QS ENERGY, INC. Form 10-Q (2024)

Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

For the quarterly period ended March 31, 2024

or

For the transition period from __________ to __________

Commission File Number 0-29185

QS ENERGY, INC.

(Exact name of registrant as specified in its charter)

23902 FM 2978

Tomball, TX 77375

(Address, including zip code, of principal executiveoffices)

(775) 300-7647

(Registrant’s telephone number, including areacode)

Securities registered pursuant to Section 12(b)of the Act:

Check whether the Registrant (1)filed all reportsrequired to be filed by Section13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12months (or for suchshorter period that the registrant was required to file such reports), and (2)has been subject to such filing requirements for thepast 90days. Yes ☒ No ☐

Indicate by check mark whether the registrant hassubmitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 ofthis chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒No ☐

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

If an emerging growth company, indicate by check markif the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standardsprovided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is ashell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒

The number of shares of the Registrant’s Common Stock outstandingas of May 10, 2024 was .

Forward-Looking Statements

This Quarterly Report on Form10-Q contains forward-looking statements. These forward-looking statements include predictions and statements regarding our future:

You can identify these and otherforward-looking statements by the use of words such as “may,” “will,” “expects,” “anticipates,”“believes,” “estimates,” “intends,” “project,” “potential,” “forecast”“continues,” “strategies,” or the negative of such terms, or other comparable terminology, and also include statementsconcerning plans, objectives, goals, strategies and future events or performance.

Our actual results could differmaterially from those anticipated in these forward-looking statements as a result of various factors, including those set forth belowunder the heading “Risk Factors.” We cannot assure you that we will achieve or accomplish our expectations, beliefs or projections.All forward-looking statements included in this document are based on information available to us on the date hereof. We assume no obligationto update any forward-looking statements.

QS ENERGY, INC.
FORM 10-Q

INDEX

PART I –FINANCIAL INFORMATION

Item1. Unaudited Condensed Consolidated FinancialStatements

QS ENERGY, INC.

CondensedConsolidated Balance Sheets

See notes to condensed consolidated financial statements.

QS ENERGY, INC.

CondensedConsolidated Statements of Operations, Unaudited

See notes to condensed consolidated financial statements.

QS ENERGY, INC.

CondensedConsolidated Statement of Stockholders’ Deficit, Unaudited

For theThree months Ended MARCH 31, 2024 and 2023

See notes to condensed consolidated financial statements.

QS ENERGY, INC.

CondensedConsolidated Statements of Cash Flows, Unaudited

See notes to condensed consolidated financial statements.

QS ENERGY, INC.
Notes to Condensed Consolidated Financial Statements, Unaudited

THREE MONTHS ENDED MARCH 31, 2024 AND 2023

Item 2. Management’s Discussion and Analysisof Financial Condition and Results of Operations

The following discussion and analysisof our financial condition and results of operations should be read in conjunction with the Consolidated Financial Statements and supplementarydata referred to in this Form 10-Q.

This discussion contains forward-lookingstatements that involve risks and uncertainties. Such statements, which include statements concerning future revenue sources and concentration,selling, general and administrative expenses, research and development expenses, capital resources, additional financings and additionallosses, are subject to risks and uncertainties, including, but not limited to, those discussed elsewhere in this Form 10-Q, and in the“Risk Factors” that could cause actual results to differ materially from those projected. Unless otherwise expressly indicated,the information set forth in this Form10-Q is as of March 31, 2024, and we undertake no duty to update this information.

Overview

QS Energy, Inc. (“QS Energy”or “Company” or “we” or “us” or “our”) develops and seeks to commercialize energy efficiencytechnologies that assist in meeting increasing global energy demands, improving the economics of oil transport, and reducing greenhousegas emissions. The Company's intellectual properties include a portfolio of domestic and international patents, a substantial portionof which have been developed in conjunction with and exclusively licensed by us from Temple University of Philadelphia, PA (“Temple”).QS Energy's primary technology (and for now only technology) is called Applied Oil Technology (AOT), a commercial-grade crude oil pipelinetransportation flow-assurance product. Engineered specifically to reduce pipeline pressure loss, increase pipeline flow rate and capacity,and reduce shippers’ reliance on diluents and drag reducing agents to meet pipeline maximum viscosity requirements, AOT is a 100%solid-state system that in lab and other tests has shown to reduce crude oil viscosity by applying a high intensity electrical field tocrude oil while in transit. AOT technology has shown to deliver reductions in crude oil viscosity and pipeline pressure loss as demonstratedin independent third-party tests performed by the U.S. Department of Energy, the PetroChina Pipeline R&D Center, and ATS RheoSystems,a division of CANNON™, at full-scale test facilities in the U.S. and China, and under commercial operating conditions on one ofNorth America’s largest high-volume crude oil pipelines. Prior testing on a commercial crude oil condensate pipeline demonstratedhigh correlation between laboratory analysis and full-scale AOT operations under commercial operating conditions with onsite measurementsand data collected by the pipeline operator on its supervisory control and data acquisition (“SCADA”) system. The AOT productis still in development and testing and has transitioned from laboratory testing to initial demonstration and continued testing in advanceof our goal of seeking commercial acceptance and adoption by the upstream and midstream pipeline marketplace. Such commercial acceptanceand adoption have not been achieved. We continue to devote the bulk of our efforts to the promotion, design, testing and the commercialmanufacturing and test operations of our crude oil pipeline products in the upstream and midstream energy sector. Our efforts in the foregoingregard have been substantially hampered by our lack of capital. We should be able to continue our efforts to commercialize our AOT productduring 2024 only if we are able to raise sufficient capital to do so. We can provide no assurances that we will be able to raise the capitalwe need to continue our efforts in 2024, or that any such capital will be available to us on acceptable terms and conditions.

Our Company was incorporated onFebruary 18, 1998, as a Nevada Corporation under the name Mandalay Capital Corporation. The Company changed its name to Save the WorldAir, Inc. on February 11, 1999. Effective August 11, 2015, the Company changed its name to QS Energy, Inc. The name change was affectedthrough a short-form merger pursuant to Section 92A.180 of the Nevada Revised Statutes. Additionally, QS Energy Pool, Inc., a Californiacorporation, was formed as a wholly owned subsidiary of the Company on July 6, 2015 to serve as a vehicle for the Company to explore,review and consider acquisition opportunities. To date, QS Energy Pool has not entered into any acquisition transaction. However, theCompany will still consider entering into potential beneficial acquisitions. The Company is considering dissolving QS Energy Pool to reducecosts associated with operating this subsidiary. The Company’s common stock is quoted under the symbol “QSEP” on theOver-the-Counter Bulletin Board (Pink Sheets).

More information including theCompany’s updates, fact sheet, logos and media articles are available at our corporate website, www.qsenergy.com.

A history of importantevents associated with our efforts to develop and commercialize our AOT technology is as follows: Since 2011, the Companytransitioned from prototype testing of its AOT technology at the U.S. Department of Energy Rocky Mountain Oilfield Testing Center,Midwest, Wyoming (“RMOTC”), to the design and production of full-scale commercial prototype units. The Company worked ina collaborative engineering environment with multiple energy industry companies to refine the AOT Midstream commercial design tocomply with the stringent standards and qualification processes as dictated by independent engineering audit groups and NorthAmerican industry regulatory bodies. In May 2013, the Company’s first commercial prototype unit known as AOT Midstream, wascompleted.

In 2013, the Company entered intoan Equipment Lease/Option to Purchase Agreement (“TransCanada Lease”) with TransCanada Keystone Pipeline, L.P. by its agentTC Oil Pipeline Operations, Inc. ("TransCanada") which agreed to lease and test the effectiveness of the Company’s AOTtechnology and equipment on one of TransCanada’s operating pipelines. As previously reported in our 10-K report filed with the SECon March 16, 2015, in June 2014, the equipment was accepted by TransCanada and the lease commenced and the first full test of the AOTequipment on the Keystone pipeline was performed in July 2014 by Dr. Rongjia Tao of Temple University, with subsequent testing performedby an independent laboratory, ATS RheoSystems, a division of CANNON™ (“ATS”) in September 2014. Upon review of the July2014 test results and preliminary report by Dr. Tao, QS Energy and TransCanada mutually agreed that this initial test was flawed due to,among other factors, the short-term nature of the test, the inability to isolate certain independent pipeline operating factors such asfluctuations in upstream pump station pressures, and limitations of the AOT device to produce a sufficient electric field to optimizeviscosity reduction. Subsequent testing by ATS in September 2014 demonstrated viscosity reductions of 8% to 23% depending on flow ratesand crude oil types in transit. In its summary report, ATS concluded that i) data indicated a decrease in viscosity of crude oil flowingthrough the TransCanada pipeline due to AOT treatment of the crude oil; and ii) the power supply installed on our equipment would needto be increased to maximize reduction in viscosity and take full advantage of the AOT technology. We determined more testing would berequired to establish the commercial efficacy of our AOT technology. The TransCanada Lease was terminated by TransCanada, effective October15, 2014. Upon termination of the TransCanada Lease, all equipment was uninstalled, returned, inspected and configured for re-deployment.

On July 15, 2014, the Companyentered into an Equipment Lease/Option to Purchase Agreement (“Kinder Morgan Lease”) with Kinder Morgan Crude & Condensate,LLC (“Kinder Morgan”) under which Kinder Morgan agreed to lease and test the effectiveness of the Company’s AOT technologyand equipment on one of Kinder Morgan’s operating crude oil condensate pipelines. Equipment provided under the Lease included asingle AOT Midstream pressure vessel with a maximum flow capacity of 5,000 gallons per minute. The equipment was delivered to Kinder Morganin December 2014 and installed in March 2015. In April 2015, during pre-start testing, low electrical impedance was measured in the unit,indicating an electrical short. A replacement unit was installed in May 2015. The second unit also presented with low impedance when floodedwith crude condensate from Kinder Morgan’s pipeline. Subsequent to design modifications, a remanufactured AOT unit was installedand tested at Kinder Morgan’s pipeline facility in August 2015. Initial results were promising, with the unit operating generallyas expected. However, voltage dropped as preliminary tests continued, indicating decreased impedance within the AOT pressure vessel. QSEnergy personnel and outside consultants performed a series of troubleshooting assessments and determined that, despite modificationsmade to the AOT, conductive materials present in the crude oil condensate appeared to be the root cause of the decreased impedance. Basedon these results, QS Energy and Kinder Morgan personnel mutually agreed to put a hold on final acceptance of equipment under the leaseand suspended in-field testing to provide time to re-test crude oil condensate in a laboratory setting, and thoroughly review and testselected AOT component design and fabrication. Subsequent analysis and testing led to changes in electrical insulation, inlet flow improvementsand other component modifications. These design changes were implemented and tested by Industrial Screen and Maintenance (ISM), one ofQS Energy's supply chain partners in Casper, Wyoming. Tests performed by ISM at its Wyoming facility indicated significant improvementsto system impedance and efficiency of electric field generation.

In February 2016, the modifiedAOT equipment was installed at Kinder Morgan’s facility. Pre-acceptance testing was performed in April 2016, culminating in morethan 24 hours of continuous operations. In-field viscosity measurements and pipeline data collected during this test indicated the AOTequipment operated as expected, demonstrating viscosity reductions equivalent to those measured under laboratory conditions. SupervisoryControl And Data Acquisition (“SCADA”) pipeline operating data collected by Kinder Morgan during this test indicated a pipelinepressure drop reduction consistent with expectations. Results of this test were promising; however, due to the short duration of the testand limited data collection, definitive conclusions regarding the AOT performance and its impact on pipeline operations could not be reached.Based on final analysis of in-field test results, SCADA operating data and subsequent analysis of crude oil condensate samples at TempleUniversity, it became unlikely Kinder Morgan would use the AOT at the original test location or other condensate pipeline. Kinder Morganexpressed interest in AOT operations at one of their heavy crude pipeline locations subject to results of other AOT demonstration projectsand provided the Company with additional crude oil samples which have been tested at Temple University for future test correlation andoperational planning purposes. The Kinder Morgan Lease is currently in suspension and there are no current plans to resume the lease orreinstall an AOT device at a Kinder Morgan facility.

Southern Research Institute (SRI)was engaged by QS Energy in 2015 to investigate the root cause of the crude oil condensate impedance issue by replicating conditions experiencedin the field utilizing a laboratory-scaled version of the AOT and crude oil condensate samples provided by Kinder Morgan. In addition,QS Energy retained an industry expert petroleum pipeline engineer to review the AOT design and suggest design modifications to resolvethe crude oil condensate impedance issue. This engineer has studied design details, staff reports and forensic photographs of each relevantAOT installation and test. Based on these investigations, specific modifications were proposed to resolve the impedance issue, and improvethe overall efficiency of the AOT device, resulting in a new value-engineered design of certain AOT internal components.

During the third quarter of 2016,the Company developed an onsite testing program to demonstrate AOT viscosity reduction at prospective customer sites. This program utilizeda laboratory-scale AOT device designed and developed by the Company and tested at the Southern Research Institute. Under this program,Company engineers set up a temporary lab at the customer’s site to test a full range of crude oils. Fees charged for providing thisservice were dependent on scope of services, crude oil sample to be tested, and onsite time requirements. In the fourth quarter 2016,the Company entered a contract to provide these onsite testing services to a North American oil producer and pipeline operator over aone-week period in early 2017 at a fixed price of $50,000. This test was performed in January 2017; data analysis and final report wascompleted in March 2017. Test results demonstrated viscosity reduction under limited laboratory conditions. The oil producer requestedaccess to observe a full-scale demonstration facility and view operating data when they become available.

In 2014, the Company began developmentof a new suite of products based around the new electrical heat system which reduces oil viscosity through a process known as joule heat(“Joule Heat”). The Company built and tested its first Joule Heat prototype in June 2015. The system was operational; however,changes to the prototype configuration would be required to determine commercial effectiveness of this unit. In December 2015, we suspendedJoule Heat development activities to focus Company resources on finalizing commercial development of the AOT. We may resume Joule Heatdevelopment in the future depending on the availability of sufficient capital and other resources.

In July 2017, the Company filedfor trademark protection for the word “eDiluent” in advance of rolling out a new marketing and revenue strategy based on theconcept of using AOT to reduce pipeline dependence upon diluent to reduce viscosity of crude oils. A primary function of AOT is to reduceviscosity by means of its solid-state electronics technology, in essence providing an electronic form of diluent, or “eDiluent”.Subject to successful testing of our AOT technology and sufficient the availability of operating capital, the Company plans to marketand sell a value-added service under the name eDiluent, designed to be upsold by the Company’s midstream pipeline customers in aneffort to provide the Company with long-term recurring revenues.

During the third quarter 2017,the Company built a dedicated laboratory space at its then Tomball, Texas facility, providing onsite testing utilizing our laboratory-scaleAOT device, among other equipment. Development of an AOT unit for use in crude oil upstream and gathering operations was restarted inSeptember 2017, utilizing resources at the Tomball, Texas facility. Also, during the third quarter 2017, the Company built an outdoorfacility at the Tomball, Texas site for onsite storage of AOT inventory and other large equipment.

Throughout 2018 our primary strategicgoal was focused on installing and operating a demonstration AOT project on a commercial crude oil pipeline. Much of our time was spentmeeting with industry executives and engineers in North and South America and working with local representatives in the Asian and theMiddle Eastern markets. In December 2018, we reached mutual agreement with a major U.S.-based pipeline operator on a demonstration projectunder which we would install and operate our AOT equipment on a crude oil pipeline located in the Southern United States. We believedat the time that the selected project site would be ideal for demonstration purposes, delivering heavy crudes which, based on samplestested at Temple University, and, subject to the discussion below, would experience significant viscosity reduction when treated withour AOT technology.

While management focused on findinga partner and finalizing terms of the demonstration project, and in our continuing efforts to commercialize our AOT technology, our engineeringteam worked throughout 2018 to prepare one of our inventoried AOT units for deployment. All system upgrade, inspections and testing protocolswere completed in December 2018. The pipeline operator finalized site selection and began site design and engineering in January 2019,completing site preparation and equipment installation in June 2019. The project was installed within budget, quality compliant, and withoutsafety incidents. The system passed the pre-start safety review, data acquisition signal verifications, and mechanical inspections. Underfull crude oil flow, the system was confirmed to have no leaks and no environmental issues were noted. Data collected during the full-flowstartup phase confirmed internal differential pressures to be negligible and consistent with design specifications. However, when thesystem was energized, and the unit was run-up to high-voltage operations, the primary power supply began to operate erratically and hadto be taken offline. Subsequent inspection determined the primary power supply had failed.

After removing the primary powersupply, our engineers reconfigured the system to run off a smaller secondary power supply. Although this unit was not capable of achievingtarget treatment voltage, we performed limited testing and troubleshooting measures, after which the damaged power supply was shippedto the manufacturer for expedited repair and reconditioning. Inspections performed during the repair process indicated internal powersupply components had been physically damaged. Though not definitive, it appears that damage may have occurred during transit prior toinitial installation at the demonstration site. While the demonstration project was offline for power supply repairs, our engineeringteam worked with oil samples pulled from the operating pipeline for testing at our then Tomball laboratory facility. These tests weredesigned to confirm our target power requirements as accurately as possible and help us fine-tune enhancements planned for a new optimizedAOT internal grid pack design we had planned to test at the demonstration site as part of our continuing value engineering effort.

During initial testing with thesmall power supply, current draw was greater than prior field deployments. While it was expected that the small power supply would notachieve treatment voltage, as voltage was increased, actual current draw experienced under test conditions exceeded the operating limitof the power supply. Subsequent laboratory and in-field testing performed at our then Tomball facility showed the electrical conductivityof the oil to be quite high and in line with field observations. Although these tests indicated the unit was generally functioning properly,results further indicated the damaged power supply, once repaired, would not be capable of providing sufficient power to fully treat thecrude oil due to the oil’s high electrical conductivity. In anticipation of this result, the Company initiated in advance of testingparallel tasks of: i) installation of the repaired power supply to perform limited testing to confirm laboratory and in-field test results;and ii) procurement of a new power supply capable of providing significantly more power and a modified AOT grid pack assembly reconfiguredand generally optimized based on the latest laboratory and in-field test results.

When the repaired power supplywas installed in late August 2019, the system operated as expected, and limited testing was performed at that time. Results of this limitedtesting were consistent with laboratory tests performed to date. As expected, the repaired power supply was not capable of providing sufficientpower to fully treat the crude oil under commercial operating conditions. Based on results of this limited testing, Company engineerscompleted designs and began implementation of modifications to the AOT internal grid pack assembly.

The new high capacity power supplyand modified grid pack were installed in December 2019. However, prior to flooding the system with crude oil, early-phase startup testingindicated an electrical short circuit. Subsequent inspection revealed damage to the internal grid pack which likely occurred during installation.The grid pack was shipped offsite for repairs with reinstallation scheduled for January 2020.

The AOT demonstration projectcontinued to experience setbacks during the first quarter of 2020. After repairing and re-installing the modified grid pack, the systemshut down again during commissioning presenting with error conditions similar to the December 2019 failure. At that time, based on externalinspections and on-site testing, our engineers suspected the grid pack had again been damaged during re-installation and that such suspecteddamage was the most likely cause of the electrical short circuit. It was determined at that time the best course of action would be toremove the modified grid pack and re-install the original grid pack which had previously been installed multiple times without sustainingdamage, and perform a detailed inspection of the modified grid pack in an effort to determine the cause of the electrical short circuit.

Executing this plan, our teamremoved the modified grid pack and re-installed the original grid pack assembly in the AOT in January 2020. After removal, our engineersperformed a detailed inspection of the modified grid pack. Inconsistent with expectations, no damage to the modified grid pack was foundduring this inspection, leaving the cause of the electrical short circuit undiagnosed.

In January and February 2020,our engineers tested and attempted to operate the AOT under a variety of conditions. In these tests, the system could be run at high voltage,but not high enough for treatment with the installed grid pack, under static “shut-in” conditions; however, the system continuedto shut down due to an electrical short circuit when operated under pressure. In simple terms, this means the system could be floodedwith crude oil and powered up in excess of 10,000 volts when the system was shut-in by closing the intake and outtake valves which isolatesthe system from the pipeline’s operating pressure. However, once the valves were opened and the system was subjected to the pipeline’soperating pressure, the system developed an electrical short circuit and shut down.

As the presence of high pressureappears to trigger the short circuit, it was the belief of our engineers that it is unlikely the fault is in the grid pack assembly asthis component is fully submerged in crude oil and is generally subjected to equal pressure on all components. The electrical short ismore likely developing in the electrical connection assembly built into the blind flange at the top of the pressure vessel, which is subjectedto high pressure under normal operating conditions. Unfortunately, this electrical connection assembly could not be inspected withoutdestroying the assembly itself. Instead, our engineers developed a plan to replace the installed blind flange and electrical connectionassembly with components from inventory which would be rebuilt prior to installation.

As part of an ongoing reliability-engineeringeffort, our engineers at that time worked on incremental modifications to improve electrical isolation within the blind flange and electricalconnection assembly. These previously developed plans allowed us to move quickly with vendors and present an expedited plan to the pipelineoperator. In March 2020, our engineers designed modifications to the blind flange, electrical connections and related housing intendedto minimize the effects of high pressure and likelihood of internal electrical short circuits. Concurrently, a blind flange with highvoltage assembly was shipped from inventory to a shop with specialized equipment used to strip the flange of all electrical insulationmaterials. Once the stripping process was complete, castings were made to complete the internal assembly. Our engineers believed at thetime that this modification could solve the electrical short issue we have experienced in prior tests.

While the blind flange assemblywas being remanufactured, we took the opportunity to implement a number of relatively minor modifications to other system configurationswhich had been planned for future units based on results of our engineering team’s reliability engineering work over the past twoyears. These modifications were designed to improve the reliability of internal electrical connections, increase the structural supportof the internal grid pack, and maintain higher quality control over internal component positioning and alignment during vertical installation.

Notwithstanding our efforts, theAOT system continues to be non-operational under normal operating conditions. As reported in previous updates on our website at https://qsenergy.com/updatesand in our Form 8-K filed with the SEC on March 4, 2020, the AOT system experienced shutdowns during the commissioning process. In December2019, after installing a modified grid pack and new high-capacity power supply, the system shut down presenting with an electrical shortwhich was determined to be due to damage to the system’s internal grid pack likely incurred during installation. After repairingand re-installing the modified grid pack in January 2020, the system shut down again during commissioning presenting with error conditionssimilar to the December 2019 failure. At that time, based on external inspections and on-site testing, our engineers suspected the gridpack had again been damaged during re-installation and that such suspected damage was the most likely cause of the electrical short circuit.As reported in our January 24, 2020 website update page, it was determined at that time the best course of action would be to remove themodified grid pack and re-install the original grid pack which had previously been installed multiple times without sustaining damage,and perform a detailed inspection of the modified grid pack in an effort to determine the cause of the electrical short circuit.

Executing on this plan, our teamremoved the modified grid pack and re-installed the original grid pack assembly in the AOT. After removal, our engineers performed a detailedinspection of the modified grid pack. Inconsistent with our expectations, no damage to the modified grid pack was found during this inspection,leaving the cause of the most recent electrical short circuit undiagnosed.

We have tested and attempted tooperate the AOT under a variety of conditions. We have been able to bring the system up to high voltage under static “shut-in”conditions; however, as reported above, the system continued to shut down due to an electrical short circuit when operated under pressure.In simple terms, as also reported above, this means we can flood the system with crude oil, shut-in the system by closing the intake andouttake valves isolating the system from the pipeline’s operating pressure, and power up the system in excess of 10,000 volts. Oncethe valves are opened and the system is subjected to the pipeline’s operating pressure, the system develops an electrical shortcircuit and shuts down. Because of our inability to fully diagnose the cause of our current electrical problems, we can provide no assurancesthat we will not face other operational issues after completing a full diagnosis and evaluation of our technology.

As previously reported, in December2018, we entered into an agreement with a major U.S.-based pipeline operator under which the Company installed its AOT equipment on acrude oil pipeline located in the Southern United States for testing and demonstration purposes. Based on laboratory tests and operationsof prototype equipment at other locations, we had a reasonable expectation that the equipment would operate successfully and that testresults would demonstrate quantifiable benefits to pipeline operators. This has not occurred.

As reported in the Company’sForm 10-K and Form 10-Q filed with the SEC on March 31, 2020 and June 29, 2020, respectively, and in website updates published on theCompany’s website at https://qsenergy.com/updates, the Company experienced a number of difficulties and delays at the demonstrationsite. Despite identifying and implementing numerous design modifications over several months, the Company was unable to successfully operateits AOT equipment.

In late June 2020, equipment modificationsintended to mitigate electrical short circuit issues identified in earlier tests were completed. During startup testing, the system experienceda new failure mode in which the system could be operated at a baseline high voltage (well below operational voltage required to treatheavy crude), but after a period of time, the system would drop to very low voltage indicating a reduction in electrical resistance inthe AOT. This voltage drop was both dynamic, developing over time as electrical current was applied; and transient, in that the powersupply could be shut-down and re-started with this voltage drop characteristic repeating. After reviewing these results and running subsequentin-field tests at the direction of the power supply manufacturer, they recommended a configuration modification to the control moduleof the system’s high-voltage power supply which, in their experience, could resolve the system’s ability to maintain constantvoltage under our unique operating conditions in which the AOT essentially acts as a very large capacitor. During the first week of July2020, we modified the power supply control module at the direction of the power supply manufacturer. Though this modification did appearto solve the voltage drop issue, the AOT could not achieve operational voltage as the system control module indicated arc-faults whenhigh voltage was applied above the baseline voltage levels. After many attempts to bring the system up to operating voltage, arc-faultscontinued until the AOT demonstrated symptoms of what appeared to be a dead short (electrical short-to-ground; voltage dropped to zero)and the system could no longer be re-started.

After discussions with our demonstrationpipeline partner, it was mutually agreed that the best course of action was to move the equipment from the demonstration site to anotherlocation where our engineers could disassemble and inspect the equipment. Our AOT equipment was moved to storage, inspection, and testingsite in the state of Mississippi. Our former demonstration partner indicated their continued interest in our AOT technology and may considerinstallation and operation of a new AOT demonstration project if our operational issues can be resolved.

We shut down all testing of ourAOT product in July 2020, due to a lack of operating capital; we received limited capital in 2021, allowing us to commence some additionaltesting of our AOT product.

In 2021, following our receiptof limited capital, our engineer commenced re-testing and completed a troubleshooting sequence. Lab test fixtures were designed and built,and testing results supported the redesign of the AOT internals. The results of the electrical testing of the insulating material showedthat the material of constructions was functioning as designed. However, during the testing it was discovered that the material swellswhen exposed to crude oil. The current design does not accommodate a change in size of the parts.

We validated a new design conceptfor the grid pack will reduce arcing and allowed us to apply full voltage during a recent test. A 3rd party engineering firm with properexperience and three-dimensional modeling software was engaged. A design review was completed, final drawings were sent to our vendors,and prototype parts, for fit and electrical testing, were ordered.

In August 2022 we completed thetesting of the new components. The assembly did not suffer the arcing problems we saw when testing an assembly made from parts of thefull size AOT. It appeared that we accomplished the goal of eliminating the sources of arcing that prevented us from achieving treatmentvoltages with this new design.

The lessons learned during thestack assembly test have been applied and the results incorporated into the designs for the spacer rings and the screens. This changeto the isolator ring design resulted in some iterative designs to optimize the casting tooling or molds. The time spent on this redesigncreated a delay in our goal for testing in September 2022.

Since reporting our findings onOctober 7, 2021, we have been able to positively confirm and correct 80% of what we have determined thus far to be the necessary improvementsfor a reliable and field worthy AOT. Based on the results of the recent component testing, we were able to rework the original grid pack,achieve high voltage in air and oil to verify that the individual components worked when assembled.

Once all the parts were deliveredfor a full AOT, we assembled the stack and installed the stack into the vessel. The vessel was filled with oil and tested. We were ableto apply full voltage of 40.1kV to the AOT. We believe the AOT is now ready to test with customer oil and be deployed back into the field.Having achieved a positive hydrostatic test, we were able to have our final engineering call with a potential development partner. Weare currently in pursuit of an LOI to include financial metrics for a commercially viable contract.

We reopened discussions with ouroriginal development partner as well as reaching out to others. While we have tested with a representative oil sample, we have not yetreached an agreement with a development partner allowing us to test a development partner's pipeline oil as a prelude to another fieldtest. Our efforts continue to reach agreement with a suitable development partner as our next step to develop and commercialize our AOTtechnology.

Our team has diligently pursuedthe formalization of a new initiative, aligning it with the strategic priorities of potential development partners. As we endeavor toseamlessly incorporate state-of-the-art technologies into a novel operational framework, we acknowledge that comprehensive planning andmeticulous execution invariably require more time than initially anticipated.

A noteworthy milestone has beenachieved, demonstrating significant viscosity reduction for the specified oil target. Our collaboration with Temple University continuesas we meticulously define the operational parameters of the AOT system, essential for effective field deployment. Concurrently, we areactively exploring other promising opportunities in parallel.

Our expenses to date have beenfunded through the sale of shares of common stock and convertible debt, as well as proceeds from the exercise of stock purchase warrantsand options. We will need to raise substantial additional capital through 2024, and beyond, to fund work on our AOT, our sales and marketingefforts, continuing research and development, and certain other expenses, including without limitation, legal and accounting expenses,until we are able to achieve a revenue base. We can provide no assurances that additional capital will be available to us, or if it is,that such additional capital will be offered at acceptable terms.

There are significant risks associatedwith our business, our Company and our stock. See “Risk Factors,” below.

We are dedicated to the crudeoil production and transportation marketplace, with a specifically targeted product offering for enhancing the flow-assurance parametersof new and existing pipeline gathering and transmission systems.

Our primary goal is to providethe oil industry with a cost-effective method by which to increase the number of barrels of oil able to be transported per day throughthe industry’s existing and newly built pipelines. The greatest impact on oil transport volume may be realized through reductionsin pipeline operator reliance on diluent for viscosity reduction utilizing AOT technology; a process the Company refers to as electronicdiluent, or “eDiluent”. The Company filed for trademark protection of the term eDiluent in 2017. We also seek to provide theoil industry with a way to reduce emissions from operating equipment. We believe our goals may be realizable via viscosity reduction usingour AOT product line.

We believe QS Energy’s technologieswill enable the petroleum industry to gain key value advantages boosting profit, while satisfying the needs of regulatory bodies at thesame time. Key players in the pipeline industry continue to demonstrate interest in our technologies.

Our manufacturing strategy isto contract with third-party vendors and suppliers, each with a strong reputation and proven track record in the pipeline industry. Thesevendors are broken up by product component subcategory, enabling multiple manufacturing capacity redundancies and safeguards to be utilized.In addition, this strategy allows the Company to eliminate the prohibitively high capital expenditures such as costs of building, operatingand maintaining its own manufacturing facilities, ratings, personnel and licenses, thereby eliminating unnecessary capital intensity andrisk.

Results of Operations for Three months ended March31, 2024 and 2023

Operating expenses were $326,000for the three-month period ended March 31, 2024, compared to $186,000 for the three-month period ended March 31, 2023, an increase of$140,000. This is due to an increase in non-cash expenses of $136,000, and an increase in cash expenses of $4,000. Specifically, the increasein non-cash expenses are attributable to an increase in stock compensation expense attributable to common stock issued for services of$136,000. The increase in cash expense is attributable to increases in patent expenses of $25,000, consulting expenses of $5,000, salariesand benefits of $4,000, and rent and utilities of $2,000, offset by decreases in legal and accounting of $19,000, travel expenses of $4,000,office expenses of $4,000, bank fees of $2,000, corporate expenses of $1,000, meals and entertainment of $1,000, and auto expenses of$1,000.

Research and development expenseswere $47,000 for the three-month period ended March 31, 2024, compared to $54,000 for the three-month period ended March 31, 2023, a decreaseof $7,000. This decrease is attributable an decrease in prototype product development costs of $7,000.

Other income and expense were$76,000 expense for the three-month period ended March 31, 2024, compared to $94,000 expense for the three-month period ended March 31,2023, a net decrease in other expenses of $18,000. This decrease is attributable to a decrease in non-cash other expenses of $18,000.The decrease in non-cash other expense is due to decreases in expense attributable to interest, beneficial conversion factors and warrantsassociated with convertible notes issued in the amount of $18,000.

The Company had a net loss of$449,000, or $0 per share, for the three-month period ended March 31, 2024, compared to a net loss of $334,000, or $0 per share, for thethree-month period ended March 31, 2023.

Liquidity and Capital Resources

General

As reflected in the accompanyingcondensed consolidated financial statements, the Company has not yet generated significant revenues and has incurred recurring net losses.We have incurred negative cash flow from operations since our inception in 1998 and a stockholders’ deficit of $5,382,000 as ofMarch 31, 2024. Our negative operating cash flow for the periods ended March 31, 2024 was funded primarily through issuance of convertiblenotes and execution of options and warrants to purchase common stock.

The accompanying condensed consolidatedfinancial statements have been prepared on a going concern basis, which contemplates the realization of assets and the settlement of liabilitiesand commitments in the normal course of business. As reflected in the accompanying condensed consolidated financial statements, the Companyhad a net loss of $449,000 and a negative cash flow from operations of $170,000 for the three-month period ended March 31, 2024. In addition,as of March 31, 2024, 38 notes payable with an aggregate balance of $2,071,000, license agreement payables of $2,256,000 and certain obligationsto a former officer are past due. These factors raise substantial doubt about our ability to continue as a going concern. In addition,the Company’s independent registered public accounting firm, in its report on the Company’s December 31, 2023 financial statements,has raised substantial doubt about the Company’s ability to continue as a going concern.

Our ability to continue as a goingconcern is dependent upon our ability to raise additional funds and implement our business plan. The consolidated financial statementsdo not include any adjustments that might be necessary if we are unable to continue as a going concern.

Summary

During the period ended March31, 2024, we received cash totaling $185,000 from issuance of convertible notes and exercised warrants and used cash in operations of$170,000. At March 31, 2024, we had cash on hand in the amount of $78,000. We will need additional funds to operate our business, includingwithout limitation the expenses we will incur in connection with the license agreements with Temple University; costs associated withproduct development and commercialization of the AOT and related technologies; costs to manufacture and ship our products; costs to designand implement an effective system of internal controls and disclosure controls and procedures; costs of maintaining our status as a publiccompany by filing periodic reports with the SEC and costs required to protect our intellectual property. In addition, as discussed above,we have substantial contractual commitments, including without limitation, certain severance payments to a former officer and consultingfees, during the remainder of 2024 and beyond.

No assurance can be given thatany future financing will be available or, if available, that it will be on terms that are satisfactory to the Company.

Licensing Fees to Temple University

For details of the licensing agreementswith Temple University, see Financial Information, Part I, Note 6 (Research and Development).

Critical Accounting Policies and Estimates

Our discussion and analysis offinancial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordancewith accounting principles generally accepted in the United States of America. The preparation of these consolidated financial statementsand related disclosures requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, expenses,and related disclosure of contingent assets and liabilities. We evaluate, on an on-going basis, our estimates and judgments, includingthose related to the useful life of the assets. We base our estimates on historical experience and assumptions that we believe to be reasonableunder the circ*mstances, the results of which form the basis for making judgments about the carrying values of assets and liabilitiesthat are not readily apparent from other sources. Actual results may differ from these estimates.

The methods, estimates and judgmentswe use in applying our most critical accounting policies have a significant impact on the results that we report in our consolidated financialstatements. The SEC considers an entity’s most critical accounting policies to be those policies that are both most important tothe portrayal of a company’s financial condition and results of operations and those that require management’s most difficult,subjective or complex judgments, often as a result of the need to make estimates about matters that are inherently uncertain at the timeof estimation. For a more detailed discussion of the accounting policies of the Company, see Note 2 of the Notes to the Consolidated FinancialStatements, “Summary of Significant Accounting Policies”.

We believe the following criticalaccounting policies, among others, require significant judgments and estimates used in the preparation of our consolidated financial statements.

Estimates

The preparation of consolidatedfinancial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptionsthat affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidatedfinancial statements and the reported amounts of expenses during the reporting period. Certain significant estimates were made in connectionwith preparing our consolidated financial statements as described in Note 2 to Notes to Consolidated Financial Statements. Actual resultscould differ from those estimates.

Stock-Based Compensation

The Company periodically issuesstock options and warrants to employees and non-employees in non-capital raising transactions for services and for financing costs. TheCompany accounts for stock option and warrant grants issued and vesting to employees based on the authoritative guidance provided by theFinancial Accounting Standards Board whereas the value of the award is measured on the date of grant and recognized over the vesting period.The Company accounts for stock option and warrant grants issued and vesting to non-employees in accordance with the authoritative guidanceof the Financial Accounting Standards Board whereas the value of the stock compensation is based upon the measurement date as determinedat either a) the date at which a performance commitment is reached, or b) at the date at which the necessary performance to earn the equityinstruments is complete. Non-employee stock-based compensation charges generally are amortized over the vesting period on a straight-linebasis. In certain circ*mstances where there are no future performance requirements by the non-employee, option grants are immediatelyvested and the total stock-based compensation charge is recorded in the period of the measurement date.

The fair value of the Company'scommon stock option grants is estimated using the Black-Scholes Option Pricing model, which uses certain assumptions related to risk-freeinterest rates, expected volatility, expected life of the common stock options, and future dividends. Compensation expense is recordedbased upon the value derived from the Black-Scholes Option Pricing model, and based on actual experience. The assumptions used in theBlack-Scholes Option Pricing model could materially affect compensation expense recorded in future periods.

Going Concern

The accompanying consolidatedfinancial statements have been prepared on a going concern basis, which contemplates the realization of assets and the settlement of liabilitiesand commitments in the normal course of business. As reflected in the accompanying consolidated financial statements, during the three-monthsended March 31, 2024, the Company incurred a net loss of $449,000, used cash in operations of $170,000 and had a stockholders’ deficitof $5,382,000 as of March 31, 2024. In addition, as of March 31, 2024, 38 notes payable with an aggregate balance of $2,071,000, licenseagreement payables of $2,256,000 and certain obligations to a former officer are past due. These factors raise substantial doubt aboutthe Company’s ability to continue as a going concern. The ability of the Company to continue as a going concern is dependent uponthe Company’s ability to raise additional funds and implement its business plan. The financial statements do not include any adjustmentsthat might be necessary if the Company is unable to continue as a going concern.

At March 31, 2024, the Companyhad cash on hand in the amount of $78,000. Management estimates that the current funds on hand will be sufficient to continue operationsthrough May 2024. Management is currently seeking additional funds, primarily through the issuance of debt and equity securities for cashto operate our business, including without limitation the expenses it will incur in connection with the license agreements with Temple;costs associated with product development and commercialization of the AOT technologies; costs to manufacture and ship the products; coststo design and implement an effective system of internal controls and disclosure controls and procedures; costs of maintaining our statusas a public company by filing periodic reports with the SEC and costs required to protect our intellectual property. In addition, as discussedbelow, the Company has substantial contractual commitments, including without limitation salaries to our executive officers pursuant toemployment agreements, certain payments to a former officer and consulting fees, during the remainder of 2024 and beyond.

No assurance can be given thatany future financing will be available or, if available, that it will be on terms that are satisfactory to the Company. Even if the Companyis able to obtain additional financing, it may contain undue restrictions on our operations, in the case of debt financing or cause substantialdilution for our stockholders in case of equity financing.

Recent Accounting Polices

See Footnote 2 in the accompanyingfinancial statements for a discussion of recent accounting policies.

Item 3. Quantitative and Qualitative Disclosureabout Market Risk

We issue from time to time fixedrate discounted convertible notes. Our convertible notes and our equity securities are exposed to risk as set forth below, in Part IIItem 1A, “Risk Factors.” Please also see Item 2, above, “Management’s Discussion and Analysis of Financial Conditionand Results of Operations.”

Item 4. Controls and Procedures

Evaluation of DisclosureControls and Procedures

The Company's management, withthe participation of the Company's Chief Executive and Financial Officer, evaluated, as of March 31, 2024, the effectiveness of the Company'sdisclosure controls and procedures, as such term is defined under Securities and Exchange Act of 1934 Rules 13a-15(f), which were designedto be effective at the reasonable assurance level. Based on this evaluation, the Company’s Chief Executive and Financial Officerconcluded that the Company’s disclosure controls and procedures were not effective as of March 31, 2024. As of March 31, 2024, management’sassessment identified the material weaknesses in the Company’s internal control over financial reporting:

We continue to have a materialweakness in our internal control over financial reporting as disclosed in the 2023 Form 10-K, in that the Companyhas (i) inadequatesegregation of duties consistent with control objectives; and (ii) the Company has an insufficient number of personnel with an appropriatelevel of U.S. GAAP knowledge and experience and ongoing training in the application of U.S. GAAP and SEC disclosure requirements commensuratewith the Company’s financial reporting requirements.

(a)Changesin Internal Control over Financial Reporting

There has been no changes in theCompany's internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the three-monthperiod ended March 31, 2024 that has materially affected, or is reasonably likely to materially affect, the Company's internal controlover financial reporting.

PART II – OTHER INFORMATION

Item1. Legal Proceedings

There is no litigation of anysignificance with the exception of the matters that have arisen under, and are being handled in, the normal course of business.

Item 1A. Risk Factors

There have been no material changesin the risk factors previously disclosed in Form 10-K for the period ended December 31, 2023, which we filed with the SEC on April 9,2024.

Item2. Unregistered Sales of Equity Securitiesand Use of Proceeds

Issuances

In private offerings exempt fromregistration, during the three months ended March 31, 2024, the Company issued 3,212,000 shares of its common stock upon the conversionof $161,000 in convertible notes at $0.05 per share. In connection with the issuances of the foregoing securities, the Company reliedon the exemption from registration provided by Section 4(a)(2) of the Securities Act of 1933, as amended, for transactions not involvinga public offering.

The proceeds received by the Companyin connection with the above issuances of shares were used and continue to be used for general corporate purposes.

Item3. Defaults Upon Senior Securities

None.

Item4. Mine Safety Disclosures

None.

Item5. Other Information

The Company provides updates onits website in a section thereunder labeled “Recent Updates” at https://qsenergy.com/updates.

Item6. Exhibits

SIGNATURES

Pursuant to the requirements ofthe Securities Exchange Act of 1934, the Registrant has caused this Report to be signed on its behalf by the undersigned, hereunto dulyauthorized.