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DIRTT Environmental Solutions Ltd. Interim / Quarterly Report 2022

Nov 14, 2022

47167_rns_2022-11-14_15cee53e-bad1-4b0f-91fb-7999925074c0.pdf

Interim / Quarterly Report

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These financial statements for DIRTT Environmental Solutions Ltd. are also included in the Form 10-Q for the quarterly period ended September 30, 2022 filed on SEDAR on November 14, 2022 in its entirety.

PART I – FINANCIAL INFORMATION

Item 1. Financial Statements (Unaudited)

DIRTT Environmental Solutions Ltd. Interim Condensed Consolidated Balance Sheets (Unaudited – Stated in thousands of U.S. dollars)

As at As at
December 31,
September 30,
2022 2021
ASSETS
Current Assets
Cash and cash equivalents 6,818 60,313
Restricted cash 3,611 3,095
Trade and accrued receivables, net of expected credit losses of 19,553 14,063

$0.1 million at September 30, 2022 and at December 31, 2021
Other receivables 8,009 3,477
Inventory 23,295 18,457
Prepaids and othercurrent assets 5,389 4,399
Total Current Assets 66,675 103,804
Property, plant and equipment, net 43,450 51,697
Capitalized software, net 4,634 7,395
Operating lease right-of-use assets, net 31,965 30,880
Otherassets 5,192 5,663
Total Assets 151,916 199,439
LIABILITIES
Current Liabilities
Accounts payable and accrued liabilities 26,104 22,751
Other liabilities 1,787 2,379
Customer deposits and deferred revenue 3,027 2,420
Current portion of long-term debt and accrued interest 3,221 3,323
Current portionof leaseliabilities 5,626 6,214
Total Current Liabilities 39,765 37,087
Long-term debt 61,997 67,319
Long-term leaseliabilities 29,141 27,267
Total Liabilities 130,903 131,673
SHAREHOLDERS’ EQUITY
Common shares, unlimited authorized without par value, 88,266,915 issued 187,930 181,782

and outstanding at September 30, 2022 and 85,345,433 at December 31, 2021
Additional paid-in capital 9,592 13,200
Accumulated other comprehensive loss (16,143
)		 (15,916
)
Accumulated deficit (160,366
)		 (111,300
)
Total Shareholders’ Equity 21,013 67,766
Total Liabilities and Shareholders’ Equity 151,916 199,439

The accompanying notes are an integral part of these interim condensed consolidated financial statements. The prior year comparatives have been revised in line with current year presentation - refer to Note 7.

1

DIRTT Environmental Solutions Ltd. Interim Condensed Consolidated Statement of Operations (Unaudited - Stated in thousands of U.S. dollars)

For the Three Months Ended
September 30,		 For the Three Months Ended
September 30,		 For the Nine Months Ended
September 30,		 For the Nine Months Ended
September 30,
2022 2021 2022 2021
Product revenue 44,307 33,054 124,849 101,683
Servicerevenue 2,440 1,044 4,885 2,982
Total revenue 46,747 34,098 129,734 104,665
Product cost of sales 37,965 30,717 109,757 85,359
Costs of under-utilized capacity - - - 1,756
Service cost ofsales 1,774 931 3,406 2,506
Total cost of sales 39,739 31,648 113,163 89,621
Gross profit 7,008 2,450 16,571 15,044
Expenses
Sales and marketing 6,089 7,536 21,094 21,770
General and administrative 6,542 7,546 21,412 22,567
Operations support 2,321 2,374 7,347 6,884
Technology and development 1,695 2,146 5,714 6,005
Stock-based compensation 918 837 3,546 3,792
Reorganization 3,426 - 12,281 -
Total operating expenses 20,991 20,439 71,394 61,018
Operating loss (13,983
)		 (17,989
)		 (54,823
)		 (45,974
)
Government subsidies 7,141 2,935 7,765 10,434
Foreign exchange gain 1,356 526 1,870 286
Interest income 19 20 50 62
Interest expense (1,276
)		 (823
)		 (3,935
)		 (2,117
)
7,240 2,658 5,750 8,665
Loss before tax (6,743
)		 (15,331
)		 (49,073
)		 (37,309
)
Income taxes
Current tax expense (recovery) (16
)		 - (16
)		 210
Deferred taxexpense - 88 - 137
(16
)		 88 (16
)		 347
Net loss (6,727
)		 (15,419
)		 (49,057
)		 (37,656
)
Loss per share

Basic and dilutedloss pershare		 (0.08
)		 (0.18
)		 (0.57
)		 (0.44
)
Weighted average number of shares outstanding(in

thousands)
Basic and Diluted 87,446 85,325 86,299 84,922

Interim Condensed Consolidated Statement of Comprehensive Loss

For the Three Months Ended
September 30,		 For the Three Months Ended
September 30,		 For the Nine Months Ended
September 30,		 For the Nine Months Ended
September 30,
2022 2021 2022 2021
Loss for the period (6,727
)		 (15,419
)		 (49,057
)		 (37,656
)
Exchange differences ontranslationof foreignoperations (66
)		 (855
)		 (227
)		 466
Comprehensive loss for the period (6,793
)		 (16,274
)		 (49,284
)		 (37,190
)

The accompanying notes are an integral part of these interim condensed consolidated financial statements.

2

DIRTT Environmental Solutions Ltd. Interim Condensed Consolidated Statement of Changes in Shareholders’ Equity (Unaudited – Stated in thousands of U.S. dollars, except for share data)

Accumulated
Number of Additional other Total
Common Common paid-in comprehensive Accumulated shareholders’
shares shares
capital
loss		 deficit equity
As at December 31, 2020 84,681,364 180,639 10,175 (17,018
)		 (57,265
)		 116,531
Stock-based compensation - - 796
-
-		 796
Foreign currency translation adjustment - - - 605 - 605

Net loss for theperiod		 - - - - (12,499
)		 (12,499
)
As at March 31, 2021 84,681,364 180,639 10,971 (16,413
)		 (69,764
)		 105,433
Stock-based compensation - - 1,285
-
-		 1,285
Issued on vesting of RSUs 630,211 1,074 (1,074
)		 - - -

RSUs and Share Awards withheld to settle		 -
employee tax obligations - (252
)		 - (342
)		 (594
)
Foreign currency translation adjustment - - - 716 - 716
Net loss for theperiod - - - - (9,738
)		 (9,738
)
As at June 30, 2021 85,311,575 181,713 10,930 (15,697
)		 (79,844
)		 97,102
Stock-based compensation - - 1,177
-
-		 1,177
Issued on vesting of RSUs 22,980 49 (49
)		 - - -

RSUs and Share Awards withheld to settle		 - -
employee tax obligations (35
)		 - (28
)		 (63
)
Foreign currency translation adjustment - - - (855
)		 - (855
)

Net loss for theperiod		 - - - - (15,419
)		 (15,419
)
As at September 30, 2021 85,334,555 181,762 12,023 (16,552
)		 (95,291
)		 81,942
As at December 31, 2021 85,345,433 181,782 13,200 (15,916
)		 (111,300
)		 67,766
Stock-based compensation - - 1,339 - - 1,339
Issued on vesting of RSUs and Share Awards 487,544 1,203 (1,203
)		 - - -

RSUs and Share Awards withheld to settle		 -
employee tax obligations - (189
)		 - (9
)		 (198
)
Foreign currency translation adjustment - - - 433 - 433
Net loss for theperiod - - - - (23,042
)		 (23,042
)
As at March 31, 2022 85,832,977 182,985 13,147 (15,483
)		 (134,351
)		 46,298
Stock-based compensation - - 1,286 - - 1,286
Issued on vesting of RSUs and Share Awards 1,155,851 3,268 (3,268
)		 - - -

RSUs and Share Awards withheld to settle		 - -
(536
)		 - - (536
)
employee tax obligations
Foreign currency translation adjustment - - - (594
)		 - (594
)
Net loss for theperiod - - - - (19,288
)		 (19,288
)
As at June 30, 2022 86,988,828 186,253 10,629 (16,077
)		 (153,639
)		 27,166
Stock-based compensation - - 846 - - 846
Issued on vesting of RSUs and Share Awards 874,266 1,587 (1,587
)		 - - -
Issued for employee share purchase plan 403,821 90 - - - 90

RSUs and Share Awards withheld to settle		 - - (296
)		 - - (296
)
employee tax obligations
Foreign currency translation adjustment - - - (66
)		 - (66
)
Net loss for theperiod - - - - (6,727
)		 (6,727
)
As at September 30, 2022 88,266,915 187,930 9,592 (16,143
)		 (160,366
)		 21,013

The accompanying notes are an integral part of these interim condensed consolidated financial statements.

3

DIRTT Environmental Solutions Ltd. Interim Condensed Consolidated Statement of Cash Flows (Unaudited – Stated in thousands of U.S. dollars)

For the Three Months Ended For the Three Months Ended For the Nine Months Ended For the Nine Months Ended
September 30, September 30,
2022 2021 2022 2021
Cash flows from operating activities:
Net loss for the period (6,727
)
(15,419
)
(49,057
)
(37,656
)
Adjustments:
Depreciation and amortization 4,236 3,815 12,202 10,638
Stock-based compensation, net of settlements 888 837 2,596 3,580
Foreign exchange gain (1,365
)
(735
)
(2,147
)
(495
)
Accretion of convertible debentures 163 89 505 236
Loss (gain) on disposal of equipment 44 15 (121
)
15
Deferred income tax expense - 88 - 137
Changes in operating assets and liabilities:
Trade and accrued receivables (819
)
2,488		 (5,814
)
(479
)
Other receivables (7,419
)
1,616		 (4,566
)
1,752
Inventory 1,052 (944
)
(6,052
)
(1,444
)
Prepaid and other assets, current and long term (254
)
(1,858
)
(1,421
)
(1,709
)
Accounts payable and accrued liabilities 2,748 (2,330
)
5,921		 (3,587
)
Other liabilities (70
)
(1,581
)
(109
)
186
Customer deposits and deferred revenue (3,078
)
1,112		 641 2,429
Current portion of long-term debt and accrued interest (44
)
601		 (186
)
1,607
Lease liabilities (22
)		 15 99 918
Net cash flows used in operating activities (10,667
)
(12,191
)
(47,509
)
(23,872
)
Cash flows from investing activities:
Purchase of property, plant and equipment, net of accounts
payable changes		 (360
)
(1,755
)
(2,247
)
(10,462
)
Capitalized software development expenditures (385
)
(516
)
(1,286
)
(1,852
)
Other asset expenditures (86
)
(60
)
(367
)
(387
)
Proceeds on sales of equipment 141 - 214 -
Recoveryof software development expenditures 46 121 91 145
Net cash flows used in investing activities (644
)		 (2,210 ) (3,595
)		 (12,556
)
Cash flows from financing activities:
Proceeds received on long-term debt - - 647 37,952
Repayment of long-term debt (616
)
(457
)
(1,852
)
(1,217
)
Employee taxpayments on vestingof RSUs (296
)		 (63
)		 (597
)		 (652
)
Net cash flows (used in) provided by financing activities (912
)		 (520 ) (1,802
)		 36,083
Effect of foreign exchange on cash, cash equivalents and
restricted cash		 (293
)
(130
)
(73
)
581
Net (decrease) increase in cash, cash equivalents and
restricted cash		 (12,516
)
(15,051
)
(52,979
)
236
Cash,cash equivalents and restricted cash,beginningofperiod 22,945 61,133 63,408 45,846
Cash, cash equivalents and restricted cash, end of period 10,429 **46,082 ** 10,429 46,082
Supplemental disclosure of cash flow information:
Interest paid (1,108
)
(1,231
)
(3,439
)
(1,360
)
Income taxes received - 369 3,207 321

The following table provides a reconciliation of cash, cash equivalents and restricted cash reported within the consolidated balance sheets.

For the Nine Months Ended For the Nine Months Ended
September 30,
2022 2021
Cash and cash equivalents 6,818 43,288
Restricted cash 3,611 2,794
Total cash, cash equivalents and restricted cash 10,429 46,082

The accompanying notes are an integral part of these interim condensed consolidated financial statements.

4

DIRTT Environmental Solutions Ltd.

Notes to the Unaudited Interim Condensed Consolidated Financial Statements (Amounts in thousands of U.S. dollars unless otherwise stated)

1. GENERAL INFORMATION

DIRTT Environmental Solutions Ltd. and its subsidiary (“DIRTT”, the “Company”, “we” or “our”) is a global leader in industrialized construction. DIRTT's system of physical products and digital tools empowers organizations, together with construction and design leaders, to build high-performing, adaptable, interior environments. Operating in the workplace, healthcare, education, and public sector markets, DIRTT’s system provides total design freedom, and greater certainty in cost, schedule, and outcomes.

DIRTT’s proprietary design integration software, ICE® (“ICE” or “ICE software”), translates the vision of architects and designers into a 3D model that also acts as manufacturing information. ICE is also licensed to unrelated companies and Construction Partners of the Company.

DIRTT is incorporated under the laws of the province of Alberta, Canada, its headquarters is located at 7303 – 30th Street S.E., Calgary, AB, Canada T2C 1N6 and its registered office is located at 4500, 855 – 2nd Street S.W., Calgary, AB, Canada T2P 4K7. DIRTT’s common shares trade on the Toronto Stock Exchange under the symbol “DRT” and on The Nasdaq Global Select Market (“Nasdaq”) under the symbol “DRTT”.

2. BASIS OF PRESENTATION

The accompanying unaudited interim condensed consolidated financial statements (the “Financial Statements”) have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) for interim financial information and the instructions to Form 10-Q and Article 10 of Regulation S-X and, accordingly, the Financial Statements do not include all of the information and notes required by accounting principles generally accepted in the United States for complete financial statements. In the opinion of the Company, the Financial Statements contain all adjustments necessary, consisting of only normal recurring adjustments, for a fair statement of its financial position as of September 30, 2022, and its results of operations and cash flows for the three and nine months ended September 30, 2022 and 2021. The condensed balance sheet at December 31, 2021, was derived from audited annual financial statements but does not contain all of the footnote disclosures from the annual financial statements. These Financial Statements should be read in conjunction with the audited consolidated financial statements as of December 31, 2021 and 2020 and for each of the three years in the period ended December 31, 2021 included in the Annual Report on Form 10-K of the Company as filed with the SEC and applicable securities commission or similar regulatory authorities in Canada. As described in Note 6, the Company adopted ASU 2021-10, Government Assistance (Topic 832): Disclosures by Business Entities about Government Assistance effective January 1, 2022. There was no impact of this standard on our disclosures or accounting for government assistance.

In these Financial Statements, unless otherwise indicated, all dollar amounts are expressed in United States (“U.S.”) dollars. DIRTT’s financial results are consolidated in Canadian dollars, the Company’s functional currency, and the Company has adopted the U.S. dollar as its reporting currency. All references to US$ or $ are to U.S. dollars and references to C$ are to Canadian dollars.

Principles of consolidation

The Financial Statements include the accounts of DIRTT and its subsidiary. All intercompany balances, income and expenses, unrealized gains and losses and dividends resulting from intercompany transactions have been eliminated on consolidation.

Basis of measurement

These Financial Statements have been prepared on the historical cost convention except for certain financial instruments and certain components of stock-based compensation that are measured at fair value. Historical cost is generally based on the fair value of the consideration given in exchange for assets. The Company’s quarterly tax provision is based upon an estimated annual effective tax rate.

5

Seasonality

Sales of the Company’s products are driven by consumer and industrial demand for interior construction solutions. The timing of customer’s construction projects can be influenced by a number of factors including the prevailing economic climate and weather.

3. LIQUIDITY

The Company has been negatively impacted by the effect of COVID-19 on the non-residential construction industry, costs incurred associated with the Company’s contested director elections, reorganization costs to reconstitute the executive team and align the Company’s cost structure with current sales activity, and significant inflation on raw materials costs, which have resulted in a significant usage of cash in recent periods which has been funded through Convertible Debentures and Leasing Facilities entered into in the prior year (refer to Note 9). As at September 30, 2022, the Company had $6.8 million of cash on hand and $9.0 million of available borrowings (December 31, 2021 - $60.3 million and $10.4 million of available borrowings).

We have implemented a number of restructuring initiatives to create a reduced cost structure moving forward (refer to Note 5) and have implemented multiple price increases during the year to mitigate the impact of inflation on raw material costs. While these actions, combined with an increasing project pipeline is promising, we continue to see unpredictability in our pace of orders. As a result, the Company has initiated certain strategic actions to improve our balance sheet in the short term. First, historically we have licensed the use of ICE software to certain strategic partners for use in their business, and DIRTT has provided licensing and developer software support for these counterparties. We are in the process of evaluating multiple initiatives related to the further use of ICE software by third parties. Second, we have certain properties that are currently owned that we are evaluating for potential sale and lease back arrangements. We do not intend to vacate these premises as they still serve a valuable aspect of our value proposition, but this type of arrangement would provide us with a one-time cash payment in the near term, in exchange for future rent payments. We expect these strategic initiatives to result in positive cash inflows in 2023. As these transactions are awaiting finalization, we are undertaking a Private Placement (defined in Note 15) of common shares, supported by significant shareholders and directors and officers of the Company to bridge any cash requirements between now and the completion and closing of the noted strategic transactions (refer to Note 15).

We have assessed the Company’s liquidity position as at September 30, 2022, using multiple scenarios taking into account our sales outlook for the next year, our existing cash balances and available credit facilities and the probability of executing the strategic transactions noted above. Based on this analysis we believe the Company has sufficient liquidity to support ongoing operations for the next twelve months. However, should anticipated profitable growth and increased labor headcount and manufacturing capacity not occur or should there be a delayed recovery of the North American construction activities from the pandemic, a sustained economic depression and its adverse impacts on customer demand or significant inflationary pressure on raw materials and transportation cost that we are unable to recover through price increases, the Company will need to identify alternative sources of financing, further reduce its cost structure, delay capital expenditures, evaluate potential asset sales and potentially curtail or cease certain operations. While the Company is confident that it will be able to raise additional capital when needed or under acceptable terms, there can be no absolute assurance it will be able to do so.

6

4. COVID-19

The impact of the COVID-19 pandemic on our future consolidated results of operations remains uncertain. The extent to which COVID-19 impacts our employees, operations, customers, suppliers and financial results depends on numerous evolving factors that we may not be able to accurately predict, including: the duration and scope of the pandemic (and whether there is a resurgence or multiple resurgences in the future, including the impact of new variants); government actions taken in response to the pandemic, including required shutdowns or vaccine or testing mandates; the availability, acceptance, distribution and continued effectiveness of vaccines; the impact on construction activity, including the effect on our customers’ demand for our ceiling and wall systems; supply chain disruptions; rising inflation; labor shortages; sustained remote or hybrid work models; our ability to manufacture and sell our products; and the ability of our customers to pay for our products. While many of our products support life-sustaining activities and essential construction, we and certain of our customers or suppliers may be impacted by national, federal, state and provincial actions, orders and policies regarding the COVID-19 pandemic, including: temporary closures of non-life-sustaining businesses, shelter-in-place orders, and travel, social distancing and quarantine policies, the implementation and enforcement of which vary in each of the jurisdictions in which we operate. We did not record any asset impairments, inventory charges or material bad debt reserves related to COVID-19 during the three and nine months ended September 30, 2022 and 2021, but future events may require such charges which could have a material adverse effect on our financial condition, liquidity or results of operations.

Government subsidies

In the United States, the Employee Retention Credit ("ERC") was established by Section 2301 of the Coronavirus Aid, Relief, and Economic Security Act (the "CARES Act") to provide an incentive for employers to keep their employees on their payroll during COVID-19 closures. The ERC is a refundable payroll tax credit based on qualified wages paid by an eligible employer between March 12, 2020, and October 1, 2021 for companies experiencing a significant decline in gross receipts during a calendar quarter or having operations fully or partially suspended during the quarter due to COVID-19. During the third quarter of 2022, the Company determined it was eligible for the ERC for the first three quarters of 2021 and has filed a claim for $7.3 million in payroll tax credits ($7.1 million net of expenses). As of September 30, 2022 these credits have not been received and are included in other receivables in the balance sheet.

As part of the Canadian federal government’s COVID-19 Economic Response Plan, the Canadian government established the Canadian Emergency Wage Subsidy (“CEWS”). The CEWS provided the Company with a taxable subsidy in respect of a specific portion of wages paid to Canadian employees during qualifying periods extending from March 15, 2020 to October 23, 2021 based on the percentage decline of certain of the Company’s Canadian sourced revenues during each qualifying period. The Company’s eligibility for the CEWS was subject to change for each qualifying period and was reviewed by the Company for each qualifying period, with amounts being received by the Company for various, but not each, qualifying period. Pursuant to amendments enacted as part of the 2021 Canadian federal budget, the Company is required to repay a portion of the CEWS amounts received for any qualifying period commencing after June 5, 2021 where the aggregate compensation for “specified executives” (within the meaning of the CEWS) during the 2021 calendar year exceeds the aggregate compensation for “specified executives” during the 2019 calendar year. Upon finalization of 2021 compensation to specified executives, approximately C$0.5 million ($0.4 million) of subsidies was repaid to the Canadian authorities in the second quarter of 2022. The repayment amount was fully provided for in the third quarter of 2021 in accounts payable and accrued liabilities and in the first quarter of 2022 the Company reversed a $0.6 million incremental provision related to this that is no longer necessary.

On November 19, 2020, the Canadian government also implemented the Canada Emergency Rent Subsidy (“CERS”). The CERS provided a taxable subsidy to cover eligible expenses for qualifying properties, subject to certain maximums, for qualifying periods extending from September 27, 2020 to October 23, 2021, with the amount of the subsidy available to the Company being based on the percentage decline of certain of the Company’s Canadiansourced revenues in each qualifying period. The Company’s eligibility for the CERS was subject to change for each qualifying period and was reviewed by the Company for each qualifying period.

The last claim period under the CEWS and CERS programs ended on October 23, 2021. The Company is not eligible and did not receive any new Canadian government subsidies in the three or nine months ended September 30, 2022.

7

5. REORGANIZATION

During the nine month period ended September 30, 2022, the Company undertook a number of reorganization initiatives:

Closure of Phoenix Aluminum Manufacturing Facility (the “Phoenix Facility”)

On February 22, 2022, we commenced the process of closing our Phoenix Facility, shifting related manufacturing to both our Savannah and Calgary aluminum manufacturing facilities. The closure of the Phoenix Facility was substantially completed in the second quarter of 2022. The Company entered into a sublease arrangement during the second quarter of 2022, commencing July 1, 2022, which exceeds the contractual lease commitments under the Right of Use assets.

Workforce Reductions, Board and Management Changes

In February and July of 2022, we announced our intention to eliminate a portion of our salaried workforce including manufacturing and office positions along with other cost reduction initiatives. The Company’s Board of Directors was reconstituted following a contested proxy contest in April 2022 which was deemed a change of control under the Company’s insurance policy resulting in additional insurance expenditures. Further, the Company made changes to several executive officer roles during the nine months ended September 30, 2022, which resulted in incurring certain termination benefits and recruitment costs.

Temporary Suspension of Operations at Rock Hill, South Carolina (the "Rock Hill Facility")

On August 23, 2022, we announced the temporary suspension of operations at our Rock Hill Facility, shifting related manufacturing to our Calgary manufacturing facility.

Reorganization costs incurred:

For the Three Months
Ended
September 30, 2022		 For the Nine Months
Ended
September 30, 2022
Termination benefits 2,843 6,870
Insurance costs on change of control - 3,676
Phoenix Facility closure - 853
Rock Hill temporary suspension of operations 144 144
Other costs 439 738
Total reorganization costs 3,426 **12,281 **
For the Three Months
Ended		 For the Nine Months
Ended
September 30, 2022
September 30, 2022
Opening reorganization costs in accounts payable and accrued liabilities 1,555 -
Reorganization expense 3,426 12,281
Reorganization costspaid (3,228
)		 (10,528
)
Reorganization costs in accounts payable and accrued liabilities at
1,753 1,753
September 30, 2022

Of the $1.8 million payable, $1.5 million relates to termination benefits and $0.3 million relates to other reorganization costs.

Discontinuation of Reflect Product Line and Other Charges Incurred

In August 2022, the Company discontinued the Reflect and other product lines, resulting in a one time inventory write-down of $1.0 million, and an acceleration of amortization expense associated with ICE development for Reflect of $1.0 million in cost of sales.

Additionally, the Company accelerated the depreciation of certain items of property, plant and equipment associated with the closure of the Phoenix Facility resulting in an additional $1.1 million of depreciation and amortization incurred in the first quarter of 2022.

8

These costs were included in cost of sales:

For the Three Months Ended
September 30, 2022		 For the Nine Months Ended
September 30, 2022
Accelerated depreciation and amortization associated with closure
- 1,054
of the Phoenix Facility
Accelerated amortization associated with product line
1,019 1,019
discontinuation
Provision for inventoryof discontinuedproduct lines 1,035 1,035
Incremental cost of sales 2,054 3,108

6. ADOPTION OF NEW AND REVISED ACCOUNTING STANDARDS

In 2021, the Financial Accounting Standards Board issued Accounting Standards Update No. 2021-10, Government Assistance (Topic 832): Disclosures by Business Entities about Government Assistance. The ASU provides guidance on required disclosures with respect to government assistance in a company’s notes to the annual financial statements. The amendments in the ASU are effective for periods beginning after December 15, 2021. The Company has adopted this standard effective January 1, 2022 and notes there is no significant impact of this standard on our accounting or disclosures for government assistance.

Although there are several other new accounting standards issued or proposed by the Financial Accounting Standards Board, which the Company has adopted or will adopt, as applicable, the Company does not believe any of these accounting pronouncements has had or will have a material impact on its Financial Statements.

7. TRADE AND ACCRUED RECEIVABLES AND OTHER RECEIVABLES

Accounts receivable are recorded at the invoiced amount, do not require collateral and do not bear interest. The Company estimates an allowance for credit losses using the lifetime expected credit loss at each measurement date taking into account historical credit loss experience as well as forward-looking information in order to establish rates for each class of financial receivable with similar risk characteristics. Adjustments to this estimate are recognized in the statement of operations.

In order to manage and assess our risk, management maintains credit policies that include regular review of credit limits of individual receivables and systematic monitoring of aging of trade receivables and the financial wellbeing of our customers. In addition, we acquired trade credit insurance effective April 1, 2020. At September 30, 2022, approximately 83% of our trade accounts receivable are insured, relating to accounts receivables from counterparties deemed creditworthy by the insurer and excluding accounts receivable from government entities, which have arisen since April 1, 2020 when the trade credit insurance became effective.

Our trade balances are spread over a broad Construction Partner base, which is geographically dispersed. For the three months ended September 30, 2022 and 2021, no Construction Partner accounted for greater than 10% of revenue. No Construction Partner accounted for greater than 10% of revenue for the nine months ended September 30, 2022 and one Construction Partner accounted for $13.5 million of revenue for the nine months ended September 30, 2021, which is greater than 10% of total revenue. In addition, and where possible, we collect a 50% deposit on sales, excluding government and certain other clients.

The Company’s aged receivables were as follows :

As at As at
September 30, December 31,
2022 2021
Current 17,021 13,572
Overdue 2,658 621
19,679 14,193
Less: expected creditlosses (126
)		 (130
)
19,553 14,063

9

No adjustment to our expected credit losses of $0.1 million was required for the nine months ended September 30, 2022. Receivables are generally considered to be past due when over 60 days old unless there is a separate payment arrangement in place for the collection of the receivable.

For the period ended September 30, 2022, the Company classified Other Receivables separately from Trade and Accrued Receivables on the balance sheet, as reconciled below:

As at,
September 30,
December 31,
2022
2021
Trade and accrued receivables 19,679
14,193
Allowancefordoubtfulaccounts (126
)
(130
)
Accountsreceivable 19,553
14,063
Sales tax receivable 289
196
Income taxes receivable 2
3,194
Government subsidies 7,141
-
Other receivables 577
87
Other receivables (reclassified onthe balance sheet) 8,009
3,477
Total Trade and other receivables, as previously presented 27,562
17,540

8. OTHER LIABILITIES

As at, As at,
September 30, 2022 December 31, 2021
Warranty provisions(1) 1,275 1,451
DSU liability 329 785
Sublease deposits 138 -
Otherprovisions 45 143
Other liabilities 1,787 2,379

(1) The following table presents a reconciliation of the warranty and other provisions balance:

September 30, 2022 December 31, 2021
As at January 1 1,451 1,763
Adjustments to timber provision - (500
)

Additions to warranty provision		 726
1,019
Paymentsrelated to warranties (902
)		 (831
)
1,275 1,451

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9. LONG-TERM DEBT

Revolving
Credit Facility		 Leasing Convertible

Facilities		 Debentures
Total Debt
Balance on December 31, 2020 - 5,967 -
5,967
Issuances - 9,805 55,107
64,912
Accretion of issue costs - - 352
352
Accrued interest - 556 1,935
2,491
Interest payments - (556
)		 (987
)
(1,543
)
Principal repayments - (1,808
)		 -
(1,808
)
Exchange differences - (55
)		 326
271
Balance at December 31, 2021 - 13,909 56,733
70,642
Current portion of long-term debt and accrued interest - 2,386 937
3,323
Long-term debt - 11,523 55,796
67,319
Balance on December 31, 2021 - 13,909 56,733
70,642
Issuances - 647 -
647
Accretion of issue costs - - 505
505
Accrued interest - 562 2,691
3,253
Interest payments - (562
)		 (2,877
)
(3,439
)
Principal repayments - (1,852
)		 -
(1,852
)
Exchange differences - (267
)		 (4,271
)
(4,538
)
Balance at September 30, 2022 - 12,437 52,781
65,218
Current portion of long-term debt and accrued interest - 2,520 701
3,221
Long-term debt - 9,917 52,080
61,997

Revolving Credit Facility

On February 12, 2021, the Company entered into a loan agreement governing a C$25.0 million senior secured revolving credit facility with the Royal Bank of Canada (“RBC”), as lender (the “RBC Facility”). Under the RBC Facility, the Company is able to borrow up to a maximum of 90% of investment grade or insured accounts receivable plus 85% of eligible accounts receivable plus the lesser of (i) 75% of the book value of eligible inventory and (ii) 85% of the net orderly liquidation value of eligible inventory less any reserves for potential prior ranking claims (the “Borrowing Base”). At September 30, 2022, available borrowings are C$12.4 million ($9.0 million), of which no amounts have been drawn. Interest is calculated at the Canadian or U.S. prime rate plus 30 basis points or at the Canadian Dollar Offered Rate or LIBOR plus 155 basis points. Under the RBC Facility, if the “Aggregate Excess Availability”, defined as the Borrowing Base less any loan advances or letters of credit or guarantee and if undrawn including unrestricted cash, is less than C$5.0 million, the Company is subject to a fixed charge coverage ratio (“FCCR”) covenant of 1.10:1 on a trailing twelve-month basis until such time the borrowing availability net of unrestricted cash exceeds C$5.0 million for at least thirty consecutive calendar days. Additionally, if the FCCR has been below 1.10:1 for the three immediately preceding months, the Company is required to maintain a reserve account equal to the aggregate of one year of payments on outstanding loans on the Leasing Facilities (defined below). The Company did not meet the three-month FCCR requirement during the third quarter of 2022 which resulted in requiring the restriction of $3.6 million of cash. Should an event of default occur or the Aggregate Excess Availability be less than C$6.25 million for five consecutive business days, the Company would enter a cash dominion period whereby the Company’s bank accounts would be blocked by RBC and daily balances will set-off any borrowings and any remaining amounts made available to the Company.

Leasing Facilities

The Company has a C$5.0 million equipment leasing facility in Canada (the “Canada Leasing Facility”) and a $14.0 million equipment leasing facility in the United States (the “U.S. Leasing Facility” and, together with the Canada Leasing Facility, the “Leasing Facilities”) with RBC, and one of its affiliates, which are available for equipment expenditures and certain equipment expenditures already incurred. The Leasing Facilities, respectively, have seven and five-year terms and bear interest at 4.25% and 5.59%. The U.S. Leasing Facility is amortized over a six-year term and extendible at the Company’s option for an additional year.

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During the three and nine months ended September 30, 2022, the Company received $nil (twelve months ended December 31, 2021: $9.8 million) of cash consideration under the U.S. Leasing Facility. The associated financial liabilities are shown on the consolidated balance sheet in current other liabilities and long-term debt. In April 2022 the Company received C$0.9 million ($0.7 million) under the Canada Leasing Facility.

Convertible Debentures

On January 25, 2021, the Company completed a C$35.0 million ($27.5 million) bought-deal financing of convertible unsecured subordinated debentures with a syndicate of underwriters (the “January Debentures”). On January 29, 2021, the Company issued a further C$5.25 million ($4.1 million) of the January Debentures under the terms of an overallotment option granted to the underwriters. The January Debentures will mature and be repayable on January 31, 2026 (the “January Debentures Maturity Date”) and will accrue interest at the rate of 6.00% per annum payable semi-annually in arrears on the last day of January and July of each year commencing on July 31, 2021 until the January Debentures Maturity Date. Interest and principal are payable in cash or shares at the option of the Company. The January Debentures will be convertible into common shares of DIRTT, at the option of the holder, at any time prior to the close of business on the business day prior to the earlier of the January Debentures Maturity Date and the date specified by the Company for redemption of the January Debentures at a conversion price of C$4.65 per common share, being a ratio of approximately 215.0538 common shares per C$1,000 principal amount of the January Debentures. Costs of the transaction were approximately C$2.7 million, including the underwriters’ commission.

On December 1, 2021, the Company completed a C$35.0 million ($27.4 million) bought-deal financing of convertible unsecured subordinated debentures with a syndicate of underwriters (the “December Debentures” and, together with the January Debentures, the “Debentures”). These December Debentures will mature and be repayable on December 31, 2026 (the “December Debentures Maturity Date”) and will accrue interest at the rate of 6.25% per annum payable semi-annually in arrears on the last day of June and December of each year commencing on June 30, 2022 until the December Debentures Maturity Date. Interest and principal are payable in cash or shares at the option of the Company. The December Debentures will be convertible into common shares of DIRTT, at the option of the holder, at any time prior to the close of business on the business day prior to the earlier of the December Debentures Maturity Date and the date specified by the Company for redemption of the December Debentures at a conversion price of C$4.20 per common share, being a ratio of approximately 238.0952 common shares per C$1,000 principal amount of the December Debentures. Costs of the transaction were approximately C$2.3 million, including the underwriters’ commission.

10. STOCK-BASED COMPENSATION

In May 2020, shareholders approved the DIRTT Environmental Solutions Ltd. Long-Term Incentive Plan (the “2020 LTIP”) at the annual and special meeting of shareholders. The 2020 LTIP gives the Company the ability to award options, share appreciation rights, restricted share units, restricted shares, dividend equivalent rights granted in connection with restricted share units, vested Share Awards (as defined below), and other share-based awards and cash awards to eligible employees, officers, consultants and directors of the Company and its affiliates. In accordance with the 2020 LTIP, the sum of (i) 5,850,000 common shares plus (ii) the number of common shares subject to stock options previously granted under the Company’s Amended and Restated Incentive Stock Option Plan (the “Stock Option Plan”) that, following May 22, 2020, expire or are cancelled or terminated without having been exercised in full have been reserved for issuance under the 2020 LTIP. Upon vesting of certain LTIP awards, the Company may withhold and sell shares as a means of meeting DIRTT’s tax withholding requirements in respect of the withholding tax remittances required in respect of award holders. To the extent the fair value of the withheld shares upon vesting exceeds the grant date fair value of the instrument, the excess amount is credited to retained earnings or deficit.

Under the terms of the 2020 LTIP, the change of 100% of the Board of Directors combined with the prior Board declining to endorse the incoming board constituted a change of a control as of April 26, 2022. As a result, all outstanding and unvested LTIP awards granted under the 2020 LTIP plan for any holder terminated without cause within one year of the change of control vest immediately upon termination.

The Company also maintains the DIRTT Environmental Solutions Ltd. Deferred Share Unit Plan for NonEmployee Directors pursuant to which deferred share units (“DSUs”) are granted to the Company’s non-employee directors. DSUs are settled solely in cash.

12

Prior to the approval of the 2020 LTIP, the Company granted awards of options under the Stock Option Plan and awards of performance share units (“PSUs”) under the DIRTT Environmental Solutions Ltd. Performance Share Unit Plan (the “PSU Plan”). Following the approval of the 2020 LTIP, no further awards were made under either the Stock Option Plan or the PSU Plan, but both remain in place to govern the terms of any awards that were granted pursuant to such plans and remain outstanding.

Stock-based compensation expense

For the Three Months
Ended September 30,		 For the Three Months
Ended September 30,		 For the Nine Months Ended
September 30,		 For the Nine Months Ended
September 30,
2022 2021 2022 2021
Equity-settled awards 846 1,177 3,471 3,258
Cash-settled awards 72 (340
)		 75 534
918 837 3,546 3,792

The following summarizes RSUs (as defined below), Share Awards, PSUs, and DSUs activity during the periods:

RSU Time- RSU
Performance-		 Share
Based Based Awards PSU DSU
Number of Number of Number of Number of Number of
units units units units units
Outstanding at December 31, 2020 2,414,066 200,000 - 197,471 363,664
Granted 1,919,102 878,601 - - 88,880
Vested (650,898
)		 (2,294
)		 - (34,635
)		 (55,802
)
Withheld to settle employee tax obligations (174,103
)		 (1,960
)		 - - -
Forfeited (237,910
)		 (42,314
)		 - (5,636
)		 -
Outstanding at September 30, 2021 3,270,257 1,032,033 - 157,200 396,742
Outstanding at December 31, 2021 3,216,536 1,021,739 - 157,200 361,577
Granted 2,303,287 863,279 162,682 - 890,832
Vested or settled (2,019,550
)		 (566,352
)		 (94,528
)		 - (501,916
)
Withheld to settle employee tax obligations (526,259
)		 (242,460
)		 (68,154
)		 - -
Forfeited (734,855
)		 (502,628
)		 - (157,200
)		 -
Outstanding at September 30, 2022 2,239,159 573,578 - - 750,493

Restricted share units (time-based vesting)

Restricted share units ("RSUs") that vest based on time have an aggregate time-based vesting period of three years and generally one-third of the RSUs vest every year over a three-year period from the date of grant. At the end of a three-year term, the RSUs will be settled by way of the provision of cash or shares to employees (or a combination thereof), at the discretion of the Company. The weighted average fair value of the RSUs granted was C$2.49 (2021 – C$3.14) which was determined using the closing price of the Company’s common shares on their respective grant dates.

Restricted share units (performance-based vesting)

During 2022 and 2021, restricted share units were granted to executives with service and performance-based conditions for vesting (the “PRSUs”). If the Company’s share price increases to certain values for 20 consecutive trading days, as outlined below, a percentage of the PRSUs will vest at the end of the three-year service period. PRSUs awarded in 2020 were forfeited in January 2022 upon the departure of an executive from the Company.

The grant date fair value of the 2022 and 2021 PRSUs were valued using the Monte Carlo valuation method and determined to have a weighted average grant date fair value of C$1.87 and C$3.27, respectively.

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Based on share price performance since the date of grant, none of the 2022 PRSUs and 66.7% of the 2021 PRSUs will vest upon completion of the three-year service period.

% of % of PRSUs Vesting PRSUs Vesting
33.3
%		 66.7
%		 100.0
%		 150.0
%
2022 and 2021 PRSUs $ 3.00 $ 4.00 $ 5.00 $ 7.00

Share awards

During the first quarter of 2022, certain executives were issued share awards in lieu of cash paid variable incentive compensation (“Share Awards”). These Share Awards vested upon grant. The fair value of the Share Awards granted was C$2.40 ($1.88), which was determined using the closing price of the Company’s common shares on the grant date.

During the third quarter of 2022, certain executives were provided a variable compensation plan for the achievement of certain financial targets payable partially in cash and partially in share awards. Based on the Company's performance to date relative to the financial targets, no share based awards have been recorded under this compensation plan for the quarter ended September 30, 2022. Under the plan, 1.2 million shares could have been awarded if the maximum targets were achieved based on the Company's share price at September 30, 2022.

Deferred share units

The fair value of the DSU liability and the corresponding expense is charged to profit or loss at the grant date. Subsequently, at each reporting date between the grant date and settlement date, the fair value of the liability is remeasured with any changes in fair value recognized in profit or loss for the year. DSUs outstanding at September 30, 2022 had a fair value of $0.3 million which is included in other liabilities on the balance sheet (December 31, 2021 – $0.8 million).

Options

The following summarizes options granted, exercised, forfeited and expired during the periods:

Number of Weighted average
options exercise price C$
Outstanding at December 31, 2020 4,774,328 6.52

Forfeited		 (39,094
)		 7.07
Outstanding at September 30, 2021 4,735,234 6.51
Outstanding at December 31, 2021 4,064,489 6.64

Forfeited		 (2,530,120
)		 6.40
Outstanding at September 30, 2022 1,534,369 7.03
Exercisable at September 30, 2022 1,534,369 7.03

Range of exercise prices outstanding at September 30, 2022:

Options outstanding Options exercisable
Weighted
Weighted		 Weighted
Weighted
average
average		 average
average
Number
remaining
exercise		 Number
remaining
exercise
Range of exerciseprices outstanding
life
priceC$		 exercisable
life
priceC$
C$4.01 – C$5.00 15,025
2.14
4.12		 15,025
2.14
4.12
C$6.01 – C$7.00 784,367
1.31
6.33		 784,367
1.31
6.33
C$7.01 – C$8.00 734,977
1.63
7.84		 734,977
1.63
7.84
Total 1,534,369 1,534,369

Dilutive Instruments

For the three and nine months ended September 30, 2022, 1.5 million options (2021 – 4.7 million), 2.8 million RSUs and PRSUs (2021 – 4.4 million) and 127.5 million shares, which would be issued if the principal amount of the Debentures were settled in our common shares at the quarter end share price (2021 – 10.3 million), were excluded from the diluted weighted average number of common shares calculation as their effect would have been anti-dilutive to the net loss per share.

14

11. REVENUE

In the following table, revenue is disaggregated by performance obligation and timing of revenue recognition. All revenue comes from contracts with customers. See Note 12 for the disaggregation of revenue by geographic region.

For the Three Months Ended
September 30,		 For the Three Months Ended
September 30,		 For the Nine Months Ended
September 30,		 For the Nine Months Ended
September 30,
2022 2021 2022 2021
Product 39,092 29,569 110,383 91,867
Transportation 5,022 3,294 13,878 9,277
LicensefeesfromConstruction Partners 193 191 588 539
Total product revenue 44,307 33,054 124,849 101,683
Installationand otherservices 2,440 1,044 4,885 2,982
46,747 34,098 129,734 104,665

DIRTT sells its products and services pursuant to fixed-price contracts, which generally have a term of one year or less. The transaction price used in determining the amount of revenue to recognize is based upon agreed contractual terms with the customer and is not subject to variability.

For the Three Months Ended
September 30,		 For the Three Months Ended
September 30,		 For the Nine Months Ended
September 30,		 For the Nine Months Ended
September 30,
2022 2021 2022 2021
At a point in time 44,114 32,863 124,261 101,144
Overtime 2,633 1,235 5,473 3,521
46,747 34,098 129,734 104,665

Revenue recognized at a point in time represents the majority of the Company’s sales and revenue is recognized when a customer obtains legal title to the product, which is when ownership of products is transferred to, or services are delivered to the contract counterparty. Revenue recognized over time is limited to installation and other services provided to customers and is recorded as performance obligations which are satisfied over the term of the contract.

Contract Liabilities

As at
September 30, 2022 December 31, 2021 December 31, 2020
Customer deposits 2,598 1,959 1,292
Deferredrevenue 429 461 527
Contract liabilities 3,027 2,420 1,819

Contract liabilities primarily relate to deposits received from customers and deferred revenue from license subscriptions. The balance of contract liabilities was higher as at September 30, 2022 compared to December 31, 2021 mainly due to the timing of orders and payments. Contract liabilities as at December 31, 2021 and 2020 totaling $2.4 million and $1.7 million, respectively, were recognized as revenue during the nine months ended September 30, 2022 and 2021, respectively.

15

Sales by Industry

The Company periodically reviews the growth of product and transportation revenue by vertical market to evaluate the success of industry-specific sales initiatives. The nature of products sold to the various industries is consistent and therefore review is focused on sales performance.

For the Three Months Ended
September 30,		 For the Three Months Ended
September 30,		 For the Nine Months Ended
September 30,		 For the Nine Months Ended
September 30,
2022 2021 2022 2021
Commercial 31,796 20,805 85,458 55,981
Healthcare 3,638 5,017 15,693 25,680
Government 3,358 3,149 11,680 11,579
Education 5,322 3,892 11,430 7,904
LicensefeesfromConstruction Partners 193 191 588 539
Total product and transportation revenue 44,307 33,054 124,849 101,683
Installationand otherservices 2,440 1,044 4,885 2,982
46,747 34,098 129,734 104,665

12. SEGMENT REPORTING

The Company has one reportable and operating segment and operates in two principal geographic locations - Canada and the United States. Revenue continues to be derived almost exclusively from projects in North America and predominantly from the United States, with periodic international projects from North American Construction Partners. The Company’s revenue from operations from external customers, based on location of operations, and information about its non-current assets, is detailed below.

Revenue from external customers

For the Three Months Ended
September 30,		 For the Three Months Ended
September 30,		 For the Three Months Ended
September 30,		 For the Nine Months Ended
September 30,		 For the Nine Months Ended
September 30,
2022 2021 2022 2021
Canada 7,191 4,405 19,859 11,860
U.S. 39,556 29,693 109,875 92,805
46,747 34,098 129,734 104,665

Non-current assets[(1) ]

As at As at
September 30,
2022		 December 31,
2021
Canada 29,931 34,912
U.S. 55,310 60,723
85,241 95,635

(1) Amounts include property, plant and equipment, capitalized software, operating lease right-of-use assets, and other assets.

13. INCOME TAXES

As at September 30, 2022, the Company had a valuation allowance of $28.1 million against deferred tax assets as the Company has experienced cumulative losses in recent years (December 31, 2021 – $17.3 million).

16

14. COMMITMENTS

As at September 30, 2022, the Company had outstanding purchase obligations of approximately $2.1 million related to inventory and property, plant and equipment purchases (December 31, 2021 – $3.7 million). As at September 30, 2022, the Company had undiscounted operating lease liabilities of $53.1 million (December 31, 2021 – $49.7 million).

15. SUBSEQUENT EVENTS

On November 14, 2022, the Company entered into irrevocable subscription agreements with its two largest shareholders, 22 NW Fund, LP (“22NW”) and 726 BC LLC and 726 BF LLC (together “726”) and all the directors and officers of the Company to issue up to 8.8 million shares for gross proceeds of approximately $3.0 million, based on the higher of the Nasdaq closing price on November 14, 2022, and the volume weighted average trading price of the common shares on the Toronto Stock Exchange for the 5 days following the announcement (the “Private Placement”). In addition, in connection with the Private Placement, the two shareholders, or their principals, have irrevocably committed to backstopping any rights offering occurring by the Company in the next twelve months in the aggregate amount of $2.0 million and the shortfall, if any, between the maximum anticipated gross proceeds under the Private Placement, being $3.0 million, and the actual gross proceeds received by the Company.

17

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