EFOI · Read the filing

ITEM 7.MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OFOPERATIONS

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our Consolidated Financial Statements (“financial statements”) and related notes thereto, included in Part II, Item 8, “Financial Statements and Supplementary Data,” of this Annual Report.

Overview

Energy Focus, Inc. engages primarily in the design, development, manufacturing, marketing and sale of energy-efficient LED lighting systems and controls and recently announced development of UVCD products. We develop, market and sell high quality LED lighting products and UVCD products and controls in the commercial market and MMM. Our mission is to enable our customers to run their facilities and offices with greater energy efficiency, productivity, and human health through advanced LED retrofit and UVCD solutions. Our goal is to be the LED and HCL technology and market leader for the most demanding applications where performance, quality, value (high quality at an affordable price), environmental impact and health are considered paramount. We specialize in LED lighting retrofit by replacing fluorescent, high-intensity discharge lighting and other types of lamps and fixtures in institutional buildings for primarily indoor lighting applications with our innovative, high-quality commercial and military TLED, as well as other LED and lighting control and UVCD products. On October 14, 2020, we announced the launch of our UVCD product portfolio.

In addition to continuously pursuing scheduled cost reductions, our strategy to combat these trends it to move up the value chain, with more innovative and differentiated products and solutions that offer greater, distinct value to our customers. Two specific examples of theseproducts we have developed include the RedCap®, our emergency backup battery integrated TLED, and EnFocusTM, our new dimmable/color-tunable lighting and control platform that we launched in 2020. We believe our revamped go-to-market strategy that focuses more on direct-sales marketing, selectively expanding our channel partner network that covers territories across the country, and listens to the voice of the customer, has led to better and more impactful product development efforts that we believe will eventually translate into larger addressable markets and greater sales growth for us.

Leveraging and integrating a broad range of rapidly advancing technologies including LED lighting, UV-C disinfection, electronics, software, sensors, cloud and AI, the Energy Focus UVCD solutions aim to provide impactful and affordable disinfection products for businesses and homes to effectively reduce infection risks. In addition to being ozone-free, the products are designed to guard against the risks of direct human exposure to UV-C rays. abUVTM and nUVoTM include enclosed, self-contained UV-C disinfection units that continuously inactivate viruses while reducing overall pathogen levels in the air. mUVeTM incorporates advanced sensor, machine vision and autonomous technologies to avoid human exposure during disinfection operations. We believe Energy Focus UVCD solutions are capable of providing affordable continuous disinfection with optimal effectiveness and safety. We believe that the UVCD products will open up a new, emerging and sizable market for us and expand our sales and growth potential.

Since April 2019, we have experienced significant change at the Company. Prior to James Tu returning as Chief Executive Officer and Chairman at the beginning of April 2019, the Company had experienced significant sales declines, operating losses and increases in its inventory. Immediately upon Mr. Tu returning to the Company, significant additional restructuring efforts were undertaken. The Company has since then replaced the entire senior management team, significantly reduced non-critical expenses, minimized the amount of inventory the Company was purchasing, dramatically changed the composition of our board of directors, as well as adding very selectively to the executive team by hiring Tod Nestor as President and Chief Financial Officer at the beginning of July 2019, and James R. Warren as Senior Vice President, General Counsel and Corporate Secretary in September 2020, in addition to recruiting new departmental leaders across the Company. The cost savings efforts undertaken included the Company implementing phased actions to reduce costs to minimize cash usage. Our initial actions included the elimination of certain positions, restructuring of the sales organization and incentive plan, flattening of the senior management team, additional operational streamlining, management compensation reductions, and outsourcing of certain functions including

Table of Contents

certain elements of supply chain and marketing. In connection with these actions, we recorded severance and related benefits charges of $0.2 million during the first half of 2019. These additional restructuring charges primarily related to severance and related benefits charges as a result of eliminating three positions during the first quarter of 2019 and nine positions during the second quarter of 2019, as well as costs associated with closing our offices in San Jose, California and Taipei, Taiwan in the second quarter of 2019. With quarterly sales for the Company leveling off at its low point in the third quarter of 2019 at $2.9 million, we began to see the impact of our relaunch efforts and restructuring of our sales organization in the fourth quarter of 2019 achieving sales of $3.5 million, or a sequential quarter-over-quarter growth rate of 21.1%. In addition, losses were mitigated through the better cost management and a sharp focus on better managing pricing and inventory decisions for the last half of 2019.

During 2020, we continued to see the benefits from these relaunch efforts undertaken by the new management team, in addition to a number of strategic sourcing projects completed during 2020. It is our belief that the continued momentum of the efforts undertaken in 2019 and into 2020, along with the development and launch of new and innovative products as well as an expanded sales team and distribution network, will over time result in improved sales and bottom-line performance for the Company.

We launched our EnFocusTM platform during the second quarter of 2020 and continued to receive positive feedback from existing, new, and potential new customers. The EnFocusTM platform offers two immediately available product lines: EnFocusTM DM, which provides a dimmable lighting solution, and EnFocusTM DCT, which provides both a dimmable and color tunable lighting solution. EnFocusTM enables buildings to have dimmable, color tunable and circadian-ready lighting using existing wiring, without requiring laying additional data cables or any wireless communication systems, through a relatively simple upgrade with EnFocusTM switches and tubular LEDs, a far more affordable and environmentally sustainable solution compared with replacing entire lighting fixtures and incorporating additional wired or wireless communication.

In addition, in response to the COVID-19 pandemic and an anticipated increase in sanitation and hygiene demand for buildings, facilities and homes, we started developing advanced UVCD products for both consumer as well as the commercial and industrial markets beginning in the first quarter of 2020. We announced the following three UVCD products in October 2020: abUVTM circadian lighting and UVCD air disinfection integrated troffers controlled by the EnFocusTM platform technology; nUVoTM portable disinfection device for offices and homes; and mUVeTM autonomous robot designed for surface disinfection.

In our MMM business, significant efforts undertaken to reduce costs in our product offerings have positioned us to be more competitive in this segment. Such efforts allowed us to continue to win bids and proposals that helped grow our MMM sales during 2020, offsetting some of the weakness being experienced in our commercial business. In addition, during the fourth quarter of 2020, we became an approved supplier for the General Services Administration (“GSA”) and our products are now listed in the GSA website for all federal and military agencies to view and order our products. While we continue to aggressively seek to increase sales of our commercial products, the MMM business offers us continued sales, in addition to validating our product quality and strengthening our brand trust in the marketplace.

Meanwhile, we continue to seek additional external funding alternatives and sources to support our growth strategies, plans and initiatives. We plan to achieve profitability through developing and launching new, innovative products such as EnFocusTM and our UVCD products, as well as executing on our multi-channel sales strategy that targets key verticals, such as government, healthcare, education and commercial and industrial, complemented by our marketing outreach campaigns and expanding channel partnerships. We also plan to continue to develop advanced lighting and lighting control applications built upon the EnFocusTM platform. In addition, we intend to continue to apply rigorous financial discipline in our organizational structure, business processes and policies, strategic sourcing activities and supply chain practices to help accelerate our path towards profitability.

Despite continuing progress throughout 2020 in reducing our operating losses significantly by 18.7% from December 31, 2019, the Company’s results reflect the challenges due to long and unpredictable sales cycles, unexpected delays in customer retrofit budgets and project starts, and unexpected supply chain issues, all exacerbated by the COVID-19 pandemic since early 2020. There has also been continuing aggressive price competition in the lighting industry. We continued to incur losses and we have a substantial accumulated deficit, which continues to raise substantial doubt about our ability to continue as a going concern at December 31, 2020.

The COVID-19 pandemic in particular has, and may continue to have, a significant economic and business impact on our company. Following a slowdown in the second quarter of 2020, we have seen a continuing weakness in commercial sales as customers in the healthcare, education, and commercial and industrial sectors delayed order placements in reaction to the impacts of the COVID-19 pandemic.

Table of Contents

We continue to monitor the impact of the COVID-19 pandemic on our customers, suppliers and logistics providers, and to evaluate governmental actions being taken to curtail and respond to the spread of the virus. The significance and duration of the ongoing impact on us is still uncertain. Material adverse effects of the COVID-19 pandemic on market drivers, our customers, suppliers or logistics providers could significantly impact our operating results. We also plan to continue to actively follow, assess and analyze the ongoing impact of the COVID-19 pandemic and stand ready to adjust our organizational structure, strategies, plans and processes to respond.

Because the situation continues to evolve, we cannot reasonably estimate the ultimate impact to our business, results of operations, cash flows and financial position that the COVID-19 pandemic may have. Continuation of the COVID-19 pandemic and government actions in response thereto could cause further disruptions to our operations and the operations of our customers, suppliers and logistics partners and could significantly adversely affect our near-term and long-term revenues, earnings, liquidity and cash flows. We aim to stay agile as an organization to respond to potential or continuing weakness in the macro environment and in the meantime expand sales channels and enter new markets such as UVCD that might be able to provide additional growth opportunities.

Results of operations

The following table sets forth the percentage of net sales represented by certain items reflected on our Consolidated Statements of Operations for the following periods:

Operating expenses:

Product development 8.4 10.1

Selling, general, and administrative 46.9 58.6

Restructuring (0.4) 1.6

Total operating expenses 54.9 70.3

Other expenses:

Interest expense 2.9 2.5

Loss on extinguishment of debt 1.6 —

Loss from change in fair value of warrants 6.5 —

Other expenses, net 0.4 0.7

Net loss before income taxes (35.5) (57.9)

Provision for income taxes — 0.1

Net sales

A further breakdown of our net sales by product line is as follows (in thousands):

Our net sales of $16.8 million in 2020 increased 32.5% compared to 2019 mainly driven by an increase of 136.6% in MMM sales. MMM sales were lower in 2019 primarily due to two of our products that were pending evaluation by the Defense Logistics Agency, during which time the US Navy was not allowed to purchase these two products and also due to federal

Table of Contents

government funding restrictions. In March 2020, we won a contract worth about $3.5 million and throughout 2020, our sales from our in-house sales and inside sales accounts grew significantly. Net sales of our commercial products decreased 31.4% in 2020 as compared to 2019, reflecting fluctuations in the timing, pace, and size of commercial projects, including impacts of the COVID-19 pandemic.

International sales

We do not generate significant sales from customers outside the United States. International net sales accounted for approximately 1% of net sales in 2020 and 2019, respectively. Changes in currency exchange rates did not have an impact on net sales in 2020 or 2019, as our sales, including international sales, are denominated in U.S. dollars.

Gross profit

Gross profit was $5.2 million in 2020, compared to $2.0 million in 2019. The increase in gross profit was primarily driven by an increase in MMM sales as noted above, as well as improved efficiency in our plant operations. Our 2020 gross profit as a percent of net sales of 30.8% increased from our 2019 gross profit as a percent of net sales of 15.5%, primarily driven by product mix and margin impact from MMM sales. Gross margin for 2020 included favorable price and usage variances for material and labor of $0.9 million or 5.5% of net sales and favorable inventory reserves recorded of $0.6 million, or 3.7% of net sales, offsetting unexpected additional manufacturing cost due to supply chain challenges relating primarily to our MMM products.

Operating expenses

Product development

Product development expenses include salaries, including stock-based compensation and related benefits, contractor and consulting fees, legal fees, supplies and materials, as well as overhead items, such as depreciation and facilities costs. Product development costs are expensed as they are incurred. Cost recovery represents the combination of revenues and credits from government contracts.

Total gross and net product development spending, including credits from government contracts, is shown in the following table (in thousands):

For the year ended December 31,

Total gross product development expenses $ 1,415 $ 1,284

Gross product development expenses were $1.4 million in 2020, an increase of 10.2%, compared to $1.3 million in 2019. The increase primarily resulted from increased product development and testing costs of $0.2 million associated with the development and launch of EnFocusTM and the development of our UVCD products.

Selling, general, and administrative

Selling, general, and administrative expenses were $7.9 million, or 46.9%, of net sales in 2020, compared to $7.4 million, or 58.6%, of net sales in 2019. Of the year-over-year $0.5 million increase, approximately $0.5 million is attributable to increased headcount and salaries, including stock-based compensation and related benefits, $0.2 million to an increase in legal and professional fees, and a $0.1 million increase in recruiting and relocation fees. These increases were offset by savings of $0.2 million in sales commissions, $0.1 million in travel and related expenses as a result of COVID-19 stay-at-home orders and $0.1 million in reduced depreciation expense.

Restructuring

During 2019 and 2020, we recorded restructuring charges of approximately $0.2 million and credits of approximately $0.1 million, respectively, related to the cost and offsetting sub-lease income for the remaining lease obligation for our former New York, New York and Arlington, Virginia offices. The lease on our Arlington, Virginia office ended September 30, 2019.

Table of Contents

During 2020, we recorded no restructuring-related severance and related benefits charges. During the first half of 2019, we recorded severance and related benefits charges of $0.2 million with no material restructuring charges recorded during the second half of 2019.

As of December 31, 2020, we estimate that we will receive a total of approximately $0.1 million in sublease payments to offset our remaining lease obligations of $0.2 million, which extend until June 2021. We expect to incur insignificant additional costs over the remaining life of our lease obligations. Please refer to Note 3, “Restructuring,” included in Item 8, “Financial Statements and Supplementary Data,” of this Annual Report for further information.

Otherexpenses

Interest expense

We incurred $481 thousand in interest expense in 2020, primarily related to interest on borrowings and non-cash amortization of fees related to the Austin Facility, the promissory note in the principal amount of $1.3 million (the “Iliad Note”) the Company sold and issued to Iliad Research and Trading, L.P. (“Iliad”), pursuant to a note purchase agreement (the “Iliad Note Purchase Agreement”) with Iliad, and the interest on borrowings and non-cash amortization of fees related to the Credit Facilities.

We incurred $317 thousand in interest expense in 2019, primarily related to interest on borrowings and non-cash amortization of fees related to the Austin Facility and under the Iliad Note.

Loss on extinguishment of debt

A loss of $276 thousand on the extinguishment of debt was recognized during the year ended December 31, 2020, consisting of a $100 thousand termination fee and the write-off of the remaining related debt acquisition costs of $59 thousand from the Austin Facility and the write-off of the remaining debt acquisition costs of $117 thousand relating to the Iliad Note.

Loss from change in fair value of warrants

A loss of $1.1 million was recognized during the year ended December 31, 2020 for the market value change in our warrant liabilities. The loss recognized was a result of the revaluation of the warrant liability using the market price of the Company’s common stock at December 22, 2020, versus the market price of the Company’s common stock at the time of initial issuance of the warrants (January 13, 2020). On December 22, 2020, all warrant holders agreed to a modification of the terms of their warrants that qualified the warrants for equity accounting. At that time, the liability relating to the remaining 467,306 warrants was fair-valued with the offsetting adjustment recorded in income. The $1.4 million warrant liability was then reclassified into equity and the warrants are no longer subject to re-measurement at each balance sheet date.

Other expenses, net

We recognized other expenses, net, of $73 thousand in 2020, compared to other expenses, net, of $91 thousand in 2019. Other expenses, net, in 2020 primarily consisted of bank and collateral management fees. Other expenses, net in 2019 primarily consisted of $80 thousand of collateral management fees related to the Austin Facility and a net loss on the sale and disposal of fixed assets of $24 thousand, partially offset by various refunds of $12 thousand.

Income taxes

For the years ended December 31, 2020 and 2019, our effective tax rate was 0.1% and (0.1)%, respectively.

In 2020, our effective tax rate was lower than the statutory rate due to an increase in the valuation allowance as a result of the $7.1 million additional federal net operating loss we recognized for the year. In 2019, our effective tax rate was lower than the statutory rate due to an increase in the valuation allowance as a result of the $8.3 million additional federal net operating loss we recognized for the year.

Deferred income tax assets are reduced by a valuation allowance when it is more likely than not that some portion of the deferred income tax assets will not be realized. In considering the need for a valuation allowance, we assess all evidence, both positive and negative, available to determine whether all or some portion of the deferred tax assets will not be realized. Such evidence includes, but is not limited to, recent earnings history, projections of future income or loss, reversal patterns of existing taxable and deductible temporary differences, and tax planning strategies. We have recorded a full valuation allowance

Table of Contents

against our deferred tax assets at December 31, 2020 and 2019, respectively. We had no net deferred liabilities at December 31, 2020 or 2019.We will continue to evaluate the need for a valuation allowance on a quarterly basis.

At December 31, 2020, we had net operating loss carry-forwards of approximately $115.9 million for federal income tax purposes ($72.3 million for state and local income tax purposes). However, due to changes in our capital structure, approximately $61.5 million of the $115.9 million is available after the application of IRC Section 382 limitations. As a result of the Tax Cuts and Jobs Act of 2017 (the “Tax Act”), net operating loss carry-forwards generated in tax years beginning after December 31, 2017 can only offset 80% of taxable income. These net operating loss carry-forwards can no longer be carried back, but they can be carried forward indefinitely. The $7.1 million and $8.3 million in federal net operating losses generated in 2020 and 2019 will be subject to the new limitations under the Tax Act. If not utilized, the carry-forwards generated prior to December 31, 2017 of $37.3 million will begin to expire in 2021 for federal purposes and have begun to expire for state and local purposes. Please refer to Note 12, “Income Taxes,” included in Item 8, “Financial Statements and Supplementary Data,” of this Annual Report for further information.

Net loss

Our net loss from operations improved to $6.0 million in 2020 compared to $7.4 million in 2019. The improvement in our loss is primarily due to increased sales of $4.1 million, or 32.5% over 2019 and our continued cost control initiatives, resulting in an increase in gross margin of 162.7% over 2019. These improvements were offset slightly by an increase in operating expenses of $0.3 million over 2019.

Liquidity andcapitalresources

General

We generated a net loss of $6.0 million in 2020, compared to net loss of $7.4 million in 2019. We have incurred substantial losses in the past, and as of December 31, 2020, we had an accumulated deficit of $130.9 million.

In order for us to operate our business profitably, we need to grow our sales, maintain cost control discipline while balancing development of our new products required for long-term competitiveness and revenue growth, continue our efforts to reduce product cost, and drive further operating efficiencies. There is a risk that our strategy to return to profitability may not be successful. We will likely require additional financing to achieve our strategic plan and, if our operations do not achieve, or we experience an unanticipated delay in achieving, our intended level and pace of profitability, we will continue to need additional funding, none of which may be available on favorable terms or at all and could require us to discontinue or curtail our operations.

Considering both quantitative and qualitative information, we continue to believe that the combination of our plan to continue to ensure appropriate levels of the availability of external financing, current financial position, liquid resources, obligations due or anticipated within the next year, executive and sales reorganization, and implementation of our product development and sales channel strategy, if adequately executed, will provide us with an ability to finance our operations through 2021 and will mitigate the substantial doubt about our ability to continue as a going concern.

Credit Facilities

On August 11, 2020, we entered into the Credit Facilities. The new Credit Facilities consist of the Inventory Facility, a two-year inventory financing facility for up to $3.0 million, and the Receivables Facility, a two-year receivables financing facility for up to $2.5 million. These facilities replaced our previous credit facility, the Austin Facility. As of December 31, 2020, our cash was approximately $1.8 million and our total outstanding balance was approximately $2.3 million under the Credit Facilities. As of December 31, 2020, our additional availability under the Credit Facilities was $1.7 million.

Convertible Notes

On March 29, 2019, we issued $1.7 million aggregate principal amount of subordinated convertible promissory notes (the “Convertible Notes”) to certain investors in a private placement exempt from the registration requirements of the Securities Act of 1933, as amended. The Convertible Notes had a maturity date of December 31, 2021 and bore interest at a rate of 5% per annum until June 30, 2019 and at a rate of 10% thereafter. Pursuant to their terms, on January 16, 2020, following approval by our stockholders of certain amendments to the Certificate of Incorporation, the principal amount of all of the Convertible Notes, andthe accumulated interest thereon ($0.1 million), which totaled $1.8 million, were converted at a conversion price of $0.67 per share into an aggregate of 2,709,018 shares of the Company’s Series A Convertible Preferred Stock, par value $0.0001 per

Table of Contents

share (the “Series A Preferred Stock”), which is convertible on a one-for-five basis into shares of our common stock. During 2020, 111,548 shares of the Series A Preferred Stock were converted into 22,310 shares of common stock.

Iliad Note

On November 25, 2019, we entered into the Iliad Note Purchase Agreement with Iliad pursuant to which the Company sold and issued to Iliad the Iliad Note in the principal amount of $1.3 million. The Iliad Note was issued with an original issue discount of $142 thousand and Iliad paid a purchase price of $1.1 million for the issuance of the Iliad Note, after deduction of $15 thousand of Iliad transaction expenses.

On December 1, 2020, we repaid the remaining outstanding balance of $30 thousand on the Iliad Note prior to its maturity date of November 24, 2021. We wrote-off $117 thousand in remaining debt and original issue discount costs at that time. The debt acquisition and original issue discount costs written-off are reflected as a loss on extinguishment of debt in our Consolidated Statements of Operations for the year ended December 31, 2020. The Iliad Note accrued interest at 8% per annum, compounded daily, on the outstanding balance. We were able to prepay the amounts outstanding under the Iliad Note at a premium, which was 15% during the first year and 10% during the second year. Beginning in May 2020, Iliad could have required us to redeem up to $150 thousand of the Iliad Note in any calendar month. We had the right on three occasions to defer all redemptions that Iliad could otherwise require us to make during any calendar month. No such deferrals were exercised.

Pursuant to the Iliad Note Purchase Agreement and the Iliad Note, we had, among other things, agreed that, until the Iliad Note was repaid, 10% of gross proceeds the Company received from the sale of our common stock or other equity must be paid to Iliad and applied to reduce the outstanding balance of the Iliad Note.

January 2020 Equity Offering

In January 2020, we completed a registered direct offering for the sale of 688,360 shares of our common stock to certain institutional investors, at a purchase price of $3.37 per share. We also sold, to the same institutional investors, warrants to purchase up to 688,360 shares of common stock at an exercise price of $3.37 per share in a concurrent private placement for a purchase price of $0.625 per warrant. We paid the placement agent commissions of $193 thousand plus $50 thousand in expenses in connection with the registered direct offering and the concurrent private placement and we also paid legal, accounting and other fees of $231 thousand related to the offering. Proceeds to us, before expenses, from the sale of common stock and warrants (the “January 2020 Equity Offering”) were approximately $2.8 million. In accordance with the terms of the Iliad Note, 10% of the gross proceeds from the January 2020 Equity Offering ($275 thousand) were used to make payments on the Iliad Note, a large portion of which was applied to reduce the outstanding principal amount.

Need for Additional Financing

Even with access to borrowings under the Credit Facilities, we may not generate sufficient cash flows from our operations or be able to borrow sufficient funds to sustain our operations. As such, we will likely need additional external financing during 2021 and will continue to review and pursue external funding sources including, but not limited to, the following:

•obtaining financing from traditional or non-traditional investment capital organizations or individuals;

•obtaining funding from the sale of our common stock or other equity or debt instruments; and

•obtaining debt financing with lending terms that more closely match our business model and capital needs.

There can be no assurance that we will obtain funding on acceptable terms, in a timely fashion, or at all. Obtaining additional financing contains risks, including:

•additional equity financing may not be available to us on satisfactory terms and any equity we are able to issue could lead to dilution for current stockholders and have rights, preferences and privileges senior to our common stock;

•loans or other debt instruments may have terms and/or conditions, such as interest rates, restrictive covenants and control or revocation provisions, which are not acceptable to management or our board of directors; and

•the current environment in the capital markets, as well as global health risks, combined with our capital constraints may prevent us from being able to obtain adequate debt financing.

If we fail to obtain additional financing to sustain our business before we are able to produce levels of revenue to meet our financial needs, we will need to delay, scale back or eliminate our business plan and further reduce our operating costs and headcount, each of which would have a material adverse effect on our business, future prospects, and financial condition. A lack of additional financing could also result in our inability to continue as a going concern and force us to sell certain assets or discontinue or curtail our operations and, as a result, investors in the Company could lose their entire investment.

Table of Contents

Cash and debt

At December 31, 2020, our cash balance was $1.8 million, compared to $0.4 million at December 31, 2019.

The following is a summary of cash flows from operating, investing, and financing activities, as reflected in the Consolidated Statements of Cash Flows (in thousands):

Net cash used in operating activities $ (2,451) $ (6,624)

Net cash used in investing activities $ (223) $ (129)

Proceeds from the issuance of common stock and warrants $ 2,749 $ —

Proceeds from the exercise of warrants 918 —

Offering costs paid on the issuance of common stock and warrants (510) —

Proceeds from PPP loan 795 —

Principal payments under finance lease obligations (3) (3)

Payments for deferred financing costs & termination fees (320) (208)

Proceeds from the Iliad Note — 1,115

Payments on the Iliad Note (1,306) —

Proceeds from convertible notes — 1,700

Net proceeds from credit line borrowings - Credit Facilities 2,459 —

Net payments from credit line borrowings - Austin Facility (719) (1,400)

Net cash provided by financing activities $ 4,160 $ 1,094

Cash used in operating activities

Net cash used in operating activities of $2.5 million in 2020 resulted primarily from the net loss incurred of $6.0 million, adjusted for non-cash items, including: depreciation and amortization of $0.2 million and stock-based compensation, net of $0.1 million, change in fair value of warrant liabilities of $1.1 million and favorable provisions from inventory of $0.6 million. We generated $1.1 million in cash for an increase in accounts payable due to the timing of inventory receipts and payments, $1.1 million from a net decrease in inventories primarily due to the timing of inventory receipts, $0.4 million through the timing of collection of accounts receivable and $0.3 million through an increase of other accrued liabilities, primarily related to accrued payroll and benefits and commissions. We used $0.7 million for short-term deposits to our contract manufacturers for inventory for the new EnFocusTM platform.

Net cash used in operating activities of $6.6 million in 2019 resulted primarily from the net loss incurred of $7.4 million, adjusted for non-cash items, including: depreciation and amortization of $0.3 million and stock-based compensation, net of $0.6 million. Cash used by an increase in accounts receivable of $0.1 million and a decrease in accounts payable mainly for inventory due to the timing of inventory receipts of $2.2 million and a decrease in accrued expenses primarily for accrued payroll and benefits, severance and commissions of $0.5 million further attributed to the cash impact of the net loss incurred. The cash used by these working capital changes was partially offset by cash generated by a net decrease in inventories of $1.9 million as we sold existing inventory and reduced inventory purchasing and prepaid expenses of $(0.1) million, as the inventory for which we paid deposits to our contract manufacturers in prior quarters was received in the first quarter of 2019.

Cashused in investing activities

Net cash used by investing activities was $0.2 million in 2020 and $0.1 million in 2019, respectively, and resulted primarily from the addition of property and equipment tooling to support production operations.

Table of Contents

Cash provided by financing activities

Net cash provided by financing activities for the year ended December 31, 2020 of $4.2 million primarily resulted from $2.7 million in proceeds received from the January 2020 Equity Offering, partially offset by $0.5 million in offering costs. Investors in the January 2020 Equity Offering received warrants to purchase shares of our common stock, of which warrants to purchase an aggregate of 467,306 shares remain outstanding at December 31, 2020 with a weighted average exercise price of $3.51 per share. During the year ended December 31, 2020, 269,240 warrants were exercised resulting in $0.9 million of proceeds. The exercise of the warrants remaining outstanding at December 31, 2020, could provide us with cash proceeds of up to $1.6 million in the aggregate.

During the year ended December 31, 2020, we received $0.8 million in proceeds from the PPP loan, $1.4 million from borrowings under the Inventory Facility and $1.1 million from borrowings under the Receivables Facility, and paid $0.7 million, net, on the Austin Facility. Also during the year ended December 31, 2020, we paid $0.2 million in deferred financing fees on the Credit Facilities. On August 11, 2020, we paid the outstanding balance of $1.4 million to close out the Austin Facility, which included a $100 thousand termination fee.

During the year ended December 31, 2020, we repaid $1.3 million aggregate principal amount under the Iliad Note, which included a mandatory repayment pursuant to the terms of the Iliad Note in connection with the issuance of common stock in the January 2020 Equity Offering, of which $0.2 million was allocated against principal. At December 31, 2020, we had additional availability for us to borrow of $1.0 million under the Inventory Facility and $0.6 million under the Receivables Facility.

Net cash provided by financing activities for the year ended December 31, 2019 of $1.1 million primarily resulted from net proceeds from the Convertible Notes of $1.7 million and the Iliad Note of $1.1 million offset by payments to the Austin Facility of $1.4 million.

Credit facilities

On August 11, 2020, we entered into the Credit Facilities, consisting of two debt financing arrangements. The new Credit Facilities consist of the Inventory Facility, a two-year inventory financing facility for up to $3.0 million, and the Receivables Facility, a two-year receivables financing facility for up to $2.5 million. These facilities replaced our previous credit facility, the Austin Facility, substantially increasing the Company’s borrowing capacity and reducing its blended interest expense rate.

Borrowings under the Inventory Facility were $1.3 million and borrowings under the Receivables Facility were $1.0 million at December 31, 2020. These facilities are recorded in the Consolidated Balance Sheet as of December 31, 2020 as a current liability under the caption “Credit line borrowings, net or origination fees.” Outstanding balances include unamortized net issuance costs totaling $0.1 million for the Inventory Facility and $40 thousand for the Receivables Facility as of December 31, 2020.

The Credit Facilities replaced the Austin Facility which was entered into on December 11, 2018 and was secured by a lien on our assets. The Austin Facility was a three year, $5.0 million revolving line of credit. Borrowings under the Austin Facility were $0.7 million at December 31, 2019 with total availability of $1.6 million. On August 11, 2020, we paid $1.4 million to close the Austin Facility which included a $100 thousand termination fee. Additionally, we wrote off $59 thousand of the remaining related debt acquisition costs. The termination fee and the write-off of debt acquisition costs are reflected as a loss on extinguishment of debt in our Consolidated Statements of Operations for the twelve months ended December 31, 2020.

For more information, see Note 9 “Debt” included in Item 8, “Financial Statements and Supplementary Data,” of this Annual Report.

Off-balancesheetarrangements

We had no off-balance sheet arrangements at December 31, 2020 or 2019.

Criticalaccountingpolicies andestimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States (“U.S. GAAP”) requires that we make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingencies, and the reported amounts of net sales and expenses in the financial statements. Material differences may result in the amount and timing of net sales and expenses if different judgments or different estimates were utilized.

Table of Contents

Critical accounting policies, judgments, and estimates that we believe have the most significant impact on our financial statements are set forth below:

•revenue recognition,

•allowances for doubtful accounts, returns and discounts,

•impairment of long-lived assets,

•valuation of inventories,

•accounting for income taxes,

•share-based compensation, and

•leases.

Revenuerecognition

On January 1, 2018, we adopted Accounting Standards Update (“ASU”) No. 2014-09, Revenue from Contracts with Customers (Topic 606), as amended by subsequently issued additional guidance (together, “ASC 606”) using the modified retrospective method. The adoption of ASC 606 did not have a material impact on our consolidated financial position or results of operations, as our revenue arrangements generally consist of a single performance obligation to transfer promised goods at a fixed price.

Net sales include revenues from sales of products and shipping and handling charges, net of estimates for product returns. Revenue is measured at the amount of consideration we expect to receive in exchange for the transferred products. We recognize revenue at the point in time when we transfer the promised products to the customer and the customer obtains control over the products. Distributors’ obligations to us are not contingent upon the resale of our products. We recognize revenue for shipping and handling charges at the time the goods are shipped to the customer, and the costs of outbound freight are included in cost of sales. We provide for product returns based on historical return rates. While we incur costs for sales commissions to our sales employees and outside agents, we recognize commission costs concurrent with the related revenue, as the amortization period is less than one year. We do not incur any other incremental costs to obtain contracts with our customers. Our product warranties are assurance-type warranties, which promise the customer that the products are as specified in the contract. therefore, the product warranties are not a separate performance obligation and are accounted for as described below. Sales taxes assessed by governmental authorities are accounted for on a net basis and are excluded from net sales.

A disaggregation of product net sales is presented in Note 13, “Product and Geographic Information,” included in Item 8, “Financial Statements and Supplementary Data,” of this Annual Report.

Accounts Receivable

Our trade accounts receivable consists of amounts billed to and currently due from customers. Our customers are concentrated in the United States. In the normal course of business, we extend unsecured credit to our customers related to the sale of our products. Credit is extended to customers based on an evaluation of the customer’s financial condition and the amounts due are stated at their estimated net realizable value. During the first eleven months of 2019, we evaluated and monitored the creditworthiness of each customer on a case-by-case basis. However, during December 2019, we transitioned to an account receivable insurance program with a very high credit worthy insurance company where we have the large majority of the accounts receivable insured with a portion of self-retention. This third party also provides credit-worthiness ratings and metrics that significantly assists us in evaluating the credit worthiness of both existing and new customers. We maintain allowances for sales returns and doubtful accounts receivable to provide for the estimated number of account receivables that will not be collected. The allowance is based on an assessment of customer creditworthiness and historical payment experience, the age of outstanding receivables, and performance guarantees to the extent applicable. Past due amounts are written off when our internal collection efforts have been unsuccessful, and payments subsequently received on such receivables are credited to the allowance for doubtful accounts. We do not generally require collateral from our customers.

Our standard payment terms with customers are net 30 days from the date of shipment, and we do not generally offer extended payment terms to our customers, but exceptions are made in some cases to major customers or with particular orders. Accordingly, we do not adjust trade accounts receivable for the effects of financing, as we expect the period between the transfer of product to the customer and the receipt of payment from the customer to be in line with our standard payment terms.

Allowances fordoubtfulaccounts,returns,anddiscounts

We establish allowances for doubtful accounts and returns for probable losses based on the customers’ loss history with us, the

Table of Contents

financial condition of the customer, the condition of the general economy and the industry as a whole, and the contractual terms established with the customer. The specific components are as follows:

• allowance for doubtful accounts for accounts receivable, and

•allowance for sales returns and discounts.

In 2020 and 2019, the total allowance was $8 thousand and $28 thousand, respectively, which was all related to sales returns. We review these allowance accounts periodically and adjust them accordingly for current conditions.

Long-livedassets

Property and equipment are stated at cost and include expenditures for additions and major improvements. Expenditures for repairs and maintenance are charged to operations as incurred. We use the straight-line method of depreciation over the estimated useful lives of the related assets (generally two to fifteen years) for financial reporting purposes. Accelerated methods of depreciation are used for federal income tax purposes. When assets are sold or otherwise disposed of, the cost and accumulated depreciation are removed from the accounts and any gain or loss is reflected in the Consolidated Statement of Operations. Refer to Note 6, “Property and Equipment,” included in Item 8, “Financial Statements and Supplementary Data,” of this Annual Report for additional information.

Long-lived assets are reviewed for impairment whenever events or circumstances indicate the carrying amount may not be recoverable. Events or circumstances that would result in an impairment review primarily include operations reporting losses, a significant change in the use of an asset, or the planned disposal or sale of the asset. The asset would be considered impaired when the future net undiscounted cash flows generated by the asset are less than its carrying value. An impairment loss would be recognized based on the amount by which the carrying value of the asset exceeds its fair value, as determined by quoted market prices (if available) or the present value of expected future cash flows. Refer to Note 6, “Property and Equipment,” included in Item 8, “Financial Statements and Supplementary Data,” of this Annual Report for additional information.

Valuation ofinventories

We state inventories at the lower of standard cost (which approximates actual cost determined using the first-in-first-out method) or net realizable value. We establish provisions for excess and obsolete inventories after evaluation of historical sales, current economic trends, forecasted sales, product lifecycles, and current inventory levels. During 2019, due to efforts to sell excess and obsolete inventory and better management of inventory orders, we realized a net reduction of our excess inventory reserves of $0.6 million. During 2020, we continued to apply discipline in manufacturing and supply chain management, focusing on a reduction of lead time and inventory on hand which resulted in a net reduction of our gross inventory levels of $1.2 million and excess inventory reserves of $0.6 million compared to 2019. Adjustments to our estimates, such as forecasted sales and expected product lifecycles, could harm our operating results and financial position. Refer to Note 5, “Inventories,” included in Item 8, “Financial Statements and Supplementary Data,” of this Annual Report for additional information.

Accounting forincometaxes

As part of the process of preparing the Consolidated Financial Statements, we are required to estimate our income tax liability in each of the jurisdictions in which we do business. This process involves estimating our actual current tax expense together with assessing temporary differences resulting from differing treatment of items, such as deferred revenues, for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included in our Consolidated Balance Sheets. We then assess the likelihood of the deferred tax assets being recovered from future taxable income and, to the extent we believe it is more likely than not that the deferred tax assets will not be recovered, or is unknown, we establish a valuation allowance.

Significant management judgment is required in determining our provision for income taxes, deferred tax assets and liabilities, and any valuation allowance recorded against our deferred tax assets. At December 31, 2020 and 2019, we have recorded a full valuation allowance against our deferred tax assets in the United States due to uncertainties related to our ability to utilize our deferred tax assets, primarily consisting of certain net operating losses carried forward. The valuation allowance is based upon our estimates of taxable income by jurisdiction and the period over which our deferred tax assets will be recoverable. In considering the need for a valuation allowance, we assess all evidence, both positive and negative, available to determine whether all or some portion of the deferred tax assets will not be realized. Such evidence includes, but is not limited to, recent earnings history, projections of future income or loss, reversal patterns of existing taxable and deductible temporary differences, and tax planning strategies. We continue to evaluate the need for a valuation allowance on a quarterly basis.

Table of Contents

At December 31, 2020, we had net operating loss carry-forwards of approximately $115.9 million for federal income tax purposes ($72.3 million for state and local income tax purposes). However, due to changes in our capital structure, approximately $61.5 million of the $115.9 million is available to offset future taxable income after the application of IRC Section 382 limitations. As a result of the Tax Act, net operating loss carry-forwards generated in tax years beginning after December 31, 2017 can only offset 80% of taxable income. These net operating loss carry-forwards can no longer be carried back, but they can be carried forward indefinitely. The $7.1 million and $8.3 million in federal net operating losses generated in 2020 and 2019 will be subject to the new limitations under the Tax Act. If not utilized, the carry-forwards generated prior to December 31, 2017 of $37.3 million will begin to expire in 2021 for federal purposes and have begun to expire for state and local purposes. Please refer to Note 12, “Income Taxes,” included in Item 8, “Financial Statements and Supplementary Data,” of this Annual Report for further information.

Share-based payments

The cost of employee and director stock options and restricted stock units, as well as other share-based compensation arrangements, is reflected in the Consolidated Financial Statements based on the estimated grant date fair value method under the authoritative guidance. Management applies the Black-Scholes option pricing model to options issued to employees and directors to determine the fair value of stock options and apply judgment in estimating key assumptions that are important elements of the model in expense recognition. These elements include the expected life of the option, the expected stock-price volatility, and expected forfeiture rates. The assumptions used in calculating the fair value of share-based awards under Black-Scholes represent our best estimates, but these estimates involve inherent uncertainties and the application of management judgment. Although we believe the assumptions and estimates we have made are reasonable and appropriate, changes in assumptions could materially impact our reported financial results. Restricted stock units and stock options issued to non-employees are valued based upon the intrinsic value of the award. See Note 11, “Stockholders’ Equity,” included in Item 8, “Financial Statements and Supplementary Data,” of this Annual Report for additional information.

Leases

In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842), which supersedes the current lease accounting requirements. Additionally, in July 2018, the FASB issued ASU No. 2018-11, Leases (Topic 842): Targeted Improvements, which simplifies adoption of Topic 842 by allowing an additional transition method that will not require restatement of prior periods and providing a new practical expedient for lessors to avoid separating lease and non-lease components within a contract if certain criteria are met (provisions of which must be elected upon adoption of Topic 842). The new standard requires a lessee to record on the balance sheet the assets and liabilities for the rights and obligations created by leases with lease terms of more than 12 months. It also requires lessees to disclose certain key information about lease transactions. Upon implementation, an entity’s lease payment obligations will be recognized at their estimated present value along with a corresponding right-of-use asset. Lease expense recognition will be generally consistent with current practice.

The Company adopted this guidance as of January 1, 2019 using the required modified retrospective method with the non-comparative transition option. The Company applied the transitional package of practical expedients allowed by the standard to not reassess the identification, classification and initial direct costs of leases commencing before this ASU’s effective date. The Company also applied the lease term and impairment hindsight transitional practical expedients. The Company has chosen to apply the following accounting policy practical expedients: to not separate lease and non-lease components to new leases as well as existing leases through transition; and the election to not apply recognition requirements of the guidance to short-term leases.

On adoption, we recognized additional operating lease liabilities of approximately $2.9 million as of January 1, 2019, with corresponding right-of-use assets based on the present value of the remaining minimum rental payments for our existing operating leases. The operating lease right-of-use assets recorded upon adoption were offset by the carrying value of liabilities previously recorded under Accounting Standards Codification (“ASC”) Topic 420, Exit or Disposal Cost Obligations (“Topic 420”) and impairment charges totaling $0.3 million and $0.2 million, respectively. Refer to Note 4, “Leases,” included in Item 8, “Financial Statements and Supplementary Data,” of this Annual Report for additional disclosures relating to the Company’s leasing arrangements.

Recently issued accounting pronouncements

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, which significantly changes the accounting for credit losses on instruments within its scope. The new guidance introduces an approach based on expected losses to estimate credit losses on certain financial instruments, including trade receivables, and requires an entity to recognize an allowance based on its estimate of expected credit losses

Table of Contents

rather than incurred losses. This standard will be effective for interim and annual periods starting after December 15, 2022 and will generally require adoption on a modified retrospective basis. We are in the process of evaluating the impact of the standard.

ITEM 7A.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

As a “smaller reporting company” as defined by Item 10 of Regulation S-K, 17 CFR § 229.10(f)(1), the Company is not required to provide this information.

Table of Contents

ITEM8.FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

TABLE OF CONTENTS

Page

Reports of Independent Registered Public Accounting Firms 41

Consolidated Balance Sheets as of December 31, 2020 and 2019 43

Notes to Consolidated Financial Statements 50

Table of Contents

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

Stockholders and Board of Directors

Energy Focus, Inc.

Solon, Ohio

Opinion on the Consolidated Financial Statements

We have audited the accompanying consolidated balance sheets of Energy Focus, Inc. (the “Company”) as of December 31, 2020 and 2019, the related consolidated statements of operations, comprehensive loss, stockholders’ equity, and cash flows for the years then ended, and the related notes and Schedule II (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company at December 31, 2020 and 2019, and the results of its operations and its cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America.

Continuation as a Going Concern

The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 3 to the consolidated financial statements, the Company has experienced recurring losses from operations and negative cash flows from operations that raise substantial doubt about its ability to continue as a going concern. Management’s plans in regard to these matters are also described in Note 3. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.

Basis for Opinion

These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s consolidated financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (“PCAOB”) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion.

Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion.

Critical Audit Matter

The critical audit matter communicated below is a matter arising from the current period audit of the consolidated financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the consolidated financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing separate opinions on the critical audit matter or on the accounts or disclosures to which it relates.

Reserves for Excess, Obsolete and Slow-Moving Inventories

Description of the Matter

As described in Notes 2 and 5 to the consolidated financial statements, the Company assesses the valuation of inventories each reporting period based on the lower of cost or net realizable value. The Company establishes reserves for excess, obsolete and slow-moving inventories after evaluation of historical sales, current economic trends, forecasted sales, product lifecycles and

Table of Contents

current inventory levels. The assessment is both quantitative and qualitative. As of December 31, 2020, the Company had inventories of $5.6 million, net of reserves for excess, obsolete and slow-moving inventories.

Auditing management's estimates for excess, obsolete and slow-moving inventories required subjective auditor judgment and evaluation of the reasonableness of significant assumptions used in developing the reserves as detailed above, as well as the inputs and related calculations related to historical sales and on-hand inventories.

How We Addressed the Matter in Our Audit

We obtained an understanding and evaluated the design of internal controls over the Company's reserves for excess, obsolete and slow-moving inventories, including management's assessment of the assumptions and data underlying the reserve calculation.

Our substantive audit procedures included, among others, testing the logic and integrity of calculations within management’s analysis; testing the completeness and accuracy of underlying data used, including inventory quantities, carrying costs and the estimate of net realizable value by product; and evaluating the reasonableness of management’s assumptions related to demand forecasts, estimated reserve percentages and qualitative considerations involving, among others, the implications of the COVID-19 pandemic and new or revised operational strategies. Evaluating the reasonableness of management’s assumptions involved (i) comparing historical sales by product, used as a basis for future demand, to audited sales subledgers on a sample basis, (ii) performing sensitivity analyses on reserve percentages applied to categories of projected demand to evaluate the changes in the reserve that would result from changes in the assumption, (iii) holding discussions with senior management to determine whether strategic or operational changes in the business were consistent with the projections of future demand that were utilized as basis for the reserves recorded, (iv) corroborating management’s qualitative considerations through review of recent sales transactions, including those subsequent to year-end, and order backlog and deferrals on a sample basis, and (v) testing declines in the reserve and evaluating whether such declines were the result of the sale or write-off of inventory or the result of changes in the significant assumptions used to the develop the reserve.

/s/ GBQ Partners, LLC

We have served as the Company's auditor since 2019.

Columbus, Ohio

March 25, 2021

Table of Contents

ENERGY FOCUS, INC.

CONSOLIDATED BALANCE SHEETS

AS OF DECEMBER 31,

(amounts in thousands except share data)

ASSETS

Current assets:

Prepaid and other current assets 782 353

Property and equipment, net 420 389

Operating lease, right-of-use asset 794 1,289

Restructured lease, right-of-use asset 107 322

Other assets — 405

LIABILITIES

Current liabilities:

Accrued liabilities 45 186

Accrued legal and professional fees 149 215

Accrued payroll and related benefits 885 360

Accrued sales commissions 95 32

Accrued restructuring 11 24

Accrued warranty reserve 227 195

Deferred revenue 72 18

Operating lease liabilities 598 550

Restructured lease liabilities 168 319

Finance lease liabilities 3 3

Convertible notes — 1,700

Iliad note, net of discount and loan origination fees — 885

Credit line borrowings, net of loan origination fees 2,298 715

(continued on the following page)

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

Table of Contents

ENERGY FOCUS, INC.

CONSOLIDATED BALANCE SHEETS

AS OF DECEMBER 31,

(amounts in thousands except share data)

Other liabilities — 14

Operating lease liabilities, net of current portion 318 906

Restructured lease liabilities, net of current portion — 168

Finance lease liabilities, net of current portion 1 4

PPP loan, net of current maturities 266 —

Iliad note, net of current maturities — 109

STOCKHOLDERS’ EQUITY

Preferred stock, par value $0.0001 per share:

Common stock, par value $0.0001 per share:

Accumulated other comprehensive loss (3) (3)

Total liabilities and stockholders' equity $ 12,397 $ 11,739

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

Table of Contents

ENERGY FOCUS, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

FOR THE YEARS ENDED DECEMBER 31,

(amounts in thousands except per share data)

Operating expenses:

Selling, general, and administrative 7,900 7,449

Other expenses:

Loss on extinguishment of debt 276 —

Loss from change in fair value of warrants 1,086 —

Loss from operations before income taxes (5,986) (7,363)

(Benefit from) provision for income taxes (5) 10

Net loss per common share - basic and diluted:

Weighted average shares of common shares outstanding:

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

Table of Contents

ENERGY FOCUS, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

FOR THE YEARS ENDED DECEMBER 31,

(amounts in thousands)

Other comprehensive loss:

Foreign currency translation adjustments — (2)

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

Table of Contents

ENERGY FOCUS, INC.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

FOR THE YEARS ENDED DECEMBER 31, 2020 AND 2019

(amounts in thousands)

AdditionalPaid-inCapital AccumulatedOtherComprehensiveLoss

Preferred Stock Common Stock AccumulatedDeficit

Shares Amount Shares* Amount Total

Stock-based compensation — — — — 616 — — 616

Foreign currency translation adjustment — — — — — (2) — (2)

Issuance of common stock and warrants — — 688 — 2,749 — — 2,749

Offering costs on issuance of common stock and warrants — — — — (510) — — (510)

Issuance of common stock upon the exercise of warrants — — 269 — 2,235 — — 2,235

Warrant liability - issuance — — — — (1,636) — — (1,636)

Warrant liability - modification — — — — 1,405 — — 1,405

Conversion of notes to preferred stock 2,709 — — — 1,769 — — 1,769

Stock-based compensation — — — — 131 — — 131

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

Table of Contents

ENERGY FOCUS, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE YEARS ENDED DECEMBER 31,

(amounts in thousands)

Cash flows from operating activities:

Adjustments to reconcile net loss to net cash used in operating activities:

Stock-based compensation 131 616

Change in fair value of warrant liabilities 1,086 —

Provision for doubtful accounts receivable (20) (5)

Provision for slow-moving and obsolete inventories (610) 14

Provision for warranties 31 78

Amortization of loan discounts and origination fees 395 108

Loss on dispositions of property and equipment 8 24

Change in operating assets and liabilities:

Prepaid and other assets (18) (88)

Accrued and other liabilities 349 (542)

Deferred revenue 54 (12)

Net cash used in operating activities (2,451) (6,624)

Cash flows from investing activities:

Acquisitions of property and equipment (223) (132)

Proceeds from the sale of property and equipment — 3

Net cash used in investing activities (223) (129)

Cash flows from financing activities:

Proceeds from the issuance of common stock and warrants 2,749 —

Proceeds from the exercise of warrants 918 —

Offering costs paid on the issuance of common stock and warrants (510) —

Proceeds from PPP loan 795 —

Principal payments under finance lease obligations (3) (3)

Payments for deferred financing costs & termination fees (320) (208)

Proceeds from the Iliad Note — 1,115

Payments on the Iliad Note (1,306) —

Proceeds from convertible notes — 1,700

Net payments from credit line borrowings - Austin Facility (719) (1,400)

Net proceeds from credit line borrowings - Credit Facilities 2,459 —

Net cash provided by financing activities 4,160 1,094

(continued on the following page)

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

Table of Contents

ENERGY FOCUS, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS(CONTINUED)

FOR THE YEARS ENDED DECEMBER 31,

(amounts in thousands)

Effect of exchange rate changes on cash — 16

Net increase (decrease) in cash and restricted cash 1,486 (5,643)

Cash and restricted cash, beginning of year 692 6,335

Cash and restricted cash, end of year $ 2,178 $ 692

Classification of cash and restricted cash:

Restricted cash held in other assets 342 342

Cash and restricted cash $ 2,178 $ 692

Supplemental information:

Cash paid in year for interest $ 269 $ 215

Cash paid in year for income taxes $ 4 $ 15

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

Table of Contents ENERGY FOCUS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1.NATURE OF OPERATIONS

Energy Focus, Inc. engages primarily in the design, development, manufacturing, marketing and sale of energy-efficient lighting systems and controls and recently announced development of ultraviolet light disinfection (“UVCD”) products. We develop, market and sell high quality light-emitting diode (“LED”) lighting products and UVCD products and controls in the commercial and military maritime markets (“MMM”). Our mission is to enable our customers to run their facilities and offices with greater energy efficiency, productivity, and human health through advanced LED retrofit and UVCD solutions. Our goal is to be the LED and human-centric lighting (“HCL”) technology and market leader for the most demanding applications where performance, quality, value (high quality at an affordable price), environmental impact and health are considered paramount. We specialize in LED lighting retrofit by replacing fluorescent, high-intensity discharge lighting and other types of lamps in institutional buildings for primarily indoor lighting applications with our innovative, high-quality commercial and military tubular LED (“TLED”), as well as other LED and lighting control products. On October 14, 2020, we also announced the launch of our UVCD product portfolio.

The LED lighting industry has changed dramatically over the past several years due to increasing commoditization, competition and price erosion. We have been experiencing these industry forces in both our military business since 2016 and in our commercial segment, where we once commanded significant price premiums for our flicker-free TLEDs with primarily 10-year warranties. Since April 2019, we have focused on redesigning our products for lower costs and consolidating our supply chain for stronger purchasing power where appropriate in order to price our products more competitively. Despite these efforts, the pricing of our legacy products remains at a premium to the competitive range and we expect aggressive pricing actions and commoditization to continue to be a headwind until our more differentiated new products ramp in volume. These trends are not unique to Energy Focus as evidenced by the increasing number of industry peers facing challenges, exiting LED lighting, selling assets and even going out of business. In addition to continuous, scheduled cost reductions, our strategy to combat these trends is to move up the value chain, with more innovative and differentiated products and solutions that offer greater, distinct value to our customers. Two specific examples of theseproducts we have recently developed include the RedCap®, our emergency backup battery integrated TLED, and EnFocusTM, our new dimmable/tunable lighting and control platform that we launched in 2020. We believe our revamped go-to-market strategy that focuses more on direct-sales and additional sales representatives and listens to the voice of the customer has led to better and more impactful product development efforts and will eventually translate into larger addressable market and greater sales growth for us.

During 2020, we continued to see the benefits from the relaunch efforts (described below) undertaken by the new, current management team, in addition to a number of strategic sourcing projects completed during 2020. It is our belief that the continued momentum of the efforts undertaken in 2019 and into 2020, along with the development and launch of new and innovative products, will over time result in improved sales and bottom-line performance for the Company. We launched our EnFocusTM platform during the second quarter of 2020 and continued to receive positive feedback from existing, new, and prospective customers. The EnFocusTM platform offers two immediately available product lines: EnFocusTM DM, which provides a dimmable lighting solution, and EnFocusTM DCT, which provides both a dimmable and color tunable lighting solution. EnFocusTM enables buildings to have dimmable, color tunable and circadian-ready lighting using existing wiring, without requiring any wireless communications, through a relatively simple upgrade with EnFocusTM switches and tubular LEDs, a more environmentally sustainable solution compared with replacing each lighting fixture.

In addition, in response to the COVID-19 pandemic and an anticipated increase in sanitation and hygiene demand for buildings, facilities and homes, we started developing advanced UVCD products for both consumer as well as the commercial and industrial markets in the first quarter of 2020. We announced the following three UVCD products in October 2020: abUVTM circadian lighting and UVCD air disinfection integrated troffers controlled by the EnFocusTM platform technology; the nUVoTM portable disinfection device for offices and homes; and the mUVeTM autonomous robot designed for surface disinfection.

Table of Contents ENERGY FOCUS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

team, additional operational streamlining, management compensation reductions, and outsourcing of certain functions including certain elements of supply chain and marketing.

On June 11, 2020, in accordance with previous stockholder approval, our Board of Directors effected a 1-for-5 (the “Split Ratio”) reverse stock split of the Company’s common stock, par value $0.0001 per share. The reverse stock split became effective immediately upon the filing of the Certificate of Amendment to the Company’s Certificate of Incorporation, as amended (the “Certificate of Incorporation”), with the Delaware Secretary of State (the “Effective Time”). At the Effective Time, every five shares of common stock issued and outstanding automatically combined into one validly issued, fully paid and non-assessable share of common stock. No fractional shares were issued as a result of the reverse stock split. The $0.0001 par value per share of common stock and other terms of the common stock were not affected by the reverse stock split. The number of authorized shares of common stock under the Certificate of Incorporation remained unchanged at 50,000,000 shares. Proportional adjustments were made to the conversion and exercise prices of our outstanding warrants and stock options, and to the number of shares issued and issuable under our stock incentive plans in connection with the reverse stock split. The information presented in the financial statements for all prior periods have been retroactively adjusted to reflect the reverse stock split. Preferred shares outstanding were not affected by the reverse stock split and, as such, those shares have not been adjusted.

NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

The significant accounting policies of our Company, which are summarized below, are consistent with U.S. GAAP and reflect practices appropriate to the business in which we operate.

Use of estimates

The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting periods presented. Estimates include, but are not limited to, the establishment of reserves for accounts receivable, sales returns, inventory excess and obsolescence reserve and warranty claims, the useful lives for property and equipment and stock-based compensation. In addition, estimates and assumptions associated with the determination of the fair value of financial instruments and evaluation of long-lived assets for impairment requires considerable judgment. Actual results could differ from those estimates and such differences could be material.

Basis of presentation

The Consolidated Financial Statements include the accounts of the Company. All significant inter-company balances and transactions have been eliminated. Unless indicated otherwise, the information in the Notes to Consolidated Financial Statements relates to our operations.

Revenue recognition

Net sales include revenues from sales of products and shipping and handling charges, net of estimates for product returns. Revenue is measured at the amount of consideration we expect to receive in exchange for the transferred products. We recognize revenue at the point in time when we transfer the promised products to the customer and the customer obtains control over the products. Distributors’ obligations to us are not contingent upon the resale of our products. We recognize revenue for shipping and handling charges at the time the goods are shipped to the customer, and the costs of outbound freight are included in cost of sales. We provide for product returns based on historical return rates. While we incur costs for sales commissions to our sales employees and outside agents, we recognize commission costs concurrent with the related revenue, as the amortization period is less than one year. We do not incur any other incremental costs to obtain contracts with our customers. Our product warranties are assurance-type warranties, which promise the customer that the products are as specified in the contract. Therefore, the product warranties are not a separate performance obligation and are accounted for as described below. Sales taxes assessed by governmental authorities are accounted for on a net basis and are excluded from net sales.

A disaggregation of product net sales is presented in Note 13, “Product and Geographic Information.”

Cash and restricted cash

At December 31, 2020 and 2019, we had cash and restricted cash of $2.2 million and $0.7 million, respectively, on deposit with

Table of Contents ENERGY FOCUS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

financial institutions located in the United States. The $2.2 million of cash includes restricted cash of $0.3 million which is presented within prepaid and other current assets and other assets in the accompanying Consolidated Balance Sheets at December 31, 2020 and 2019, respectively. Please refer to Note 3, “Restructuring,” for additional information.

Inventories

We state inventories at the lower of standard cost (which approximates actual cost determined using the first-in-first-out method) or net realizable value. We establish provisions for excess and obsolete inventories after evaluation of historical sales, current economic trends, forecasted sales, product lifecycles, and current inventory levels. The assessment is both quantitative and qualitative and currently includes a COVID-19 impact analysis. During 2019, due to efforts to sell excess and obsolete inventory and better management of inventory orders, we realized a net reduction of $0.6 million of our excess and obsolete reserves. During 2020, we continued to apply discipline in manufacturing and supply chain management, focusing on a reduction of lead time and inventory on hand which resulted in a net reduction of our gross inventory levels of $1.2 million and excess inventory reserves of $0.6 million compared to 2019. Adjustments to our estimates, such as forecasted sales and expected product lifecycles, could harm our operating results and financial position. Please refer to Note 5, “Inventories,” for additional information.

Accounts receivable

Our trade accounts receivable consists of amounts billed to and currently due from customers. Our customers are concentrated in the United States. In the normal course of business, we extend unsecured credit to our customers related to the sale of our products. Credit is extended to customers based on an evaluation of the customer’s financial condition and the amounts due are stated at their estimated net realizable value. During the first eleven months of 2019, we evaluated and monitored the creditworthiness of each customer on a case-by-case basis. However, during December 2019, we transitioned to an account receivables insurance program with a very high credit worthy insurance company where we have the large majority of the accounts receivable insured with a portion of self-retention. This third party also provides credit-worthiness ratings and metrics that significantly assists us in evaluating the credit worthiness of both existing and new customers. We maintain allowances for sales returns and doubtful accounts receivable to provide for the estimated amount of account receivables that will not be collected. The allowance is based on an assessment of customer creditworthiness and historical payment experience, the age of outstanding receivables, and performance guarantees to the extent applicable. Past due amounts are written off when our internal collection efforts have been unsuccessful, and payments subsequently received on such receivables are credited to the allowance for doubtful accounts. We do not generally require collateral from our customers.

Income taxes

Significant management judgment is required in determining our provision for income taxes, deferred tax assets and liabilities, and any valuation allowance recorded against our deferred tax assets. At December 31, 2020 and 2019, we have recorded a full valuation allowance against our net deferred tax assets in the United States due to uncertainties related to our ability to utilize our deferred tax assets, primarily consisting of certain net operating losses carried forward. The valuation allowance is based upon our estimates of taxable income by jurisdiction and the period over which our deferred tax assets will be recoverable. In considering the need for a valuation allowance, we assess all evidence, both positive and negative, available to determine whether all or some portion of the deferred tax assets will not be realized. Such evidence includes, but is not limited to, recent earnings history, projections of future income or loss, reversal patterns of existing taxable and deductible temporary differences, and tax planning strategies. We continue to evaluate the need for a valuation allowance on a quarterly basis.

Table of Contents ENERGY FOCUS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

At December 31, 2020, we had net operating loss carry-forwards of approximately $115.9 million for federal income tax purposes ($72.3 million for state and local income tax purposes). However, due to changes in our capital structure, approximately $61.5 million of the $115.9 million is available to offset future taxable income after the application of the limitations found under Section 382 of the Internal Revenue Code of 1986, as amended (the “IRC”). As a result of the Tax Cuts and Jobs Act of 2017 (the “Tax Act”), net operating loss carry-forwards generated in tax years beginning after December 31, 2017 can only offset 80% of taxable income. These net operating loss carry-forwards can no longer be carried back, but they can be carried forward indefinitely. The $7.1 million and $8.3 million in net operating losses generated in 2020 and 2019, respectively, will be subject to the new limitations under the Tax Act. If not utilized, the carry-forwards generated prior to December 31, 2017 of $37.3 million will begin to expire in 2021 for federal purposes and have begun to expire for state and local purposes. Please refer to Note 12, “Income Taxes,” for further information.

Financial Instruments

In January 2020, we completed a registered direct offering for the sale of 688,360 shares of our common stock to certain institutional investors, at a purchase price of $3.37 per share. We also sold, to the same institutional investors, warrants to purchase up to 688,360 shares of common stock at an exercise price of $3.37 per share in a concurrent private placement for a purchase price of $0.6250 per warrant. We paid the placement agent commissions of $193 thousand plus $50 thousand in expenses in connection with the registered direct offering and the concurrent private placement and we also paid legal, accounting and other fees of $231 thousand related to the offering. Total offering costs of $510 thousand have been presented as a reduction of additional paid-in capital and have been netted within equity in the Consolidated Balance Sheet as of December 31, 2020. In addition, we issued warrants to the placement agent to purchase up to 48,185 shares of common stock at an exercise price of $4.99 per share. Net proceeds to us from the sale of common stock and warrants (the “January 2020 Equity Offering”) were approximately $2.3 million. In accordance with the terms of the Iliad Note (as defined below in Note 9, “Debt”), 10% of the gross proceeds from the January 2020 Equity Offering ($275 thousand) were used to make payments on the Iliad Note, of which $226 thousand went towards the outstanding principal amount and the balance to interest.

Warrants to purchase an aggregate of 467,306 shares remain outstanding at December 31, 2020 with a weighted average exercise price of $3.51 per share. During the twelve months ended December 31, 2020, 269,240 warrants were exercised resulting in total proceeds of $918 thousand. The exercise of the remaining warrants outstanding could provide us with cash proceeds of up to $1.6 million in the aggregate.

Due to a potential cash settlement upon occurrence of a fundamental transaction within the warrant agreement, the warrants were initially classified as liabilities, as opposed to equity, and were recorded at their fair values at each balance sheet date. During December 2020, the warrant holders agreed to a modification of the terms of their warrants which removed the potential cash settlement option upon the occurrence of a fundamental transaction. As such, during the fourth quarter of 2020, the remaining 467,306 warrants were fair-valued through the modification date with the offsetting adjustment recorded in income. The $1.4 million warrant liability was then reclassified into equity and the warrants are no longer subject to re-measurement at each balance sheet date. Please also refer to Note 11, “Stockholders’ Equity”.

Fair value measurements

Fair value is defined as the price that would be received to sell an asset or would be paid to transfer a liability in an orderly transaction between market participants on the measurement date. The fair value of financial assets and liabilities are measured on a recurring or non-recurring basis. Financial assets and liabilities measured on a recurring basis are those that are adjusted to fair value each time a financial statement is prepared. Financial assets and liabilities measured on a non-recurring basis are those that are adjusted to fair value when a significant event occurs.

We utilize valuation techniques that maximize the use of available market information and generally accepted valuation methodologies. We assess the inputs used to measure fair value using a three-tier hierarchy. The fair value hierarchy prioritizes the inputs to valuation techniques used to measure fair value, giving the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements).

Table of Contents ENERGY FOCUS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

The three levels of the fair value hierarchy are described below. We classify the inputs used to measure fair value into the following hierarchy:

Level 3 Unobservable inputs for the asset or liability.

The carrying amounts of certain financial instruments including cash, accounts receivable, accounts payable, and accrued liabilities approximate fair value due to their short maturities. Based on borrowing rates currently available to us for loans with similar terms, the carrying value of borrowings under our revolving credit facilities also approximates fair value.

A financial instrument’s level within the fair value hierarchy is based on the lowest level of any input that is significant to the fair value measurement. In determining the appropriate levels, we perform a detailed analysis of the assets and liabilities whose fair value is measured on a recurring basis. We review and reassess the fair value hierarchy classifications on a quarterly basis. Changes from one quarter to the next related to the observability of inputs in a fair value measurement may result in a reclassification between fair value hierarchy levels. There were no reclassifications for all periods presented.

A roll-forward of fair value measurements using significant unobservable inputs (Level 3) for the warrants is as follows (in thousands):

Twelve months ended December 31, 2020

Balance January 1, 2020 $ —

Settlements from exercise (1,317)

Loss from change in fair value of warrants 1,086

Reclassification to equity upon modification $ (1,405)

Long-lived assets

Property and equipment are stated at cost and include expenditures for additions and major improvements. Expenditures for repairs and maintenance are charged to operations as incurred. We use the straight-line method of depreciation over the estimated useful lives of the related assets (generally two to 15 years) for financial reporting purposes. Accelerated methods of depreciation are used for federal income tax purposes. When assets are sold or otherwise disposed of, the cost and accumulated depreciation are removed from the accounts and any gain or loss is reflected in the Consolidated Statements of Operations. Refer to Note 6, “Property and Equipment,” for additional information.

Certain risks and concentrations

Historically our products were sold through a direct sales model, which included a combination of direct sales employees, electrical and lighting contractors, and distributors. Up until December 2019, we performed ongoing credit evaluations of our customers, but in December 2019 converted to the use of a third-party accounts receivable insurance and credit assessment company. Although we maintain allowances for potential credit losses that we believe to be adequate, a payment default on a significant sale could materially and adversely affect our operating results and financial condition, although we have mitigated this risk somewhat through the accounts receivable insurance program.

Table of Contents ENERGY FOCUS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

We have certain customers whose net sales individually represented 10% or more of our total net sales, or whose net trade accounts receivable balance individually represented 10% or more of our total net trade accounts receivable, as follows:

•In 2020, two customers accounted for 62% of net sales, with sales to our primary distributor for the U.S. Navy accounting for approximately 49% and sales to a regional commercial lighting retrofit company accounting for approximately 12% of net sales. When sales to our primary distributor for the U.S. Navy are combined with sales to shipbuilders for the U.S. Navy, total net sales of products for the U.S. Navy comprised approximately 53% of net sales for the same period. In 2019, two customers accounted for 45% of net sales and total sales to distributors to the U.S. Navy represented 23% of net sales.

•At December 31, 2020, a distributor to the U.S. Navy accounted for 28% of our net trade accounts receivable and a shipbuilder for the U.S. Navy accounted for 21% of our net trade accounts receivable. At December 31, 2019, a distributor to the U.S. Navy accounted for 10% of our net trade accounts receivable and a large regional retrofit company accounted for 41% of our net trade accounts receivable.

We require substantial amounts of purchased materials from selected vendors. With specific materials, all of our purchases are from a single vendor. Substantially all of the materials we require are in adequate supply. However, the availability and costs of materials may be subject to change due to, among other things, new laws or regulations, suppliers’ allocation to other purchasers, interruptions in production by suppliers, global health issues such as the COVID-19 pandemic, and changes in exchange rates and worldwide price and demand levels. Our inability to obtain adequate supplies of materials for our products at favorable prices could have a material adverse effect on our business, financial position, or results of operations by decreasing our profit margins and by hindering our ability to deliver products to our customers on a timely basis. Additionally, certain vendors require advance deposits prior to the fulfillment of orders. Deposits paid on unfulfilled orders totaled $0.8 million and $0.1 million at December 31, 2020 and 2019, respectively.

We have certain vendors who individually represented 10% or more of our total expenditures, or whose net trade accounts payable balance individually represented 10% or more of our total net trade accounts payable, as follows:

•One offshore supplier and one domestic supplier accounted for approximately 21% and 12%, respectively, of our total expenditures for the twelve months ended December 31, 2020. At December 31, 2020, this same offshore supplier accounted for approximately 44% of our trade accounts payable balance.

•For the twelve months ended December 31, 2019, one offshore supplier accounted for approximately 21% of our total purchases. This same offshore supplier accounted for approximately 54% of our trade accounts payable balance at December 31, 2019.

Product development

Product development expenses include salaries, contractor and consulting fees, supplies and materials, as well as costs related to other overhead items such as depreciation and facilities costs. Research and development costs are expensed as they are incurred.

Net loss per share

Basic loss per share is computed by dividing net loss available to common stockholders by the weighted average number of shares of common stock outstanding during the period, excluding the effects of any potentially dilutive securities. Diluted loss per share gives effect to all dilutive potential shares of common stock outstanding during the period. Dilutive potential shares of common stock consist of incremental shares upon the exercise of stock options, warrants and convertible securities, unless the effect would be anti-dilutive.

Table of Contents ENERGY FOCUS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

The following table presents a reconciliation of basic and diluted loss per share computations (in thousands, except per share amounts):

For the years ended December 31,

Numerator:

Denominator:

Basic and diluted weighted average common shares outstanding* 3,270 2,462

As a result of the net loss we incurred for the year ended December 31, 2020, options, restricted share units, warrants and convertible preferred stock representing approximately 69 thousand, 4 thousand, 174 thousand and 506 thousand shares of common stock, respectively, were excluded from the basic loss per share calculation, because their inclusion would have been anti-dilutive.

As a result of the net loss we incurred for the year ended December 31, 2019, options and restricted share units representing approximately 1 thousand and 27 thousand shares of common stock, respectively, and convertible preferred stock representing approximately 507 thousand shares of common stock, were excluded from the basic loss per share calculation as their inclusion would have been anti-dilutive.

Stock-based compensation

We recognize compensation expense based on the estimated grant date fair value under the authoritative guidance. Management applies the Black-Scholes option pricing model to value stock options issued to employees and directors and applies judgment in estimating key assumptions that are important elements of the model in expense recognition. These elements include the expected life of the option, the expected stock-price volatility, and expected forfeiture rates. Compensation expense is generally amortized on a straight-line basis over the requisite service period, which is generally the vesting period. See Note 11, “Stockholders’ Equity,” for additional information. Common stock, stock options, and warrants issued to non-employees that are not part of an equity offering are accounted for under the applicable guidance under Accounting Standards Codification (“ASC”) 505-50, “Equity-Based Payments to Non-Employees,” and are generally re-measured at each reporting date until the awards vest.

Foreign currency translation

Our product development center in Taiwan, which was shut down in 2019, used local currency as its functional currency. Included within “Accumulated other comprehensive loss” within the Consolidated Statements of Stockholders’ Equity is the effect of foreign currency translation related to our Taiwan operations. The 2019 shut down did not have a material effect on the Consolidated Financial Statements.

Advertising expenses

Advertising expenses are charged to operations in the period incurred. They consist of costs for the placement of our advertisements in various media and the costs of demos provided to potential distributors of our products. Advertising expenses were $0.1 million and $0.2 million for the years ended December 31, 2020 and 2019, respectively.

Product warranties

Through March 31, 2016, we warranted finished goods against defects in material and workmanship under normal use and service for periods generally between one and five years. Beginning April 1, 2016, we warrant our commercial TLEDs, the troffer luminaires, and certain Globe Lights for a period of ten years (excluding RedCap® and our Battery Backup TLEDs), and all other LED products for five years per the Terms and Conditions outlined on our website. Beginning in October 2019, TLEDs (excluding RedCap®) are primarily warranted for ten years, certain D-Series lamps are warranted for either ten years or five years based on the customer’s choice at time of purchase, and the warranty for all of our other products is five years. Warranty settlement costs consist of actual amounts expensed for warranty, which are largely a result of the cost of replacement

Table of Contents ENERGY FOCUS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

products provided to our customers. A liability for the estimated future costs under product warranties is maintained for products under warranty based on the actual claims incurred to date and the estimated nature, frequency, and costs of future claims. These estimates are inherently uncertain and changes to our historical or projected experience may cause material changes to our warranty reserves in the future. We continuously review the assumptions related to the adequacy of our warranty reserve, including product failure rates, and make adjustments to the existing warranty liability when there are changes to these estimates or the underlying replacement product costs, or the warranty period expires.

The following table summarizes warranty activity for the periods presented (in thousands):

At December 31,

Balance at the beginning of the year $ 195 $ 258

Accruals for warranties issued 33 78

Adjustments to existing warranties 19 (91)

Settlements made during the year (in kind) (20) (50)

Accrued warranty reserve at the end of the period $ 227 $ 195

Recently issued accounting pronouncements

In June 2016, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, which significantly changes the accounting for credit losses on instruments within its scope. The new guidance introduces an approach based on expected losses to estimate credit losses on certain financial instruments, including trade receivables, and requires an entity to recognize an allowance based on its estimate of expected credit losses rather than incurred losses. This standard will be effective for interim and annual periods starting after December 15, 2022 and will generally require adoption on a modified retrospective basis. We are in the process of evaluating the impact of the standard.

Adoption of recent accounting pronouncements

In August 2018, the FASB issued ASU No. 2018-15, Intangibles--Goodwill and Other--Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract, which aligns the requirements for capitalizing implementation costs in a cloud computing service contract with the requirements for capitalizing implementation costs incurred for an internal-use software license. This standard was effective for interim and annual periods starting after December 15, 2019. The adoption of this guidance did not have a significant impact on our financial position, results of operations, or cash flows.

The results for reporting periods beginning on or after January 1, 2019 are presented under Topic 842, while prior period amounts are not adjusted and continue to be reported in accordance with legacy generally accepted accounting principles.

Table of Contents ENERGY FOCUS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

On adoption, we recognized additional operating lease liabilities of approximately $2.9 million on January 1, 2019, with corresponding right-of-use assets based on the present value of the remaining minimum rental payments for our existing operating leases. The operating lease right-of-use assets recorded upon adoption were offset by the carrying value of liabilities previously recorded under ASC Topic 420, Exit or Disposal Cost Obligations (“Topic 420”), and impairment charges totaling $0.3 million and $0.2 million, respectively. Refer to Note 4, “Leases” below for additional disclosures relating to the Company’s leasing arrangements.

NOTE 3.RESTRUCTURING

Due to our financial performance in 2019 and 2020, including net losses of $7.4 million, and $6.0 million, respectively, and total cash used in operating activities of $6.6 million and $2.5 million, respectively, we determined that substantial doubt about our ability to continue as a going concern continues to exist at December 31, 2020.

Since April 2019, we experienced significant change at the Company. Prior to James Tu returning as Chief Executive Officer and Chairman at the beginning of April 2019, the Company had experienced significant sales declines, operating losses and increases in its inventory. Immediately upon Mr. Tu returning to the Company, significant additional restructuring efforts were undertaken. The company has since then replaced the entire senior management team, significantly reduced non-critical expenses, minimized the amount of inventory the company was purchasing, dramatically changed the composition of our board of directors, as well as adding very selectively to the executive team by hiring Tod Nestor as President and Chief Financial Officer at the beginning of July 2019 and James R. Warren as Senior Vice President, General Counsel and Corporate Secretary in September 2020, in addition to recruiting new departmental leaders across the Company. The cost savings efforts undertaken included the Company implementing phased actions to reduce costs to minimize cash usage. Our initial actions included the elimination of certain positions, restructuring of the sales organization and incentive plan, flattening of the senior management team, additional operational streamlining, management compensation reductions, and outsourcing of certain functions including certain elements of supply chain and marketing. In connection with these actions, we recorded severance and related benefits charges of $0.2 million during 2019. These additional restructuring charges primarily related to severance and related benefits charges as a result of eliminating three positions during the first quarter of 2019 and nine positions during the second quarter of 2019, as well as costs associated with closing our offices in San Jose, California and Taipei, Taiwan in the second quarter of 2019. With quarterly sales for the Company leveling off at its low point in the third quarter of 2019 at $2.9 million, we began to see the impact for our relaunch efforts and restructuring of our sales organization in the fourth quarter achieving sales of $3.5 million, or a quarter-over-quarter growth rate of 21.1%. In addition, losses were mitigated through the better cost management and a sharp focus on better managing pricing and inventory decisions for the last half of 2019.

For the twelve months ended December 31, 2020, we recorded net restructuring credits of approximately $60 thousand related to the costs and offsetting sub-lease income and accretion expense for the remaining lease obligation for our former New York, New York office. Our restructuring liabilities consist of estimated ongoing costs related to long-term operating lease obligations, which the Company has exited. The recorded value of the ongoing lease obligations is based on the remaining lease term and payment amount, discounted to present value. Changes in subsequent periods resulting from a revision to either the timing or the amount of estimated cash flows over the future period are measured using the credit adjusted, risk free rate that was used to measure the restructuring liabilities initially. Please also refer to Note 4, “Leases” as certain amounts formerly included below in the restructuring reserve as of December 31, 2018, have been reclassified on the balance sheet to be shown netted against the restructured lease, right-of-use asset in accordance with Topic 842.

Table of Contents ENERGY FOCUS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

The following is a reconciliation of the beginning and ending balances of our restructuring liability as it relates to the Company’s restructuring plans (in thousands):

Restructuring Liability

Accretion of lease obligations 4

Reclassification upon adoption of Topic 842 (273)

Payments (43)

Accretion of lease obligations 2

Payments (29)

The following is a reconciliation of the ending balance of our restructuring liability at December 31, 2020 and December 31, 2019 (in thousands):

Balance at December 31 $ 11 $ 38

Less, short-term restructuring liability 11 24

Long-term restructuring liability, included in other liabilities $ — $ 14

As a result of the restructuring actions and initiatives described above, we have reduced our operating expenses to be more commensurate with our sales volumes, however, we continue to incur losses and have a substantial accumulated deficit, and

substantial doubt about our ability to continue as a going concern continues to exist at December 31, 2020.

Since the executive transition on April 1, 2019, we have continued to evaluate and assess strategic options as we seek to achieve profitability. We plan to achieve profitability through growing our sales by continuing to execute on our multi-channel sales strategy that targets key verticals, such as government, healthcare, education, and commercial and industrial, complemented by our marketing outreach campaigns and expanding channel partnerships. We also plan to continue to develop advanced lighting and lighting control technologies and introduce impactful new products such as EnFocusTM, a breakthrough lighting control platform we officially launched during the second quarter of 2020. In addition, during the third quarter of 2020, we announced newly developed UVCD products for both consumer, as well as commercial and industrial, markets.

As described in Note 11, “Stockholders’ Equity,” we also raised approximately $2.3 million of net proceeds upon the issuance of common stock and warrants in connection with the January 2020 Equity Offering. Additionally, we have entered into two new revolving credit facilities as described in Note 9, “Debt,” which allow for expanded borrowing capacity.

The restructuring and cost cutting initiatives implemented during 2019, as well as the January 2020 Equity Offering that significantly strengthened our balance sheet, and our enhanced debt capacity due to the debt refinancing in August 2020, were designed to allow us to effectively execute these strategies. However, our efforts may not occur as quickly as we envision or be successful due to the long sales cycle in our industry, the corresponding time required to ramp up sales from new products and markets into this sales cycle, the timing of introductions of additional new products, significant competition, potential sales volatility given our customer concentration, and the recent and lingering economic impact from the COVID-19 pandemic, among other factors. As a result, we will continue to review and pursue selected external funding sources to ensure adequate financial resources to execute across the timelines required to achieve these objectives including, but not limited to, the following:

•obtaining financing from traditional or non-traditional investment capital organizations or individuals;

•obtaining funding from the sale of our common stock or other equity or debt instruments; and

•obtaining debt financing with lending terms that more closely match our business model and capital needs.

There can be no assurance that we will obtain funding on acceptable terms, in a timely fashion, or at all. Obtaining additional funding contains risks, including:

•additional equity financing may not be available to us on satisfactory terms, and any equity we are able to

Table of Contents ENERGY FOCUS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

issue could lead to dilution for current stockholders and have rights, preferences and privileges senior to our common stock;

•loans or other debt instruments may have terms and/or conditions, such as interest rate, restrictive covenants, conversion features, refinancing demands, and control or revocation provisions, which are not acceptable to management or our board of directors; and

•the current environment in the capital markets combined with our capital constraints may prevent us from being able to obtain adequate debt financing.

If we fail to obtain additional financing to sustain our business before we are able to produce levels of revenue to meet our financial needs, we will need to delay, scale back or eliminate our growth plans and further reduce our operating costs and headcount, each of which would have a material adverse effect on our business, future prospects, and financial condition. A lack of additional funding could also result in our inability to continue as a going concern and force us to sell certain assets or discontinue or curtail our operations and, as a result, investors in the Company could lose their entire investment.

Considering both quantitative and qualitative information, we continue to believe that the combination of our plans to ensure adequate external funding, timely re-organizational actions, current financial position, liquid resources, obligations due or anticipated within the next year, development and implementation of an excess inventory reduction plan, application and successful acquisition of a Paycheck Protection Program (“PPP”) loan during April 2020, plans and initiatives in our research and development, product development and sales and marketing, and development of potential channel partnerships, if adequately executed, will provide us with an ability to finance our operations through the next twelve months and will mitigate the substantial doubt about our ability to continue as a going concern.

In January 2019, we received a letter from the Nasdaq Listing Qualifications Staff (the “Staff”) notifying us that, for the prior 30 consecutive trading days, the closing bid price for our common stock was below the minimum $1.00 per share required pursuant to Nasdaq Listing Rule 5550(a)(2) (the “Bid Price Rule”). In accordance with Nasdaq Listing Rule 5810(c)(3)(A), our common stock traded above $1.00 for the required number of days within the 180-calendar day period immediately following our receipt of the notice to regain compliance with the Bid Price Rule.

On May 15, 2019, we received a letter from the Staff notifying us that our common stock had again fallen out of compliance with the Bid Price Rule. On October 15, 2019, the Company formally requested a 180-day extension beginning November 12, 2019 to regain compliance. On April 16, 2020, the Nasdaq Stock Market (“Nasdaq”) announced that, in response to the COVID-19 pandemic and related extraordinary market conditions, it had provided temporary relief through June 30, 2020 from compliance with, among other rules, the Bid Price Rule. As a result, we had until July 24, 2020 to regain compliance with the Bid Price Rule, which we accomplished by effecting a 1-for-5 reverse stock split on June 11, 2020, increasing the per share trading price of our common stock. Our common stock began trading on Nasdaq on a split-adjusted basis at the opening of trading on June 12, 2020.

On August 17, 2020, we received a letter from the Staff notifying us that we were no longer in compliance with Nasdaq Listing Rule 5550(b)(1), which requires listed companies to maintain stockholders’ equity of at least $2,500,000 if they do not meet the alternative compliance standards relating to the market value of listed securities or net income from continuing operations (the “Minimum Stockholders’ Equity Rule”). Our Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2020, reflected that our stockholders’ equity as of June 30, 2020 was $1,714,000. In addition, as of August 13, 2020, we did not meet the alternative compliance standards relating to the market value of listed securities or net income from continuing operations. On October 5, 2020, based on our timely submission of our plan to regain compliance, Nasdaq granted us an extension through February 15, 2021 to regain compliance with the Minimum Stockholders’ Equity Rule, subject to our compliance with certain terms of the extension. In accordance with one part of the plan submitted to the Staff, we have successfully modified our outstanding warrants and are able to now classify the warrants within equity. In December 2020, we reclassified $1.4 million from warrant liability into equity. At December 31, 2020, our stockholders’ equity was $4,255,000. On January 20, 2021, we received a letter from the Staff notifying us that, on a conditional basis, Nasdaq has determined that we have regained compliance with the Minimum Stockholders’ Equity Rule.

NOTE 4. LEASES

The Company leases certain equipment, manufacturing, warehouse and office space under non-cancellable operating leases expiring through 2024 under which it is responsible for related maintenance, taxes and insurance. As of January 21, 2021, the terms of one of these equipment operating leases has been extended through 2026. In accordance with Topic 842, the related right-of-use asset and lease liability will be updated at the time of modification in January 2021. The Company has one finance lease containing a bargain purchase option upon expiration of lease in 2022. The lease term consists of the non-cancellable

Table of Contents ENERGY FOCUS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

period of the lease, periods covered by options to extend the lease if the Company is reasonably certain to exercise the option, and periods covered by an option to terminate the lease if the Company is reasonably certain not to exercise the option. The present value of the remaining lease obligation for these leases was calculated using an incremental borrowing rate (“IBR”) of 7.25%, which was the Company’s borrowing rate on the revolving credit agreement signed on December 11, 2018. The weighted average remaining lease term for operating, restructured and finance leases is 1.6 years, 0.5 years, and 1.3 years, respectively.

The Company had two restructured leases with sub-lease components for the New York, New York and Arlington, Virginia offices that were closed in 2017. The New York, New York lease expires in 2021 and the Arlington, Virginia lease expired in September 2019. At the “cease use” date in 2017, the Company recorded the present value of the future minimum payments under the leases and costs that continue to be incurred with no economic benefit to the Company in accordance with Topic 420. The Company entered into sub-leases for both offices and included the estimated sub-lease payments as an offset to the remaining lease obligations, as required by Topic 420 at that time. In adopting Topic 842, the carrying value of the aforementioned net liabilities has been reclassified as a reduction of the restructured lease, right-of-use asset, which totaled $0.3 million as of January 1, 2019. As part of the lease agreement for the New York, New York office, there is $0.3 million in restricted cash in prepaid and other current assets on the accompanying Consolidated Balance Sheets as of December 31, 2020 which represents collateral against the related Letter of Credit issued as part of this agreement. As of December 31, 2019, the $0.3 million in restricted cash is included in other long-term assets on the Consolidated Balance Sheet.

The restructured lease and sub-lease were deemed to be in-scope and thus subject to the requirements of Topic 842 and were evaluated for impairment in accordance with the asset impairment provisions of ASC 360, Property, Plant and Equipment (“Topic 360”). The Company concluded its net right-of-use assets were not impaired and the carrying amount approximates expected sublease income in future years as of December 31, 2020. The Company continues to carry certain immaterial operating expenses associated with this lease as restructuring liabilities and will continue to accrete those liabilities in accordance with Topic 420, as has been done since the cease use date in 2017.

Due to the continued net losses, going concern, and restructuring actions discussed in Note 3, “Restructuring,” the Company also evaluated its Solon, Ohio operating lease right-of-use asset for potential impairment under Topic 360. As a result of this evaluation, the Company determined that the operating lease right-of-use asset for the Solon, Ohio operating lease was impaired upon the adoption of Topic 842. Therefore, the Company recorded an impairment of this right-of-use asset of approximately $0.2 million, with a corresponding offset to accumulated deficit as of January 1, 2019.

Components of the operating, restructured and finance lease costs recognized in net loss were as follows (in thousands):

For the years ended December 31,

Operating lease cost (income)

Sub-lease income $ (105) $ (100)

Operating lease cost, net 492 528

Restructured lease cost (income)

Restructured lease income, net (35) (18)

Finance lease cost

Interest of lease liabilities — 1

Finance lease cost, net — 1

Total lease cost, net $ 457 $ 511

Table of Contents ENERGY FOCUS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Supplemental Consolidated Balance Sheet information related to the Company’s operating and finance leases are as follows (in thousands):

At December 31,

Operating Leases

Operating lease right-of-use assets $ 794 $ 1,289

Restructured lease right-of-use assets 107 322

Operating lease right-of-use assets, total 901 1,611

Operating lease liabilities 916 1,480

Restructured lease liabilities 168 488

Operating lease liabilities, total 1,084 1,968

Finance Leases

Property and equipment 13 13

Allowances for depreciation (9) (5)

Finance lease assets, net 4 8

Finance lease liabilities 4 6

Total finance lease liabilities $ 4 $ 6

Future minimum lease payments required under operating, restructured and finance leases for each of the years 2021 through 2025 are as follows (in thousands):

Total future undiscounted lease payments 968 170 (136) 4

Less imputed interest (52) (2) 2 —

Supplemental cash flow information related to leases was as follows (in thousands):

Years ended December 31,

Supplemental Cash Flow Information:

Cash paid, net, for amounts included in the measurement of lease liabilities:

Operating cash flows from operating leases $ 537 $ 536

Operating cash flows from restructured leases $ 69 $ 87

Financing cash flows from finance leases $ 3 $ 3

Table of Contents ENERGY FOCUS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE5.INVENTORIES

Inventories are stated at the lower of standard cost (which approximates actual cost determined using the first-in, first-out cost method) or net realizable value and consists of the following (in thousands):

At December 31,

Reserve for excess, obsolete, and slow-moving inventories (2,894) (3,518)

The following is a roll-forward of the reserves for excess, obsolete, and slow-moving inventories (in thousands):

At December 31,

Energy Focus, Inc/De EFOI US Equity

EFOI · 10-K · period ended 2020-12-31

ITEM 7.MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OFOPERATIONS

ITEM 7A.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

ITEM8.FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

Energy Focus, Inc/De EFOI US Equity☆

EFOI · 10-K · period ended 2020-12-31

ITEM 7.MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OFOPERATIONS

ITEM 7A.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

ITEM8.FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

Energy Focus, Inc/De EFOI US Equity