Spectra7 Microsystems Inc. — Interim / Quarterly Report 2023

Aug 22, 2023

Unaudited Condensed Interim Consolidated Financial Statements of

SPECTRA7 MICROSYSTEMS INC.

For the Three and Six Months Ended June 30, 2023 and 2022

(Expressed in United States Dollars)

The accompanying unaudited condensed interim consolidated financial statements of Spectra7 Microsystems Inc. (the “Company”) have been prepared by and are the responsibility of the Company’s management and approved by the Board of Directors of the Company.

The Company’s independent auditor has not performed a review of these unaudited condensed interim consolidated financial statements in accordance with standards established by the Canadian Institute of Chartered Professional Accountants for a review of interim financial statements by an entity’s auditor.

SPECTRA7 MICROSYSTEMS INC.

(Unaudited)

For the Three and Six Months Ended June 30, 2023 and 2022

Table of Contents

	Page
Condensed Interim Consolidated Statements of Loss and Comprehensive Loss	1
Condensed Interim Consolidated Statements of Changes in Shareholders’ Equity (Deficiency)	2 – 3
Condensed Interim Consolidated Statements of Financial Position	4
Condensed Interim Consolidated Statements of Cash Flows	5
Notes to the Condensed Interim Consolidated Financial Statements	6 – 15

SPECTRA7 MICROSYSTEMS INC.

Condensed Interim Consolidated Statements of Loss and Comprehensive Loss (Unaudited) For the Three and Six Months Ended June 30, 2023 and 2022 (Expressed in United States Dollars)

	Three Months Ended June 30,	Three Months Ended June 30,	Six Months Ended June 30,	Six Months Ended June 30,
	2023	2022	2023	2022
	$	$	$	$
Revenue	3,266,399	3,531,975	6,400,863	5,616,041
Cost of sales	1,210,673	2,004,329	2,382,549	3,195,675
Gross margin	2,055,726	1,527,646	4,018,314	2,420,366
Expenses (Income):
Research and development, net of investment tax
credits and including amortization of licenses	1,194,609	1,157,735	2,189,388	2,272,550
Sales and marketing	252,413	257,649	521,039	422,810
General and administrative	891,429	875,076	1,772,467	1,998,944
Depreciation of right-of-use assets	60,088	113,429	120,124	173,466
Depreciation of property and equipment	8,460	9,947	16,226	31,230
Share-based compensation_(Note 7(b))_	485,821	646,070	1,026,672	1,499,226
Interest on lease obligation of right-of-use asset	3,527	5,555	4,962	12,392
(Note 4)
Accretion and interest expense_(Note 6)_	389,120	231,942	759,064	587,005
Other Income	(12,373)	-	(12,373)	-
Foreign exchange(gain)loss	57,134	34,101	(14,786)	(11,098)
Total Expenses	3,330,228	3,331,504	6,382,783	6,986,525
Grant Income	-	(217,105)	-	(217,105)
Net Loss	(1,274,502)	(1,586,753)	(2,364,469)	(4,349,054)
Other comprehensive loss:
Unrealized foreign currencytranslation	(1,133)	(48,357)	(1,422)	(29,100)
Total comprehensive loss	(1,275,635)	(1,635,110)	(2,365,891)	(4,378,154)
Loss per share
Basic and diluted	(0.03)	(0.05)	(0.06)	(0.13)
Weighted average number of common
shares outstanding
Basic and diluted	39,827,304	33,452,366	37,380,626	33,268,145

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

Page | 1

SPECTRA7 MICROSYSTEMS INC.

Condensed Interim Consolidated Statements of Changes in Shareholders’ Equity (Deficiency) (Unaudited) For the Three and Six Months Ended June 30, 2023 and 2022

(Expressed in United States Dollars)

				Convertible
				debentures -			Accumulated
			Share-based	share			other
	Common	Common	payment	conversion			comprehensive
	shares	shares	reserve	option	Warrants	Deficit	loss	Total Equity
	#	$	$	$	$	$	$	$
Balance, December 31, 2021	33,074,937	167,674,271	4,493,506	911,274	3,667,941	(172,774,180)	(417,974)	3,554,838
Shares issued under Restricted Share Unit
plan	468,063	718,481	(718,481)	-	-	-	-	-
Conversions of convertible debt to shares
(Note 6)	4,593	3,975	-	-	-	-	-	3,975
Share-based compensation expense_(Note_
7(b)(ii)	-	-	1,499,226	-	-	-	-	1,499,226
Shares issued upon exercise of stock options	2,500	1,965	-	-	-	-	-	1,965
Total comprehensive loss	-	-	-	-	-	(4,349,054)	(29,100)	(4,378,154)
Balance, June 30, 2022	33,550,093	168,398,692	5,274,251	911,274	3,667,941	(177,123,234)	(447,074)	681,850

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

Page | 2

SPECTRA7 MICROSYSTEMS INC.

Condensed Interim Consolidated Statements of Changes in Shareholders’ Equity (Deficiency) (Unaudited) For the Three and Six Months Ended June 30, 2023 and 2022

(Expressed in United States Dollars)

				Convertible
				debentures -			Accumulated
			Share-based	share			other
	Common	Common	payment	conversion			comprehensive
	shares	shares	reserve	option	Warrants	Deficit	Income (loss)	Total Equity
	#	$	$	$	$	$	$	$
Balance, December 31, 2022	33,689,934	168,991,070	5,718,126	1,514,142	3,902,307	(179,815,622)	268,885	578,908
Shares issued under Restricted Share Unit
plan	147,370	33,362	(33,362)	-	-	-	-	-
Private Placement March 2023 Equity, net of
issuance costs_(Note 7(a))_	5,990,000	1,884,520	-	-	1,992,688	-	-	3,877,208
Share-based compensation expense_(Note_
7(b)(iii))	-	-	1,026,672	-	-	-	-	1,026,672
Total comprehensive loss	-	-	-	-	-	(2,364,469)	(1,422)	(2,365,891)
Balance, June 30, 2023	39,827,304	170,908,952	6,711,436	1,514,142	5,894,995	(182,180,091)	267,463	3,116,897

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

Page | 3

SPECTRA7 MICROSYSTEMS INC.

Condensed Interim Consolidated Statements of Financial Position (Unaudited) June 30, 2023 and December 31, 2022

(Expressed in United States Dollars)

June 30, 2023 and December 31, 2022 (Expressed in United States Dollars)
	June 30,	December 31,
	2023	2022
	$	$
Assets
Current assets:
Cash	2,646,822	772,255
Trade and other receivables	4,188,603	2,526,848
Investment tax credits	5,562	5,562
Inventories	3,019,798	3,523,719
Prepaid expenses and otherassets	689,150	920,026
	10,549,935	7,748,410
Non-current investment tax credits	7,983	7,983
Property and equipment	287,095	400,796
Right-of-use assets_(Note 3)_	200,376	80,048
Intangible assets	64,075	69,897
	11,109,464	8,307,134
Liabilities
Current liabilities:
Trade and other payables	1,991,349	1,932,000
Deferred revenue	-	68,750
Lease obligationon right-of-use assets (Note 4)	201,817	87,204
	2,193,166	2,087,954
Non-current convertible debentures (Note 6)	5,799,401	5,640,272
	7,992,567	7,728,226
Shareholders' Equity
Common shares_(Note 7(a))_	170,908,952	168,991,070
Share-based payment reserve	6,711,436	5,718,126
Convertible debentures - share conversion option_(Note 6)_	1,514,142	1,514,142
Warrants_(Note 7(c))_	5,894,995	3,902,307
Deficit	(182,180,091)	(179,815,622)
Accumulated othercomprehensiveincome(loss)	267,463	268,885
	3,116,897	578,908
	11,109,464	8,307,134

Nature of operations, going concern and continuation of the business (Note 1)

Signed on behalf of the Board:

"Ron Pasek"

Director

"Raouf Halim"

Director

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

Page | 4

SPECTRA7 MICROSYSTEMS INC.

Condensed Interim Consolidated Statements of Cash Flows (Unaudited) Three and Six Months Ended June 30, 2023 and 2022

(Expressed in United States Dollars)

Three and Six Months Ended June 30, 2023 and 2022 (Expressed in United States Dollars)
	Six months	ended June 30,
	2023	2022
	$	$
Operating activities:
Net Loss	(2,364,469)	(4,349,054)
Items not involving cash:
Amortization of license	181,289	306,726
Depreciation of property and equipment	81,024	31,230
Depreciation of right-of-use assets_(Note 3)_	120,124	173,466
Share-based compensation_(Note 7)_	1,026,672	1,499,226
Accretion and interest expense_(Note 6)_	759,064	587,005
Recognition of government grant	-	(217,105)
Loss ondisposalofequipment	45,374	-
	(150,922)	(1,968,506)
Net change in non‑cash working capital items
Trade and other receivables	(1,661,755)	(1,161,539)
Inventories	503,921	(1,228,766)
Prepaid expenses and other assets	230,875	266,095
Trade and other payables	59,350	1,141,403
Deferred Revenue	(68,750)	-
	(1,087,281)	(2,951,313)
Grant funds received		217,105
Interest paid_(Note 6)_	(892,064)	(219,040)
	(1,979,345)	(2,953,248))
Financing activities:
Proceeds from March 2023 private placement	3,877,207	-
Proceeds from exercise of stock options_(Note 7_)	-	1,965
Repayment of lease obligation on right-of-use assets_(Note 4)_	(125,839)	(118,407)
	3,751,368	(116,442)
Investing activities:
Acquisition of property and equipment	(12,700)	(160,233)
Acquisitionof licenses	(175,467)	(108,416)
	(188,167)	(268,649)
Effect of foreignexchangerate changes oncash	290,711	(33,690)
(Decrease)/Increase in cash	1,874,567	(3,372,029)
Cash, beginning ofperiod	772,255	5,944,155
Cash,end ofperiod	2,646,822	2,572,126

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

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SPECTRA7 MICROSYSTEMS INC. Notes to the Condensed Interim Consolidated Financial Statements (Unaudited) For the Three and Six Months Ended June 30, 2023 and 2022 (Expressed in United States Dollars)

1. Nature of operations, going concern and continuation of the business

Spectra7 Microsystems Inc. (the “Company” or “Spectra7”), is a publicly traded company listed on the TSX Venture Exchange (the “TSXV”). The Company delivers high performance analog semiconductors at unmatched bandwidth, speed and resolution to enable disruptive industrial design for leading electronics manufacturers in data centers, Virtual Reality (“VR”), Augmented Reality (“AR”) and other connectivity markets.

The Company is domiciled in Canada and its registered office is located at 181 Bay Street, Suite 1800, Toronto, Canada M5J 2T9.

The Company’s condensed interim consolidated financial statements have been prepared on a going concern basis. The going concern basis of presentation assumes that the Company will continue its operations for the foreseeable future and be able to realize the carrying value of its assets and discharge its liabilities in the normal course of operations. The Company incurred a comprehensive loss of $2,365,891 for the six months ended June 30, 2023 (June 30, 2022 - $4,378,154) and has an accumulated deficit of $182,180,091 (December 31, 2022 - $179,815,622). To date, the Company has funded operations through debt financings and through private and public equity offerings. These factors represent material uncertainties that may cast significant doubt upon the Company’s ability to continue as a going concern. The Company’s ability to continue as a going concern is dependent upon its ability to obtain additional financing and/or achieve profitable operations in the future. The condensed interim consolidated financial statements do not reflect adjustments that would be necessary if the going concern assumption were not appropriate.

The COVID-19 pandemic has negatively impacted the Company and its impact on the data center programs is uncertain. While demand for the Company’s new data center products remains strong, Spectra7 continues to experience significant customer disruptions, logistics and supply chain challenges caused by the associated shutdowns due to COVID-19 that are expected to continue to impact overall revenues in the near term. The Company continues to pursue the best available paths to manage operational risk and preserve capital during this time.

2. Basis of presentation

a) Statement of compliance

These condensed interim consolidated financial statements have been prepared in accordance with International Financial Reporting Standards ("IFRS") as issued by the International Accounting Standards Board (“IASB”), using International Accounting Standard 34, Interim Financial Reporting (“IAS 34”).

These condensed interim consolidated financial statements do not include all of the information required for full annual consolidated financial statements and should be read in conjunction with the Company’s audited consolidated financial statements for the years ended December 31, 2022 and 2021.

Except as noted below, the Company has followed the same basis of presentation, accounting policies and method of computation for these condensed interim consolidated financial statements as were disclosed in the audited consolidated financial statements for the years ended December 31, 2022 and 2021.These consolidated financial statements have been prepared in accordance with IFRS as issued by the IASB.

These condensed interim consolidated financial statements were approved for issuance by the Board of Directors on August 21, 2023.

b) Basis of measurement

The condensed interim consolidated financial statements have been prepared on the historical cost basis except for certain financial instruments measured at fair value through profit or loss. Historical cost is generally based on the fair value of the consideration given in exchange for assets.

These condensed interim consolidated financial statements are presented in United States dollars. The Company's functional currency is Canadian dollars.

c) Basis of consolidation

The condensed interim consolidated financial statements incorporate the financial statements of the Company and

Page | 6

SPECTRA7 MICROSYSTEMS INC.

Notes to the Condensed Interim Consolidated Financial Statements (Unaudited) For the Three and Six Months Ended June 30, 2023 and 2022 (Expressed in United States Dollars)

its wholly owned subsidiaries and their corresponding functional currencies:

Spectra7 Microsystems Corp., a company incorporated under the laws of Ontario (USD); Spectra7 Microsystems Ltd., a company incorporated under the laws of Delaware (USD); Spectra7 Microsystems (Ireland) Limited, a company incorporated under the laws of Ireland (USD); and Si Bai Ke Te (Dongguan) Electronics Trading Co. Ltd., a China wholly foreign owned enterprise (CNY) .

All intercompany balances and transactions are eliminated in full on consolidation.

d) Critical accounting estimates and judgements

The Company uses the same critical accounting estimates and judgements as those that applied to the annual consolidated financial statements for the year ended December 31, 2022.

3. Right-of-use assets

The following table sets forth the right-of-use assets:

	$
Balance, January 1, 2022	320,194
Depreciation	(293,539)
Lease Amendment	53,393
Balance, December 31, 2022	80,048
Depreciation	(120,124)
Lease Amendment	240,452
Balance, June 30, 2023	200,376

The Company recorded a right-of-use assets and a corresponding lease obligation of $240,452 using an incremental borrowing rate of 8.75% in 2023 when the Company entered into an amendment to extend the lease for its headquarters through April 2024.

4. Lease obligations on right-of-use assets

The present value of the remaining minimum lease payments on the obligations for right-of-use assets as at June 30, 2023 are as follows:

	$
Balance, January 1, 2022	331,758
Repayments	(264,000)
Interest	19,446
Balance, December 31, 2022	87,204
Lease Amendment	240,452
Repayments	(130,800)
Interest	4,961
Balance, June 30, 2023	201,817
Current	201,817
Non-current	-

Page | 7

SPECTRA7 MICROSYSTEMS INC. Notes to the Condensed Interim Consolidated Financial Statements (Unaudited) For the Three and Six Months Ended June 30, 2023 and 2022 (Expressed in United States Dollars)

5. Inventories

	June 30,	December 31,
	2023	2022
	$	$
Work-in-progress	2,778,679	3,362,138
Finishedgoods	508,250	428,712
	3,286,929	3,585,312
Less:provision forobsolescence	(267,131)	(267,131)
	3,019,798	3,523,719

Inventories recognized as cost of sales for the six months ended June 30, 2023 amounted to $2,298,455 ($3,291,349 for the six months ended June 30, 2022).

6. Convertible debentures

	$
Balance, January 1, 2022	5,947,307
Repayment of principal	(6,346,555)
Proceeds from issuance of convertible debt	6,730,570
Allocation to equity	(602,868)
Finder warrants, allocated to transaction costs	(234,366)
Transaction costs	(387,761)
Accretion and interest expense	1,474,501
Repayment of interest	(438,290)
Repayment of interest in shares	(3,975)
Foreign exchange translation adjustment	(498,291)
Balance, December 31, 2022	5,640,272
Accretion and interest expense	759,064
Repayment of interest	(892,064)
Foreign exchange translation adjustment	292,129
Balance, June 30, 2023	5,799,401

The Company's convertible debentures are subject to certain covenants including restrictions against incurring certain additional indebtedness. As at June 30, 2023, the Company was in compliance with all covenants. During the year ended December 31, 2022, 4,593 common shares were issued to repay interest due for $3,975.

As of January 1, 2022, the Company had 7% unsecured convertible debentures (“7% Debentures”) with an aggregated principal amount of $6,226,374 (CDN $8,067,800). On July 26, 2022, the Company entered into a third supplemental convertible debenture indenture (the “Third Supplemental Indenture”) to amend certain terms and conditions of the 7% Debentures. Pursuant to the Third Supplemental Indenture, the maturity date of the 7% Debentures was extended to September 9, 2022. The Company repaid 20% of the outstanding principal amount together with the 10% bonus principal outstanding on the 7% Debentures on August 2, 2022, including accrued and unpaid interest, totaling CDN $2,600,704. The principal outstanding after the payment was CDN $5,422,400. As consideration for the extension, the Company agreed to pay non-convertible extension bonuses at maturity of an aggregate of approximately CDN $199,978. As at September 2, 2022, the Company repaid the remaining balance of the 7% Debentures in full. The total amount repaid was $6,346,555 (CDN $8,067,800) principal amount,

Page | 8

SPECTRA7 MICROSYSTEMS INC.

Notes to the Condensed Interim Consolidated Financial Statements (Unaudited) For the Three and Six Months Ended June 30, 2023 and 2022 (Expressed in United States Dollars)

$62,637 (CDN $80,802) of accrued and unpaid interest thereon, as well as $157,321 (CDN $199,978) of the extension bonus and $1,115 (CDN $1,438) of associated interest. The 7% Debentures were repaid in full effective September 2, 2022.

On July 26, 2022, the Company announced a non-brokered private placement (the “Offering”) of the 14% convertible unsecured debentures (the “14% Debentures”) and completed the first tranche of the Offering through the issuance of $2,940,739 (CDN $3,809,000) principal amount of 14% Debentures for gross proceeds of $2,881,924 (CDN $3,732,820). On August 25, 2022, the Company entered into a first supplemental convertible debenture indenture to increase the size of the Offering and completed the second tranche of the Offering through the issuance of $3,927,162 (CDN $5,064,000) principal amount of the 14% Debentures for gross proceeds of $3,848,619 (CDN $4,962,720). In aggregate, the Offering consisted of the issuance of $6,867,901 (CDN $8,873,000) principal amount of 14% Debentures for gross proceeds of $6,730,543 (CDN $8,695,540). Proceeds from the Offering were primarily used to repay the 7% Debentures.

Each CDN $1,000 principal amount of 14% Debentures was sold at a subscription price of CDN $980. The 14% Debentures mature on December 31, 2024 and the principal amount is convertible into common shares at the option of the holder at any time prior to the close of business on the last business day immediately preceding maturity, at a conversion price of CDN $1.02 per common share, subject to adjustment upon certain customary events. Holders converting their 14% Debentures will receive accrued and unpaid interest thereon for the period from and including the date of the latest interest payment date to, and including, the date of conversion. In connection with the Offering, the Company paid $387,761 (CDN $500,968) in finder’s fees and issued an aggregate of 401,603 finder’s warrants, with each such warrant entitling the holder thereof to purchase one common share at a price of $1.02 for a period of two years from the date of issuance.

The Company determines the carrying amount of the financial liability using the present value of future cash flows with the principal amount of $6,694,367 and a discount rate of 25.8%. Debt component is being amortized using an effective interest rate of approximately 21% over its remaining term. The liability component is then increased by accretion of the discounted amounts to reach the nominal value of the convertible notes at maturity which is recorded in the statement of loss and comprehensive loss as accretion expense.

The carrying amount of other components (when applicable), such as warrants, is determined using the Black Scholes option pricing model based on the following assumptions: volatility of 172%, expected term of 2 years, risk free rate of 3.12% and zero dividend. The carrying amount of the equity component is calculated by deducting the carrying amount of the financial liability and the carrying amounts of any other components from the amount of the convertible notes, and is presented in Equity as an equity component of convertible notes.

The transaction costs are distributed between liability, equity and other (when applicable) components, on a pro rata basis according to their carrying amounts. Accordingly, the face value of the 14% Debentures, net of issuance costs, were allocated as follows:

	$
Liability component	335,758
Conversion feature	52,003
Transaction costs	387,761

7. Shareholders' equity

(a) Common shares

Authorized share capital consists of an unlimited number of common shares.

(i) March 2023 Private Placement

On March 15, 2023, the Company completed a brokered private placement (the “March 2023 Private Placement”) of 5,990,000 units (the "March 2023 Units") at a price of CDN $1.00 per March 2023 Unit for aggregate gross proceeds of $4,342,750 (CDN $5,990,000). Each March 2023 Unit consists of one common share and one common share purchase warrant (each, a "March 2023 Warrant") with each March 2023 Warrant being exercisable into one common share at an exercise price of CDN $1.18 until March 15, 2028, subject to adjustment upon certain customary events. The expiry date of the March 2023 Warrants can be accelerated by the Company to the date

Page | 9

SPECTRA7 MICROSYSTEMS INC.

Notes to the Condensed Interim Consolidated Financial Statements (Unaudited) For the Three and Six Months Ended June 30, 2023 and 2022

(Expressed in United States Dollars)

that is thirty (30) days following the delivery of an acceleration notice to the holders of the March 2023 Warrants if, at any time following the closing date of the March 2023 Private Placement, the closing price of the common shares is greater than CDN $4.00 for a period of 10 non-consecutive trading days on the TSXV.

In connection with the March 2023 Private Placement, the Company paid a commission of $291,183 (CDN $401,632) and issued 229,504 broker warrants, with each broker warrant being exercisable into one common share at a price of CDN $1.10 for the period commencing on the date that is six months after the closing date until the fifth anniversary of the closing date. Gross proceeds from the March 2023 Private Placement were allocated to the common shares and warrants based on their relative fair values, net of issuance costs. The fair value of the warrants was determined using the Black Scholes option pricing model based on the following assumptions: volatility of 172%, expected term of 5 years, risk free rate of 3.59% and zero dividend. The equity portion allocated to warrant was $1,992,688.

(b) Share-based compensation

The Company has established a stock option plan (the “Stock Option Plan”) and a restricted share unit plan (the “RSU Plan”) with the intention of attracting, retaining and motivating employees, officers and directors.

The Company’s Board of Directors determines, among other things, the eligibility of individuals to participate in the RSU Plan and the Stock Option Plan and the term, vesting periods, and the exercise price of options granted under the Stock Option Plan.

At the annual and special meeting of shareholders in June 2023, shareholders approved amendments to both the Stock Option Plan and the RSU Plan to provide that the combined maximum number of common shares reserved for issuance under both the Stock Option Plan and the RSU Plan, inclusive of existing stock options and RSUs, shall not exceed 20% of the then outstanding common shares or 7,965,460 common shares.

(i) Restricted Share Units (RSU)

Vesting is determined by the Company’s Board of Directors at the time of grant. Vesting is contingent upon continuous service/employment through the specific vesting date. The fair value as of the grant date is used to determine the value.

The following table summarizes information about the Company’s outstanding RSUs as at June 30, 2023 and 2022:

	June 30,	June 30,
	2023	2022
	#	#
Balance, January 1	4,328,217	2,907,256
Granted	930,590	688,209
Forfeited	(1,000)	(117,980)
Vested and Sharesissued	(147,370)	(468,063)
Balance, ending	5,110,437	3,010,122

(ii) Stock options

Vesting is determined by the Company’s Board of Directors at the time of grant. Vesting is contingent upon continuous service/employment through the specific vesting date. Options have an exercise price as set forth in the option certificate issued in respect of such options and in any event shall not be less than market price of the common shares as of the award date. The expiry date of an option is fixed by the Board of Directors at the time the particular option is awarded, provided that the expiry date shall be no later than the date that is 10 years following the award date of such option, subject to earlier termination upon the option holder ceasing to be a director, officer, employee or consultant of the Company.

The following table summarizes information about the Company’s outstanding stock options as at June 30, 2023 and 2022:

Page | 10

SPECTRA7 MICROSYSTEMS INC.

Notes to the Condensed Interim Consolidated Financial Statements (Unaudited) For the Three and Six Months Ended June 30, 2023 and 2022 (Expressed in United States Dollars)

	June 30, 2023	June 30, 2023	June 30,	2022
		Weighted		Weighted
	Number of	Average	Number of	Average
	Options	Price	Options	Price
	#	CDN $	#	CDN $
Options outstanding, January 1	259,768	1.38	298,274	2.43
Granted	-	-	-	-
Exercised	-	-	-	-
Expired	-	-	-	-
Forfeited	(4,468)	22.45	(31,606)	5.41
Options outstanding, ending	255,300	1.52	266,668	1.92

The following table is a summary of the Company’s stock options outstanding as at June 30, 2023:

		Options Outstanding	Options Outstanding	OptionsExercisable	OptionsExercisable
		Weighted
		average
		remaining	Weighted		Weighted
Exercise	Number	contractual	average	Number	average
pricerange	outstanding	life (years)	exercise price	exercisable	exercise price
CDN $	#	#	CDN $	#	CDN $
1.00 – 1.90	254,000	4.80	1.46	254,000	1.46
9.50 – 26.00	1,300	1.11	11.83	1,300	11.83
Balance,
June 30, 2023	255,300	4.78	1.52	255,300	1.52

The following table is a summary of the Company’s stock options outstanding as at June 30, 2022:

Options Outstanding OptionsExercisable	Options Outstanding OptionsExercisable
Exercise price range Number outstanding Weighted average remaining contractual life(years)	Weighted average exerciseprice Number exercisable Weighted average exerciseprice
CDN $ # # 1.00 – 1.90 280,000 6.27 10.50–34.00 6,668 1.22	CDN $ # CDN $ 1.46 240,000 1.42 19.80 8,432 22.19
Balance, June 30,2022 266,668 6.15	1.92 248,432 2.12

(iii) Share-based compensation expense

For its RSU Plan and Stock Option Plan, the Company recognized share-based compensation expense of $1,026,672 for the six months ended June 30, 2023 ($1,499,226 for the six months ended June 30, 2022) with a corresponding amount recognized as share-based payment reserve.

The fair value of the RSUs is determined based upon the Company’s stock price on the date of grant. There were no stock options granted during the six months ended June 30, 2023 and 2022.

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SPECTRA7 MICROSYSTEMS INC. Notes to the Condensed Interim Consolidated Financial Statements (Unaudited) For the Three and Six Months Ended June 30, 2023 and 2022 (Expressed in United States Dollars)

(c) Warrants

The following table summarizes information about the Company’s outstanding warrants as at June 30, 2023 and 2022:

nd 2022:
	**June **	30, 2023	June 30,2022
		Weighted			Weighted
	Number	Average	Number		Average
	of Warrants	Price	of Warrants		Price
	#	CDN $	#		CDN $
Balance, January 1	9,756,307	3.09	9,398,804		3.23
Warrants component of March 2023 Private
Placement (Note 7 (a))	5,990,000	1.18		-	-
Broker Warrants component of March 2023
Private Placement (Note 7 (a))	229,504	1.10
Warrants expired	(242,489)	-	(44,100)		15.00
Balance, ending	15,733,322	2.35	9,354,704		3.17

The following is a summary of the warrants outstanding by exercise price as at June 30, 2023:

Number of warrants outstanding	Exercise Price	Expiry Date
Warrants (1)
283,363	CDN $7.875	July 6, 2023
324,122	CDN $11.25	October 30, 2023
1,584,316	CDN $4.00	August 21, 2024
210,469	CDN $2.50	July 15, 2025
166,779	CDN $2.50	September 25, 2025
1,140,138	CDN $2.50	January 15, 2026
478,665	CDN $2.50	February 12, 2026
4,223,141	CDN $2.50	May 14, 2026
5,990,000	CDN $1.18	March 15, 2028
Broker Warrants (Compensation Options)
9,943	CDN $7.875	July 6, 2023
411,028	CDN $1.32	October 26, 2023
28,941	CDN $11.25	October 30, 2023
118,055	CDN $1.02	July 26, 2024
251,310	CDN $2.50	August 21, 2024
283,548	CDN $1.02	August 25, 2024
229,504	CDN $1.10	March 15, 2028

(1) Subject to acceleration in certain circumstances.

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SPECTRA7 MICROSYSTEMS INC.

Notes to the Condensed Interim Consolidated Financial Statements (Unaudited) For the Three and Six Months Ended June 30, 2023 and 2022 (Expressed in United States Dollars)

The following is a summary of the warrants outstanding as at June 30, 2022:

Number of warrants outstanding	Exercise Price	Expiry Date
Warrants (1)
283,363	CDN $7.875	July 6, 2023
324,122	CDN $11.25	October 30, 2023
1,584,316	CDN $4.00	August 21, 2024
210,469	CDN $2.50	July 15, 2025
166,779	CDN $2.50	September 25, 2025
1,140,138	CDN $2.50	January 15, 2026
478,665	CDN $2.50	February 12, 2026
4,223,141	CDN $2.50	May 14, 2026
Broker Warrants (Compensation Options)
242,489(2)	CDN $1.50	May 14, 2023
9,943	CDN $7.875	July 6, 2023
411,028	CDN $1.32	October 26, 2023
28,941	CDN $11.25	October 30, 2023
251,310	CDN $2.50	August 21, 2024

• (1) Subject to acceleration in certain circumstances.

• (2) Convertible into one common share and one warrant exercisable at CDN $2.50.

8. Related party transactions and balances

The Company transacts with key individuals from management and with its directors who have authority and responsibility to plan, direct and control the activities of the Company. The nature of these dealings was in the form of payments for services rendered in their capacity as employees and as directors of the Company and are recorded at their fair value.

The Company's key management personnel are comprised of the Board of Directors and current and former members of the executive team of the Company.

Key management personnel compensation is comprised of the following:

	Three Months Ended	Three Months Ended	Six Months Ended	Six Months Ended
	June 30,		June	30,
	2023	2022	2023	2022
	$	$	$	$
Salaries, fees and short-term benefits	269,250	62,500	659,900	383,000
Share-based benefits	294,774	375,696	622,950	823,124
Total	564,024	438,196	1,282,850	1,206,124

As at June 30, 2023, the amount owing to directors and officers was $291,900 ($383,000 for the six months ended June 30, 2022).

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SPECTRA7 MICROSYSTEMS INC. Notes to the Condensed Interim Consolidated Financial Statements (Unaudited) For the Three and Six Months Ended June 30, 2023 and 2022

(Expressed in United States Dollars)

9. Economic dependence

During the three and six months ended June 30, 2023, the Company derived approximately 100% and 100% of its revenue from two customers, respectively (three and six months ended June 30, 2022 – 100% and 93% from two customers, respectively).

10. Financial instruments

The Company’s financial instruments consist of cash, trade and other receivables, trade and other payables, lease obligation on right of use assets and convertible debt. These financial instruments are classified as financial assts and liabilities at amortized cost and are reported at amortized cost.

Basis of fair values

Assets and liabilities recorded at fair value on the statement of financial position are classified using a fair value hierarchy that reflects the significance of the inputs used in making the measurements. The fair value hierarchy has the following levels:

Level 1 – quoted prices (unadjusted) observed in active markets for identical assets or liabilities.

Level 2 – inputs other than quoted prices included in level 1 that are observable for the asset or liability, either directly (i.e. as prices) or indirectly (i.e. derived from prices).

Level 3 – inputs for the asset or liability that are not based on observable market data (unobservable inputs)

If the inputs used to measure the fair value of an asset or liability fall into different levels of the fair value hierarchy, then the fair value measurement is categorized in its entirety in the same level of the fair value hierarchy as the lowest level input that is significant to the entire measurement.

The Company recognizes transfers between levels of the fair value hierarchy at the end of the reporting period during which the change has occurred. There have been no significant transfers between levels during the year.

The carrying value of the Company’s financial assets and liabilities approximate their fair values due to their nature and their short-term to maturity.

The Company may be exposed to risks of varying degrees of significance that affect its ability to achieve its strategic objectives. The main objectives of the Company’s risk processes are to ensure that the risks are properly identified and that the capital base is adequate in relation to those risks. The principal risks to which the Company is exposed to are as follows:

Foreign currency risk

The Company may undertake sales and purchases transactions in foreign currencies, and therefore is exposed to gains or losses due to fluctuations in foreign currency exchange rates. Management believes the foreign exchange risk derived from currency conversions is currently low and therefore does not actively hedge its foreign currency risk. There has been no change to the Company’s policies and processes with respect to the way it manages foreign currency risk.

Interest risk

Interest rate risk is the risk that the fair value of future cash flows of a financial instrument will fluctuate due to changes in market interest rates. Interest rate risk associated with the Company’s 14% Debentures arises from fluctuations in interest rates and the degree of volatility of these rates. The 14% Debentures provide for a fixed annual rate of 14% and hence no interest rate risk. The Company does not use derivative financial instruments to reduce its exposure to interest rate risk.

Credit risk

Credit risk is the risk of loss associated with a counterparty’s inability to fulfill its payment obligations. The Company’s credit risk is primarily attributable to trade and other receivables and money held in the Company’s bank accounts. The carrying value of these assets represents the maximum credit exposure. The Company mitigates this risk by monitoring the credit worthiness of its customers and only dealing with creditworthy counterparties. At June 30, 2023, three customers represented 100% of the Company’s trade and other receivables.

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SPECTRA7 MICROSYSTEMS INC. Notes to the Condensed Interim Consolidated Financial Statements (Unaudited) For the Three and Six Months Ended June 30, 2023 and 2022 (Expressed in United States Dollars)

Liquidity risk

The Company’s objective is to have sufficient liquidity to meet its liabilities when due. The Company monitors its cash balances and cash flows generated from operations to meet its requirements. There has been no change to the Company’s policies and processes with respect to the way it manages liquidity risk.

11. Capital management

The Company’s objectives when managing capital are to: (i) ensure the Company continues to operate as a going concern to maximize the return on investment to shareholders; (ii) ensure sufficient liquidity to meet the Company’s financial obligations and to execute its operating and strategic plans; and (iii) minimize the after tax cost of capital while taking into consideration current and future industry, market and economic risks and conditions. The Company’s capital structure consists of its equity, loan facility and convertible debentures. Other than covenants disclosed in convertible debentures note (Note 6), there are no externally imposed restrictions on capital.

The Company intends to maintain a flexible capital structure in order to finance its ongoing growth and respond to changes in economic conditions.

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