of that security. However, if all independent bids are loweredbelow the passive market maker’s bid, then that bid must then be lowered when specified purchase limits are exceeded.

 

Certain Relationships

 

Certain of theunderwriters and their affiliates may in the future provide various investment banking, commercial banking and other financialservices for us and our affiliates for which they may in the future receive customary fees, however, except for the right of firstrefusal disclosed in this prospectus, we have no present arrangements with any of the underwriters for any further services.

 

OfferRestrictions Outside the United States 

 

Other than in theUnited States, no action has been taken by us or the underwriters that would permit a public offering of the securities offeredby this prospectus in any jurisdiction where action for that purpose is required. The securities offered by this prospectus maynot be offered or sold, directly or indirectly, nor may this prospectus or any other offering material or advertisements in connectionwith the offer and sale of any such securities be distributed or published in any jurisdiction, except under circumstances thatwill result in compliance with the applicable rules and regulations of that jurisdiction. Persons into whose possession this prospectuscomes are advised to inform themselves about and to observe any restrictions relating to the offering and the distribution ofthis prospectus. This prospectus does not constitute an offer to sell or a solicitation of an offer to buy any securities offeredby this prospectus in any jurisdiction in which such an offer or a solicitation is unlawful.

 

 

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Notice to prospective investors in theEuropean Economic Area

  

In particular,this document does not constitute an approved prospectus in accordance with European Commission’s Regulation on Prospectusesno. 809/2004 and no such prospectus is to be prepared and approved in connection with this offering. Accordingly, in relationto each Member State of the European Economic Area which has implemented the Prospectus Directive (being the Directive of theEuropean Parliament and of the Council 2003/71/EC and including any relevant implementing measure in each Relevant Member State)(each, a Relevant Member State), with effect from and including the date on which the Prospectus Directive is implemented in thatRelevant Member State (the Relevant Implementation Date) an offer of securities to the public may not be made in that RelevantMember State prior to the publication of a prospectus in relation to such securities which has been approved by the competentauthority in that Relevant Member State or, where appropriate, approved in another Relevant Member State and notified to the competentauthority in that Relevant Member State, all in accordance with the Prospectus Directive, except that it may, with effect fromand including the Relevant Implementation Date, make an offer of securities to the public in that Relevant Member State at anytime:

 

to legal entities which are authorized or regulated to operate in the financial markets or, if not so authorized or regulated, whose corporate purpose is solely to invest in securities;

 

to any legal entity which has two or more of (1) an average of at least 250 employees during the last financial year; (2) a total balance sheet of more than €43,000,000; and (3) an annual net turnover of more than €50,000,000, as shown in the last annual or consolidated accounts; or

 

in any other circumstances which do not require the publication by the Issuer of a prospectus pursuant to Article 3 of the Prospectus Directive.

 

For the purposesof this provision, the expression an “offer of securities to the public” in relation to any of the securities in anyRelevant Member State means the communication in any form and by any means of sufficient information on the terms of the offerand the securities to be offered so as to enable an investor to decide to purchase or subscribe for the securities, as the samemay be varied in that Member State by any measure implementing the Prospectus Directive in that Member State. For these purposesthe securities offered hereby are “securities.”

 

Notice to prospective investorsin the United Kingdom

 

This prospectusis not an approved prospectus for purposes of the UK Prospectus Rules, as implemented under the EU Prospectus Directive (2003/71/EC),and has not been approved under section 21 of the Financial Services and Markets Act 2000 (as amended) (the “FSMA”)by a person authorized under FSMA. The financial promotions contained in this prospectus are directed at, and this prospectusis only being distributed to, (1) persons who receive this prospectus outside of the United Kingdom, and (2) personsin the United Kingdom who fall within the exemptions under articles 19 (investment professionals) and 49(2)(a) to (d) (highnet worth companies, unincorporated associations, etc.) of the Financial Services and Markets Act 2000 (Financial Promotion) Order2005 (all such persons together being referred to as “Relevant Persons”). This prospectus must not be acted upon orrelied upon by any person who is not a Relevant Person. Any investment or investment activity to which this prospectus relatesis available only to Relevant Persons and will be engaged in only with Relevant Persons. This prospectus and its contents areconfidential and should not be distributed, published or reproduced (in whole or in part) or disclosed by recipients to any otherperson that is not a Relevant Person.

 

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The underwriterhas represented, warranted and agreed that:

 

(a) it has only communicated or caused to be communicated and will only communicate or cause to be communicated any invitation or inducement to engage in investment activity (within the meaning of section 21 of the FSMA in connection with the issue or sale of any of the securities in circumstances in which section 21(1) of the FSMA does not apply to the issuer; and

 

(b) it has complied with and will comply with all applicable provisions of the FSMA with respect to anything done by it in relation to the securities in, from or otherwise involving the United Kingdom.

 

 

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DESCRIPTIONOF SECURITIES

 

Thefollowing description of our capital stock is based upon our articles of incorporation, as amended, our bylaws and applicableprovisions of law, in each case as currently in effect. This discussion does not purport to be complete and is qualified in itsentirety by reference to our articles of incorporation, as amended, and our amended and restated bylaws, copies of which are filedwith the SEC as exhibits to the registration statement of which this prospectus is a part.

 

AuthorizedCapital Stock

 

As of the dateof this prospectus, our authorized capital stock consists of (i) 300,000,000 shares of common stock, par value $0.0001 per share,and (ii) 100,000,000 shares of preferred stock, par value $0.0001 per share. At October 11, 2019, we had 2,755,613 (27,556,121pre-reverse split) shares of common stock issued and outstanding and no preferred stock issued and outstanding.

 

As of October 11,2019, there were 128 holders of record of our common stock.

 

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CommonStock

 

Eachshare of common stock entitles the holder to one vote, either in person or by proxy, at meetings of shareholders. The holdersare not permitted to vote their shares cumulatively. Accordingly, the shareholders of our common stock who hold, in the aggregate,more than fifty percent of the total voting rights can elect all of our directors and, in such event, the holders of the remainingminority shares will not be able to elect any of such directors. The vote of the holders of a majority of the issued and outstandingshares of common stock entitled to vote thereon is sufficient to authorize, affirm, ratify or consent to such act or action, exceptas otherwise provided by law.

 

Holdersof common stock are entitled to receive ratably such dividends, if any, as may be declared by the Board of Directors out of fundslegally available. We have not paid any dividends on common stock since our inception, and we presently anticipate that all earnings,if any, will be retained for development of our business. Any future disposition of dividends will be at the discretion of ourBoard of Directors and will depend upon, among other things, our future earnings, operating and financial condition, capital requirements,and other factors. Holders of our common stock have no preemptive rights or other subscription rights, conversion rights, redemptionor sinking fund provisions. Upon our liquidation, dissolution or winding up, the holders of our common stock will be entitledto share ratably in the net assets legally available for distribution to shareholders after the payment of all of our debts andother liabilities. There are not any provisions in our Articles of Incorporation or our Bylaws that would prevent or delay changein our control.

 

PreferredStock

 

Theboard of directors shall have the authority to authorize the issuance of the preferred stock from time to time in one or moreclasses or series, and to state in the resolution or resolutions from time to time adopted providing for the issuance thereofthe following:

 

(a) Whetheror not the class or series shall have voting rights, full or limited, the nature and qualifications, limitations and restrictionson those rights, or whether the class or series will be without voting rights;

 

(b) Thenumber of shares to constitute the class or series and the designation thereof; 

 

(c) Thepreferences and relative, participating, optional or other special rights, if any, and the qualifications, limitations, or restrictionsthereof, if any, with respect to any class or series;

 

(d) Whetheror not the shares of any class or series shall be redeemable and if redeemable, the redemption price or prices, and the time ortimes at which, and the terms and conditions upon which, such shares shall be redeemable and the manner of redemption;

 

(e) Whetheror not the shares of a class or series shall be subject to the operation of retirement or sinking funds to be applied to the purchaseor redemption of such shares for retirement, and if such retirement or sinking funds be established, the amount and the termsand provisions thereof;

 

(f) Thedividend rate, whether dividends are payable in cash, stock of the Company, or other property, the conditions upon which and thetimes when such dividends are payable, the preference to or the relation to the payment of dividends payable on any other classor classes or series of stock, whether or not such dividend shall be cumulative or noncumulative, and if cumulative, the dateor dates from which such dividends shall accumulate;

 

(g) Thepreferences, if any, and the amounts thereof which the holders of any class or series thereof are entitled to receive upon thevoluntary or involuntary dissolution of, or upon any distribution of assets of, the Company;

 

(h) Whether or not the shares of any class or series are convertible into, or exchangeable for, the shares of any other class or classes or of any other series of the same or any other class or classes of stock of the Company, the conversion price or prices or ratio or ratios or the rate or rates at which such exchange may be made, with such adjustments, if any, as shall be stated and expressed or provided for in such resolution or resolutions; and

 

(i) Suchother rights and provisions with respect to any class or series as may to the board of directors seem advisable.

 

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Theshares of each class or series of the preferred stock may vary from the shares of any other class or series thereof in any respect.The Board of Directors may increase the number of shares of the preferred stock designated for any existing class or series bya resolution adding to such class or series authorized and unissued shares of the preferred stock not designated for any existingclass or series of the preferred stock and the shares so subtracted shall become authorized, unissued and undesignated sharesof the preferred stock.

 

Optionsto Purchase Common Stock

 

As of October 11,2019, we had options to purchase 1,394,500 (13,945,000post-reverse split) shares of our common stock at an average exercise price of $6.10 ($0.61 pre-reverse split) per share. Theoptions expire during the period between 2019 to 2023.

 

Warrantsto Purchase Common Stock

  

As of October 11,2019, we had warrants to purchase 227,000 (2,270,000 pre-reverse split) shares of our common stock at an average exercise priceof $6.70 ($0.67 pre-reverse split) per share. The warrants expire during the period from 2020 to 2023.

 

Description of Securities in thisOffering

 

Units

 

Each unit consistsof one share of common stock, par value $0.0001 per share, and one warrant to purchase one share of our common stock, each asdescribed further below. No units will actually be issued in this offering and the common stock and warrants will be immediatelyseparable and will be issued separately.

 

Warrants

 

In connection withthe purchase of each unit, each investor will receive one share of common stock and one warrant. Accordingly, upon completionof this offering based on the assumed offering pricewe expect to have an additional 1,204,819 warrants outstanding (1,385,541 if the warrants reserved for the over-allotment aresold). Each warrant is exercisable for one share of common stock at an exercise price of 120% of the price of each unit sold inthe offering and is exercisable for a period of five years from the initial exercise date.

 

The number of warrantsoutstanding, and the exercise price of those securities, will be adjusted proportionately in the event of a reverse or forwardstock split of our common stock, a recapitalization or reclassification of our common stock, payment of dividends or distributionsin common stock to our common stock holders, or similar transactions. In the event that the Company effects a rights offeringto its common stock holders or a pro rata distribution of its assets among its common stock holders, then the holder of the warrantswill have the right to participate in such distribution and rights offering to the extent of their pro rata share of the Company’soutstanding common stock assuming they owned the number of shares of common stock issuable upon the exercise of their warrants.In the event of a “Fundamental Transaction” by the Company, such as a merger or consolidation of it with another company,the sale or other disposition of all or substantially all of the Company’s assets in one or a series of related transactions,a purchase offer, tender offer or exchange offer, or any reclassification, reorganization or recapitalization of the Company’scommon stock, then the warrant holder will have the right to receive, for each share of common stock issuable upon the exerciseof the warrant, at the option of the holder, the number of shares of common stock of the successor or acquiring corporation orof the Company, if it is the surviving corporation, and any additional consideration payable as a result of the Fundamental Transaction,that would have been issued or conveyed to the warrant holder had the holder exercised the warrant immediately preceding the closingof the Fundamental Transaction. In lieu of receiving such common stock and additional consideration in the Fundamental Transaction,the warrant holder may elect to have the Company or the successor entity purchase the warrant holder’s warrant for its fairmarket value.

 

The Company willpromptly notify the warrant holders in writing of any adjustment to the exercise price or to the number of the outstanding warrants,declaration of a dividend or other distribution, a special non-recurring cash dividend on or a redemption of the common stock,the authorization of a rights offering, the approval of the stock holders required for any proposed reclassification of the commonstock, a consolidation or merger by the Company, sale of all or substantially all of the assets of the Company, any compulsoryshare exchange, or the authorization of any voluntary or involuntary dissolution, liquidation, or winding up of the Company.

 

The warrants willbe issued in registered form, in each case pursuant to a Warrant Agency Agreement between the transfer agent and registrar, aswarrant agent, and us. You should review a copy of the Warrant Agency Agreement, which has been filed as an exhibit to the registrationstatement of which this prospectus is a part, for a complete description of the terms and conditions applicable to the warrants.

 

Anti-TakeoverEffects of Certain Provisions of Our Articles of Incorporation, as Amended, and Our Bylaws

 

Provisionsof our articles of incorporation, as amended, and our bylaws could make it more difficult to acquire us by means of a merger,tender offer, proxy contest, open market purchases, removal of incumbent directors and otherwise. These provisions, which aresummarized below, are expected to discourage types of coercive takeover practices and inadequate takeover bids and to encouragepersons seeking to acquire control of us to first negotiate with us. We believe that the benefits of increased protection of ourpotential ability to negotiate with the proponent of an unfriendly or unsolicited proposal to acquire or restructure us outweighthe disadvantages of discouraging takeover or acquisition proposals because negotiation of these proposals could result in animprovement of their terms.

 

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Callingof Special Meetings of Stockholders. Our bylaws provide that special meetings of the stockholders may be called only by thechief executive officer, if any, or the president or the board of directors.

 

Removalof Directors; Vacancies. Our bylaws provide that a director may be removed either for or without cause at any special meetingof stockholders by the affirmative vote of at least two-thirds of the voting power of the issued and outstanding stock entitledto vote; provided, however, that notice of intention to act upon such matter shall have been given in the notice calling suchmeeting.

 

Amendmentof Bylaws. The bylaws provide that the bylaws may be altered, amended or repealed at any meeting of the Board of Directorsat which a quorum is present, by the affirmative vote of a majority of the directors present at such meeting.

 

PreferredStock. Our articles of incorporation, as amended, authorize the issuance of up to 100,000,000 shares of preferred stock withsuch rights and preferences as may be determined from time to time by our board of directors in their sole discretion. Our boardof directors may, without stockholder approval, issue series of preferred stock with dividends, liquidation, conversion, votingor other rights that could adversely affect the voting power or other rights of the holders of our common stock.