UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
x☒ ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 (FEE REQUIRED)
For the fiscal year ended December 31, 20152017
o☐ TRANSACTION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 (NO FEE REQUIRED)
For the transaction period from ________ to ________
Commission file number 000-50385
GrowLife, Inc.
(Exact name of registrant as specified in its charter)
Delaware (State or other jurisdiction of incorporation or organization) | 90-0821083 (I.R.S. Employer Identification No.) |
500 Union Street, Suite 810, Seattle,5400 Carillon Point
Kirkland, WA 9810198033
(Address of principal executive offices and zip code)
(866) 781-5559
(Registrant’s telephone number, including area code)
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. o Yes ý No
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act. o Yes ý No
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the pastpreceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. ýYes o☒ No ☐
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). ýYes o☒ No
Indicate by check mark if disclosure of delinquent filers in response to Item 405 of Regulation S-K (§229.405) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company, or an emerging growth company. See the definitions of "large“large accelerated filer," "accelerated filer,"” “accelerated filer”, “smaller reporting company”, and "smaller reporting company"“emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):
| Large accelerated filer | o☐ | Accelerated filer | o☐ |
| Non-accelerated filer | o | Smaller reporting company | ý |
| | | | (Do☐ (Do not check if a smaller reporting company) | Smaller reporting company | ☒ |
| | | Emerging growth company | ☐ |
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). oYes ý☐ No ☒
As of June 30, 20152017 (the last business day of our most recently completed second fiscal quarter), based upon the last reported trade on that date, the aggregate market value of the voting and non-voting common equity held by non-affiliates (for this purpose, all outstanding and issued common stock minus stock held by the officers, directors and known holders of 10% or more of the Company’s common stock) was $16,793,431.$14,662,328.
The number of shares of common stock, $.0001 par value, issued and outstanding as of March 28, 2018: 2,913,559,657 shares.
As of April 14, 2016 there were 1,099,143,981 shares of the issuer’s common stock, $0.0001 par value per share, outstanding, excluding 15,000,000 shares recorded as contingently redeemable common stock.
DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS
The following discussion, in addition to the other information contained in this report, should be considered carefully in evaluating us and our prospects. This report (including without limitation the following factors that may affect operating results) contains forward-looking statements (within the meaning of Section 27A of the Securities Act of 1933, as amended ("Securities Act") and Section 21E of the Securities Exchange Act of 1934, as amended ("Exchange Act") regarding us and our business, financial condition, results of operations and prospects. Words such as "expects," "anticipates," "intends," "plans," "believes," "seeks," "estimates" and similar expressions or variations of such words are intended to identify forward-looking statements, but are not the exclusive means of identifying forward-looking statements in this report. Additionally, statements concerning future matters such as revenue projections, projected profitability, growth strategies, development of new products, enhancements or technologies, possible changes in legislation and other statements regarding matters that are not historical are forward-looking statements.
Forward-looking statements in this report reflect the good faith judgment of our management and the statements are based on facts and factors as we currently know them. Forward-looking statements are subject to risks and uncertainties and actual results and outcomes may differ materially from the results and outcomes discussed in the forward-looking statements. Factors that could cause or contribute to such differences in results and outcomes include, but are not limited to, those discussed below and in "Management's Discussion and Analysis of Financial Condition and Results of Operations" as well as those discussed elsewhere in this report. Readers are urged not to place undue reliance on these forward-looking statements which speak only as of the date of this report. We undertake no obligation to revise or update any forward-looking statements in order to reflect any event or circumstance that may arise after the date of this report.
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PART I
ITEM 1. DESCRIPTION OF BUSINESS
THE COMPANY AND OUR BUSINESS
GrowLife, Inc. (“GrowLife” or the “Company”) wasis incorporated under the laws of the State of Delaware and is headquartered in Seattle,Kirkland, Washington. We were founded in 2012 with the Closing of the Agreement and Plan of Merger with SGT Merger Corporation.
GrowLife’s goal is to become the nation’s largest cultivation facility service provider
for the production of organics, herbs and greens and plant-based medicines.
GrowLife provides essential and hard-to-find goods including growing media, industry-leading hydroponics equipment, organic plant nutrients, and thousands more products through its knowledgeable representatives and our distribution channels, to specialty grow operations across the United States and Canada.
We primarily sell supplies through our wholly owned subsidiary, GrowLife Hydroponics, Inc. GrowLife also distributes and sells over 15,000 products along with a handful of its own branded products through its e-commerce distribution channels, ShopGrowLife.com, Greners.com and GrowLifeEco.com, as well as through GrowLife licensed retail storefronts. GrowLife and its business units are organized and directed to operate strictly in accordance with all applicable state and federal laws.
The GrowLife mission is to measure its success by its customer’s success;
serving cultivators of all sizes as a reliable business partner and its shareholders with value and trust.
The ‘their success is our success’ focus has helped us understand the pains and needs our customers are enduring and the many products and services we can provide to help them grow. We recognize that the cost of customer acquisition is 10x higher than retention so it is in GrowLife’s best interest to retain its customers by supporting their needs with innovative offerings, lower pricing and reliable delivery. The indoor cultivation industry, primarily driven by indoor Cannabis farming, is in its formative stages where it is developing a recurring track record. Due to the conflicting laws and policies throughout the United States our customers consist mostly of smaller, early-stage companies that face unusual challenges not experienced in most larger established industries.
As a result, agility takes the place over predictability and trust surpasses price and convenience. Therefore, there are few public or billion dollar companies operating in this industry. Thus, the GrowLife mission of aligning itself with the success of its customer’s.
GrowLife’s vision of indoor cultivation is that it is
inevitable; not another gardening alternative.
We seek to support the mission of GrowLife helping its customers be successful by minimizing the operating costs of indoor cultivators of fruits, vegetables and Cannabis so they can better serve their markets and customers.
Outdoor farming is a wasteful, destructive and an inefficient use of precious resources. Current water, land and harvest cycles are limited and, if left unchecked, will fail to support the world’s population growth. However, indoor cultivation allows our customers to replicate nature in a controllable manner that uses a fraction of water and land while providing 2–5 times the crop cycles of outdoor. The challenge is in getting the economics right. Subsidies are not the answer. Even many large-scale indoor grow operations with large capital investments have authorizedhad a difficult time staying in business because the poor economic models fail to deliver a profit. Fruits and vegetables have limited revenue benefit due to their low prices and saturated supply from international and domestic growers.
Cannabis on the other hand currently has an attractive revenue model and valuation multiple but modest demand of about 5% of the population due to shadows cast by interstate commerce restrictions, banking issues and threatening federal laws. However, Cannabis laws are not the only expected changes. We must prepare for significantly lower prices if Cannabis is to become a mainstream alternative to beer, wine and other alcohol in the future. Expecting a $12 Cannabis cigarette to drop to $1 over the next couple of years is not unreasonable.
Therefore, as an indoor cultivation industry, we must lower production costs to provide local, safer, healthier and affordable food and Cannabis crops. We see this as the game changer: Over time we must support a production cost at 10% of the current price point. This means increasing efficiencies, scaling up production volumes and driving down indoor operating costs. Given this vision of the future, lowering our customer’s production costs serves as our compass to mergers, acquisitions and partnerships.
To profitably achieve such a goal, we see GrowLife building out five strategic pillars. These pillars represent unfulfilled needs, which if capitalized upon, can provide PHOT investors with a lasting diversified portfolio of products and services.
GrowLife’s five pillars of planned growth are 1) direct commercial sales, 2) products, 3) online markets, 4) consumer GrowLife Cube, and 5) retail --- are organized across four audience-centric divisions. We sell to commercial customers through our GrowLife Commercial division to large-scale customers for both hydroponics and FreeFit, our business materials products.
GrowLife will continue to provide growing supplies to cultivators, known as “picks and shovels” to the green rush industry, we are investing in developing proprietary products that will enhance higher gross profit, differentiation and a greater ecological benefit and value to the industry through GrowLife Innovations, Inc., a whole-owned subsidiary. For example, GrowLife recently acquired FreeFit building material assets which bring several benefits to the Company: Revenue, higher gross profits and intellectual properties that will serve as the foundation to upcoming products including complete GrowLife room solutions. These solutions are aimed at providing lower production costs for our legal commercial customers that are growing at large scales. Over the last three months the Company organized its operating structure into four divisions to be aligned with its business initiatives towards focused growth.
| The other GrowLife divisions will continue to distribute and sell over 15,000 products and FreeFit through its e-commerce distribution channel, ShopGrowLife.com.New products will be developed by GrowLife Innovations Inc., the research and development arm of the company, and GrowLife Retail will drive our licensed retail storefronts. GrowLife, Inc. and its divisions are organized and directed to operate strictly in accordance with all applicable state and federal laws. |
We focus on customer success. In that regard, we believe that the indoor cultivation industry will continue to experience significant growth and, as a result, serving this industry has become highly competitive, cash intensive and customer centric. However, we have plans to address these challenges.
First, the opportunity to sell both infrastructure equipment and recurring supplies to the indoor cultivation industry is constantly increasing as demand for indoor cultivation grows across the United States and Canada. GrowLife believes the demand will continue to grow and more states and municipalities will enact laws and regulations allowing for greater indoor cultivation activities. GrowLife continues with its multi-faceted distribution strategy, which we believe serves customers in the following manner: Direct sales to large commercial customers through GrowLife Hydroponics, retail licensing through licensed partners for local convenience, and e-commerce via ShopGrowLife.com to fulfill orders across the nation from customers of all sizes.
Second, selling through multiple channels with readily available products is foundational to GrowLife, however differentiation comes from unique products available only from GrowLife. In October 2017 we formed GrowLife Innovations, Inc., which is where we housed our recently acquired building material assets. FreeFit® is a patented product line of eco-friendly and easy to install vinyl floor tiles with patterns and prints that can provide passive (no resource demands such as power) benefits to our customers. GrowLife is currently testing custom configurations with cultivators to quantify its economic value to customers. Building materials is a starting point for GrowLife Innovations. Other products and services are being developed and tested with plans to bring them to market over the next few months.
Third, GrowLife’s customers come in different stages from small caregiver cultivators to large 80,000+ square foot commercial operations. Along with our business-to-business (B2B) focus we have been expanding to the business-to-consumer (B2C) by offering the GrowLife Cube subscription products. We recognize demand is increasing from small, aspiring cultivation consumers across the country seeking to learn and use a complete indoor growing solution. To address this demand, we packaged GrowLife Cube, an entry-level offering for consumers to get hands-on experience with indoor growing. Although many still buy the components separately, we are working on developing videos and supplier tools to attract them to this one-stop shop program. Many states are giving individuals the legal freedom to cultivate crops in their own home and GrowLife Cube gives them the necessary tools.
GrowLife started the expansion of sales and store personnel and marketing efforts with continued funding from Chicago Venture Partners, L.P. Chicago Venture is supportive in the expansion of the sales and marketing teams in a growing market. GrowLife is growing in several markets including California and Canada. GrowLife received $1 million in equity financing in February 2018 for expansion in addition to continuing as-needed capital for operating costs.
GrowLife also considered the lack of capital access since 2014 and the new funding vehicles with Chicago Venture Partners, L.P. Operations were significantly impacted during 2014- 2016 as a result of the lack of access to capital. GrowLife did not have cash to ship all orders. With the addition of GrowLife’s new partners, we have access to capital and are growing our sales again.
Resumed Trading of our Common Stock
On October 17, 2017, we were informed by Alpine Securities Corporation (“Alpine”) that Alpine had demonstrated compliance with the Financial Industry Regulatory Authority (“FINRA”) Rule 6432 and Rule 15c2-11 under the Securities Exchange Act of 1934. We filed an amended application with the OTC Markets to list the Company’s common stock on the OTCQB and begin to trade on this market as of 3,000,000,000 shares at $0.0001 par valueMarch 28, 2018.
Market Size and 10,000,000 sharesGrowth
Markets Serviced
GrowLife Inc. is engaged in the business of preferred stockoffering general hydroponic growing equipment including complete indoor lighting systems, growing mediums, soils, tools for cutting and propagation, hydroponics systems, growing accessories, bulbs, ballasts, reflectors, meters and timers and climate control equipment for the indoor plant cultivation and cannabis industries.
Additionally, GrowLife, through its recent asset acquisition, has begun servicing the Luxury Vinyl Tile market segment of the Floor Covering industry, which it will use in its GrowLife clean grow room initiative.
Hydroponic Growing Equipment (US)
Industry Definition:
The Hydroponic Growing Equipment industry is primarily engaged in selling hydroponic horticulture equipment. Hydroponics is a method of growing plants using mineral nutrient solutions in water without the use of soil.
2017 Key Industry Statistics:
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In 2017, the Hydroponic Growing Equipment Stores industry generated $689.7 million in gross revenue with a par valuetotal profits of $0.0001 were authorized by the shareholders. In addition, on October 21, 2015 we issued 150,000 Series B Preferred Stock$26.9 million.
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The industry grew 4.4% from 2012 to 2017 and is expected to continuing growing at a stated value equalrate of 1.7% through 2022.
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As of 2017, there are approximately 1,948 businesses engaged in the industry, which contribute $210 million in wages and salaries to $10.00the nation’s economy.
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No companies have been identified as “major players”.
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Household consumers comprise the largest market segment for the industry, accounting for 48.1% of the market in 2017, with farms and agriculture representing 37.2% of the market and 14.7% represented by other types including: retail establishments, equipment wholesalers, repair shops, industrial companies, and government bodies.
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The industry’s average profit margin, defined as earnings before interest and taxes, has increased since 2012; profit margins are expected to have expanded from 1.8% of industry revenue in 2012 to 3.9% in 2017.
Product and Service Segmentation: Of total product sales in 2017, 35.8% of products sold were nutrients, solution chemicals and other treatments, 30.4% were hydroponic systems and equipment, 20% were other accessories, additions, supplies and merchandise, and 13.8% were hardware, tools, plumping and electrical supplies. | |
Key Industry Drivers:
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Much of the industry’s sudden popularity is the result of heightened consumer interest in locally grown and organic produce; many producers of hydroponic fruits and vegetables strive to use sustainable business practices and natural nutrients and pesticides
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Consumer interest in organic foods and hydroponic growing has also increased as disposable income continues to rise.
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Given the discretionary nature of the industry’s products, demand is heavily influenced by fluctuations in the overall level of consumer disposable income and consumer confidence in the economy. Over the five years to 2017, per capita disposable income is anticipated to grow an annualized 1.4%. Rising disposable income increases consumers’ willingness to purchase luxuries such as high-priced hydroponic growing equipment and organic foods.
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Impact of the Cannabis Industry
o
According to data released by Forbes, the medical marijuana market is expected to generate $6.7 billion in 2017 alone. Given the size of the medical marijuana market, a rising number of entrepreneurs have invested in hydroponic growing equipment to be part of the medical marijuana gold rush. This investment has been one of the primary drivers of the aggressive growth that this industry has experienced over the past five years.
o
In certain states, patients with medical marijuana cards are also allowed to grow limited quantities of marijuana for personal use. This has encouraged patients to purchase hydroponic growing equipment and pursue small-scale marijuana cultivation.
Competitive advantages:
–
Most hydroponic growing equipment stores are small business operations that serve their immediate geographic areas. GrowLife serves a nationwide audience with expansion into Canada.
Growth Outlook:
“The industry is growing faster than overall GDP”
IBIS World expects the Cannabis industry revenue to grow an annualized 1.7% to $750.2 million over the five years to 2022.
Factors:
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Increasing consumer focus on healthy eating habits will likely spur demand as more consumers seek out organic and pesticide-free produce and opt to grow their own or purchase locally produced organic foods made with hydroponic growing equipment.
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Medical and recreational marijuana is expected to be approved in an increasing number of US states over the next five years, which will lead more patients and entrepreneurs to buy marijuana and hydroponic growing equipment to fulfill demand for this growing market.
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This industry will also continue to benefit from risk-averse local farmers wishing to break their reliance on weather conditions that may be increasingly volatile.
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IBIS World estimates that per capita disposable income will rise at an annualized rate of 2.7% over the five years to 2022.
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The US Department of Agriculture reported in 2016 that the number of certified organic food operators increased nearly 12.0% from 2015, and this growth is expected to remain high over the next five years.
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IBIS World expects profitability to fall somewhat over the next five years as price-based competition accelerates.
Competitive Advantages
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IBIS World anticipates that the number of industry establishments will increase at an annualized rate of 5.1% to 3,123 over the five years to 2022 earning it the rating of “Highly competitive”
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Market share concentration is low with only one company representing over 1% of market share.
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Barriers to Entry in this industry are Low
Medical and Recreational Marijuana Growing Industry
Industry Definition:
This emerging industry pertains to those engaged in the practice of cultivating and producing legal marijuana plants for the medical and recreational consumer markets.
US 2016 Key Industry Statistics:
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In 2016, the Medical and Recreational Marijuana Growing industry generated $3.5 billion in gross revenue with total profits of $233.4 million.
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The industry grew 28.3% from 2011 to 2016 and is expected to continuing growing at a rate of 33.5% through 2021.
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As of 2016, there are approximately 148,294 businesses engaged in the industry, which contribute $957.6 million in wages and salaries to the nation’s economy.
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No companies have been identified as “major players”.
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Medical Marijuana patients with severe pain comprise the largest market segment for the industry, accounting for 64.6% of the market in 2016, with recreational consumers accounting for 14.1% of the market. The remaining market share is shared by consumers purchasing products for treatment of other various medical conditions.
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The industry’s average profit margin, defined as earnings before interest and taxes, varies greatly across the industry because of the myriad of laws governing medical and recreational marijuana from state to state. Industry-wide margins have grown on account of the legalization of recreational marijuana in Colorado and Washington and are expected to grow as more legalization takes effect including California.
Key Industry Drivers:
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Medical marijuana growers continue to benefit from the steadily aging population. Chronic illnesses have become more prevalent as the population continues to age, driving demand for medical marijuana.
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An estimated 2.6 million people use marijuana for medicinal purposes, and this segment of the US population is anticipated to increase drastically over the next five years.
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More than two-thirds of Americans now live in jurisdictions that have legalized either the medical or adult use of marijuana.
Growth Outlook:
“The industry is convertible into our common stock. On October 21,growing at a faster rate than the US economy”
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Industry revenue is estimated to increase at an annualized rate of 33.5% to $15.0 billion over the five years to 2021.
Factors:
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Continued legalization on the state level will increase accessibility to medical and recreational marijuana, increasing nationwide demand.
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Growing acceptance of the marijuana products will increase demand. According to a poll conducted by Gallup, 36.0% of Americans between the ages of 18 to 29 have tried marijuana in 2013, compared with just 8.0% in 1969.
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The level of household income determines consumers’ ability to purchase medical marijuana products. While prescription products can be essential for health and therefore less susceptible to changes in consumer expenditure, the unconventional nature of the industry’s products make it subject to changes in disposable income. As a result, an increase in disposable income will boost demand for medical marijuana growers.
Floor Covering Industry: Segment Luxury Vinyl Tile (LVT) (US)
Industry Definition:
The Floor Covering industry is segmented by product type including wood, rugs, resilient (which includes the Luxury Vinyl Tile or “LVT” segment), carpet, tile, laminate and rubber subcategories. GrowLife is engaged in luxury vinyl tile manufacturing and is participating in this market by selling through business-to-business and business-to-consumer channels.
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In 2016, the U.S. flooring market grew an estimated 5.1%, according to Market Insights, with total revenues of $21.174 billion.
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North America flooring market will witness gains over 5% up to 2024 according to Global Market Insights.
2016 Key Industry Statistics: – In 2016, the U.S. flooring market grew an estimated 5.1%, according to Market Insights, with total revenues of $21.174 billion. – North America flooring market will witness gains over 5% up to 2024 according to Global Market Insights. | |
Luxury Vinyl Tile
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LVT now accounts for 16.5% of the total flooring market in dollars and 18.8% in volume after a 6.5% rise in units to 3.537 billion square feet. In 2015, we also issued 51 sharesresilient held a 13.3% market share in terms of Series C Preferred Stockdollars, which was up from 12.2% in 2014, 11.9% in 2013 and 11.2% in 2012 respectively.
– Sales have gone from nearly $750 million in 2012 to $948 million in 2013, $1.142 billion in 2014, $1.651 billion in 2015 and $2.161 in 2016. That represents respective gains of 26.4%, 20.5%, 27.1% and 30.9% respectively – LVT sales have more than doubled in three years. – LVT increased significantly in both residential and commercial markets—dollars and square feet—in 2016. Residential LVT saw a 68.3% increase in square footage from 760 million in 2015 to 1.04 billion (including WPC), making up 76.1% of the LVT market. This number was 71% a year ago and 55% two years ago. – The commercial market rose from 297.2 million square feet to 326.3 million square feet, a 9.8% increase. While residential brought in more dollars—$1.512 billion—last year, commercial LVT still performed well, posting a 12.5% increase, rising from $576.4 million in 2015 to $648.6 million in ’16. | |
https://www.rocsearch.com/samples/PDFs/Market%20Landscape-Global-Commercial-Vinyl-Flooring-Market-Landscape.pdf
Competitive advantages:
–
GrowLife’s LVT product FreeFit® features significant competitive advantages including:
o
20k+ HD imaging, “Real Touch” texture technology, fully customizable platform, “Seriously Easy to Install” design, made in the US, waterproof, lifespan 3x longer than traditional vinyl, 4mmm thickness and 22mil wear layer and wear and stain resistance
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Direct to consumer sales model that major competitors cannot excitute on due to resale agreements
Growth Outlook:
The global vinyl flooring market is expected to reach an estimated $16.2 billion by 2023, and it is forecast to grow at $0.0001 par value per share.a CAGR of 4.4% from 2018 to 2023.
Key Market Priorities
Our goal of becoming the nation’s largest cultivation facility service provider for the production of organics, herbs and greens and plant-based medicines has not changed. Our mission is to best serve more cultivators in the design, build-out, expansion and maintenance of their facilities with products of high quality, exceptional value and competitive price. Through knowledgeable representatives, regional centers and its e-commerce website,requires GrowLife provides essential and hard-to-find goods including media (i.e., farming soil), industry-leading hydroponics equipment, organic plant nutrients, and thousands more products to specialty grow operations across the United States.
We primarily sell through our wholly owned subsidiary, GrowLife Hydroponics, Inc. In addition to the promotion and sales of GrowLife owned brands, GrowLife companies distribute and sell over 3,000 products through its e-commerce distribution channel, Greners.com, and through our regional retail storefronts. GrowLife and its business units are organized and directed to operate strictly in accordance with all applicable state and federal laws.
Resumed Trading of our Common Stock
On February 18, 2016, our common stock resumed unsolicited quotation on the OTC Bulletin Board after receiving clearance from the Financial Industry Regulatory Authority (“FINRA”) on our Form 15c2-11. We are currently taking the appropriate steps to uplist to the OTCQB Exchange and resume priced quotations with market makers as soon as it is able.
Overcoming Company Challenges
We grew through a series of acquisitions in 2012 and 2013 leading to seven retail stores. In 2013 we expected to grow through the following three key initiativesto: (i) expanding to 30 retail stores at an expected average annual revenue of $1.25 million with 12 stores in 2014 resulting in sales of $15 million; (ii) educating the investment community of the demand for indoor growing equipment from the cannabis industry; and (iii) engaging a joint venture investor willing to provide financial resources for acquisitions and strategic investments. The three initiatives were expected to help position us as the leading supplier and participating investor to the emerging cannabis industry and were therefore announced and allocated resources with those goals in mind.
The retail expansion plan, starting in July 2013, was expected to maintain the pre-acquisition revenue pace of GrowLife Hydroponics’ earlier purchase of Rocky Mountain Hydroponics, LLC, a Colorado limited liability company (“RMC”), and Evergreen Garden Center, LLC, a Maine limited liability company (“EGC”), and generate sales of $5.5 million in 2013. For several reasons, GrowLife Hydroponics achieved 2013 revenue of $4.8 million. In addition, GrowLife Hydroponics opened two more stores in Plaistow, New Hampshire and Peabody, Massachusetts. This seven store expansion across five states exposed three issues with the retail expansion plan: (i) the cost of inventory, integration and ramp up in offsetting revenue was under-estimated; (ii) the laws, policies and resulting customer purchase process across the five states varied greatly and lowered the expected economies of scale benefit; and (iii) the increasing competitive hydroponic supplier market, stemming from manufacturers selling directly to cultivators, lowered expected operating margins. The lack of financial resources to offset the operating losses from the retail expansion initiative necessitated a change of our plans.
An education initiative was formed where GrowLife engaged Grass Roots Research and Distribution, Inc., a market research and marketing firm, to study our 2013 plan, the emerging growth of the cannabis industry and estimate the possible financial impact to GrowLife and its valuation. Sets of reports were published and supported with GrowLife press releases to educate the new industry and generate greater awareness of GrowLife. While this initiative proved successful in 2013, we ceased to engage Grass Roots in 2014, after we changed our business strategy.
The third investor initiative was formed in November 2013, through the Organic Growth International, LLC (“OGI”), a joint venture, between GrowLife and CANX USA LLC (“CANX”). CANX would provide the financial resources for OGI to facilitate acquisitions and strategic investments. GrowLife issued warrants for 240 million GrowLife shares to CANX and CANX would provide up to $40 million in mutually agreed upon investments, $1 million in a convertible note and a $1.3 million commitment towards the GrowLife Infrastructure Funding & Technology (“GIFT”) program. GrowLife received the $1 million as a convertible note in December 2013, received the $1.3 million commitment but not executed and by January 2014 OGI had Letters of Intent with four investment and acquisition transactions valued at $96 million. Before the deals could close, the SEC put a trading halt on our stock on April 10, 2014, which resulted in the withdrawal of all transactions. The business disruption from the trading halt and the resulting class action and derivative lawsuits ceased further investments with the OGI joint venture.
Starting in June 2014 we focused on cost reductions with minimal revenue loss as our focus. The primary reduction in operating costs came from (i) streamlining non-profitable personnel, lowering expenses by replacing the Woodland Hills, California headquarters with that of Seattle, Washington that serves more people at a lower cost; (ii) closing the unprofitable Peabody, Massachusetts, Woodland Hills, California and Plaistow, New Hampshire stores and Boulder, Colorado; (iii) relocating the Greners.com e-commerce operation from Santa Rosa, California to the Vail, Colorado store until a new Denver facility is set up; (iv) reducing full-time employees from 46 to 8 as of December 31, 2015; and (v) closing the Phototron subsidiary in California. While transition costs were paid out, the repurposing of company resources is expected to reduce our operating expenses and allows for greater market reach and efficiencies.
However, the challenges of operating a public company under the strains grey market trading and lawsuits, as well as limited access to investment capital kept the company lean. We also chose to convert inventory into cash. This reduced our inventory level from approximately $1.8 million during 2014 to $400,000 as of December 31, 2015 and lowered our gross margins to 14.8% for the year ended December 31, 2015. This conscientious decision was made to help us transition through this period. Also, we reduced our general and administrative expenses from approximately $7.9 million for the year ended December 31, 2014 to $2.7 million for the year ended December 31, 2015.
We remain focused on hiring the best people to expand our direct sales personnel. These personnel are knowledgeable in using the most progressive growing technologies that fit our customer’s needs. Whether they are small-scale local cultivation facilities or large-scale regional cultivators, our customer service team recommends smart medium, cost-effective lighting and ventilation, and the right nutrients that are best suited for the crop objective. Our knowledge layer is strategic for the evolution of the indoor growing industry. Unlike an outdoor superstore, GrowLife serves the specialty cultivation business as indoor crops are designed to deliver multiple grow cycles with greater quality and yield not available in outdoor agriculture. Technologies will be available to provide our customers with a way to further tune their ordering process and crop development using their own experience.
Customer Insights
GrowLife has the unique advantage of working with many cultivators of all sizes across most states that have differing laws and policies for indoor growing. This advantage has given us insights into our customers changing needs. During the last twelve months we have seen a dramatic change in many key areas that required us to adjust our strategies even faster than expected. For example, we expected the retail business to be eclipsed by e-commerce and direct sales combined, however, we now see that each one is surpassing retail sales. While localized, on-hand inventory has a benefit to most cultivators; price, by far, is driving most purchasing decisions. Simply putting up an e-commerce website without a presence in the retail and direct channels is not enough to engage the leading suppliers. Therefore, it remains critical that GrowLife continues to execute its multi-channel strategy, albeit at a different composition.
The driving force behind the customer’s pricing pressure is not that cultivators are greedily seeking to increase their profits or capitalize on the expected commoditization of growing equipment and supplies. Instead, cultivators are quickly adjusting their business models to make a profit. Also, the innovation of optimized indoor growing equipment and supplies is keeping them from becoming a commodity. Indoor cultivation business models, whether they are organic fruits and vegetables or cannabis, have been based on supplying a premium priced crop to serve increasing demand. The dynamics where most of the volume produced is based on supplying a premium crop that is saturating premium demand means that the premium price will drop. Almost two years ago, a 1/8 of an ounce of premium cannabis was selling for about $70. Today, the same crop in the same market sells for less than half that price and the surplus that is being sold in the non-premium market is selling for about 25% of the price; in some cases, for less. Source: bloomberg.com/news/articles/2015-06-22/this-survey-says-that-marijuana-prices-are-crashing-in-Colorado.
Our observations from customers reveal that the more sophisticated cultivators have made the business model adjust and most new cultivators have not distinguished the new price elasticity of demand. In the chart below, the demand line (green) for high grade intersected supply line (red) to define an equilibrium price point. As new cultivators entered the market they assumed that demand would increase for high grade and create what we call a phantom demand (gray) so that the increase in overall supply would lead to an increase in price (Pp). However, many reports support that the increase in supply stayed aligned with the original demand (green) and has led to the lower new price (Pn). The overall increase in demand that is commonly mentioned is not for high grade but for commercial grade, which is used for edibles and a less sophisticated palate. Source: narcoticnews.com/drug-prices/marijuana/
The cost of indoor growing, which included equipment, supplies, water, electricity, housing and skilled labor, requires capital. The risk and limited supply of the capital demanded a higher cost for the cannabis market than that of common fruits and vegetables. The cultivator has found themselves needing to pay more from their crop than expected and needing to sell at close to last year’s prices to achieve a reasonable return. Many customers have indicated that they were prepared to accept a 20-30% drop in selling price, but a 50% drop has created business challenges.
Another unanticipated issue is the separation of dispensaries (cannabis retailers) from the cultivation process. Cultivators now must market their crop to dispensaries that make higher margins, but have many supplier choices. This is leading to the segmentation between boutique premiums versus large commercial grade operations. Thus, the business model adjustments those cultivators are going through. Premium growers seek to scale in order to cover expenses and commercial grade cultivators must decrease prices or introduce quality production to win over dispensaries.
We are working with cultivators of all sizes, across all states at different stages; all of which are seeking to lower operating costs. Since resources such as water and electricity are limited and expensive, we help cultivators get more with less. Vertical farming has become a real and practical cultivation process for volume where a 20-by-30 square foot room that normally houses about 150 plants can now grow over 550 plants, almost three times more. Specially designed vertical lighting with 360-degree coverage and using 35% less power now delivers the necessary light with less heat, thus lowering the HVAC power demand. Finally, specially designed pots automatically control both watering and drainage efficiently. We have both the expertise and supplier relationships to help cultivators scale up with configurations like these.
Market Size and Growth
As the states across the country approve medicinal cannabis usage, with different THC and CBD compositions, cultivators purchase equipment and supplies from GrowLife and similar indoor growing supply companies.Therefore, as the cannabis market grows so does the revenue growth opportunity for us. Researchers from The ArcView Group, a cannabis industry investment and research firm based in Oakland, California, found that the U.S. market for cannabis grew 74 percent in 2014 to $2.7 billion, up from $1.5 billion in 2013. Today, 23 states plus Washington, DC have legalized cannabis for medical use and four states plus Washington, DC have passed recreational use into law.
We serve a new, yet sophisticated community of commercial and urban cultivators growing specialty crops including organics, greens and plant-based medicines. Unlike the traditional agricultural industry, these cultivators use innovative indoor growing techniques to produce specialty crops in highly controlled environments. This enables them to produce crops at higher yields without having to compromise quality - regardless of the season or weather and drought conditions.
Indoor growing techniques have primarily been used to cultivate plant-based medicines. Plant-based medicines often require high-degree of regulation and controls including government compliance, security, and crop consistency, making indoor growing techniques a preferred method. Cultivators of plant-based medicines often make a significant investment to design and build-out their facilities. They look to work with companies such as GrowLife who understand their specific needs, and can help mitigate risks that could jeopardize their crops.
The ArcView report indicates that plant-based medicines are the fastest-growing market in the U.S., and conservatively predicts the market could be worth more than $10 billion within five years. Several industry pundits including Dr. Sanjay Gupta of CNN believe that plant-based medicines may even displace prescription pain medication by providing patients with a safer, more affordable alternative.
Indoor growing techniques, however, are not limited to plant-based medicines. Vertical farms producing organic fruits and vegetables are beginning to emerge in the market due to a rising shortage of farmland, and environmental vulnerabilities including drought, other severe weather conditions and insect pests. Indoor growing techniques enables cultivators to grow crops all-year-round in urban areas, and take up less ground while minimizing environmental risks. Indoor growing techniques typically require a more significant upfront investment to design and build-out these facilities, than traditional farmlands. If new innovations lower the costs for indoor growing, and the costs to operate traditional farmlands continue to rise, then indoor growing techniques may be a compelling alternative for the broader agricultural industry.
Strategy
Our goal is to become the nation’s largest cultivation facility service provider for the production of organics, herbs and greens and plant-based medicines. We intend to achieve our goal by (i) expanding our nationwide, multi-channel sales network presence, (ii) offeringoffer the best terms for the full range of build-out equipment and consumable supplies, and (iii) deliver superior, innovative products exclusively.products.
First, we provide distribution through retail, e-commerce and direct sales to have national coverage and serve cultivators of all sizes. Each channel offers varying pricing for differing benefits. Retail sells at list price by offering inventory convenience, e-commerce provides the lowest pricelower prices without requiring local inventory, and direct sales delivers the best bid price for high-volume purchasers. Additional points of service may be added through existing distribution locations and services. This may be done in several manners such as a value-added reseller programand programs that reaches hundreds ofmay incorporate cultivator-centric locations or with collations with other resellers.retailer store owners.
Second, we serve the needs of all size cultivators and each one’s unique formulation.formulation, or ‘recipe’. We provide thousands of varieties of supplies from dozens of vendors and distributors. More importantly is our experience of knowing which products to recommend under each customer’s circumstance. Growing operations seeking expansion may also qualify for leasing terms by one of our financing partner.
And third, our experience with hundreds ofextensive customers allows us to determine specific product needs and sources to test new designs. Lights, pesticides, nutrients, extractionbuilding materials and growing systems are some examples of products that GrowLife has obtained exclusive access to purchase and distribute.can provide. Popular name branded products are seeking to be part of the GrowLife Company in many forms. In exchange, we can market their products in a unique manner over generic products.
Our company willcan expand onwith these strategies until it serves all themore indoor cultivators throughout the country. Once a customer is engaged, we willcan gradually expand their purchasing market share by providing greater economic benefit to the customers who buy more products from GrowLife than from other suppliers.
Key Market Priorities
Demand for indoor growing equipment is currently high due to legalization of plant-based medicines, primarily cannabis, which is mainly due to equipment purchases for build-out and repeated consumables. This demand is projected to continue to grow as a result of the supporting state laws in 23 states and the District of Columbia. Continued innovation in more efficient build-out technologies along with larger and consolidated cultivation facilities will further expand market demand for our products and services.
We expect for the market to continue to segment into urban farmers serving groups of individuals, community cultivators, and large-scale cultivation facilities across the states. Each segment will be optimized to different distribution channels that we currently provide. Our volume purchasing will allow us to obtain the best prices and maximize both our revenues and gross margins.
The nature of the cannabis industry’s inefficiencies due to the lack of interstate commerce imposed by the Federal government has segmented the market opportunities by State laws, population and demand. Currently, Colorado laws and population demand make it the most progressive and top market in the industry. We have elected to have a major retail presence in Colorado with our direct sales team and centralized our national e-commerce operations. We are currently reaching most of the legal states using both direct sales and seek to re-introduce GrowLife eco products to other hydroponic retailers.
Employees
Starting in 2014 and asAs of December 31, 2015, we reduced our manpower count from 46 to 8 by leveraging our resources across many areas. All company operations are continually reviewed for growth opportunities and direct sales along with GrowLife eco2017, a premium line of eco-friendly products, is planned to enable the Company to expand its coverage in a cost-effective manner.
As of March 30, 2016, we had onethirteen full-time employee and one consultant at our Seattle, Washington office.part-time employees. Marco Hegyi, our President,Chief Executive Officer, is based in Seattle,Kirkland, Washington. Mark E. Scott, our consulting CFO,Chief Financial Officer, is based out ofprimarily in Seattle, Washington. In addition, we have 7 employeesapproximately six full and part time consultants located throughout the United States and Canada who operate our e-commerce, direct sales and retail businesses. None of our employees isare subject to a collective bargaining agreement or represented by a trade or labor union. We believe that we have a good relationship with our employees.
We remain focused on hiring the best people to expand our direct sales personnel. These personnel are knowledgeable in using the most progressive growing technologies that fit our customer’s needs. Whether they are small-scale local cultivation facilities or large-scale regional cultivators, our customer service team recommends smart medium, cost-effective lighting and ventilation, and the right nutrients that are best suited for the crop objective. Our knowledge layer is strategic for the evolution of the indoor growing industry. Unlike an outdoor superstore, GrowLife serves the specialty cultivation business as indoor crops are designed to deliver multiple grow cycles with greater quality and yield not available in outdoor agriculture. Technologies will be available to provide our customers with a way to further tune their ordering process and crop development using their own experience.
Key Partners
Our key customers varyingvary by state and are expected to be more defined as the company moves from its retail walk-in purchasing sales strategy to serving cultivation facilities directly and under predictable purchasing contracts.
Our key suppliers include distributors such as HydroFarm, Urban Horticultural Supply and Sunlight Supply to product-specific suppliers. All the products purchased and resold are applicable to indoor growing for organics, greens, and plant-based medicines.
Competition
Certain large commercial cultivators have found themselves willing to assume their own equipment support by buying large volume purchased directly from certain suppliers and distributors such as Sunlight Supplies HydroFarm, and UHS.HydroFarm. Other key competitors on the retail side consist of local and regional hydroponic resellers of indoor growing equipment. On the e-commerce business, GrowersHouse.com, Hydrobuilder.com HorticultureSource.com and smaller online resellers using Amazon and eBay e-commerce market systems.
Intellectual Property and Proprietary Rights
Our intellectual property consists of brands and their related trademarks and websites, customer lists and affiliations, product know-how and technology, and marketing intangibles.
Our other intellectual property is primarily in the form of trademarks and domain names. We also hold rights to more than 30several website addresses related to our business including websites that are actively used in our day-to-day business such as www.shopgrowlife.com, www.freefit.com, www.growlifeinc.com, www.growlifeeco.com, www.stealthgrow.com, and www.greners.com.
On October 3, 2017, we closed the acquisition of 51% of the Purchased Assets from David Reichwein, a Pennsylvania resident, GIP International Ltd, a Hong Kong corporation and DPR International LLC, a Pennsylvania limited liability corporation. The Purchased Assets include intellectual property, copy rights and trademarks related to reflective tiles and flooring.
On February 16, 2018, we entered into an Addendum (the “First Addendum”) to amend the terms between the Company and David Reichwein. Pursuant to the First Addendum, we purchased the remaining 49% of the Purchased Assets in exchange for a one-time payment of $250,000 and the cancellation of Mr. Reichwein’s right to receive a 10% commission on certain sales of Free Fit products as was set forth in Mr. Reichwein’s employment agreement. In exchange for the cancellation of the commission in the employment agreement, Mr. Reichwein was granted the opportunity to earn up to two $100,000 cash bonuses and an aggregate common stock bonus of up to 7,500,000 shares if certain revenue and gross margin goals are met in 2018.
We have a policy of entering into confidentiality and non-disclosure agreements with our employees, and some of our vendors and customers as necessary.
Government Regulation
Currently, there are twenty-threethirty states plus the District of Columbia that have laws and/or regulation that recognize in one form or another legitimate medical uses for cannabis and consumer use of cannabis in connection with medical treatment. About a dozen other states are considering legislation to similar effect. There are currently foureight states and the District of Columbia that allow recreational use of cannabis. As of the date of this writing,March 28, 2018, the policy and regulations of the Federal government and its agencies is that cannabis has no medical benefit and a range of activities including cultivation and use of cannabis for personal use is prohibited on the basis of federal law and may or may not be permitted on the basis of state law. Active enforcement of the current federal regulatory position on cannabis on a regional or national basis may directly and adversely affect the willingness of customers of GrowLife to invest in or buy products from GrowLife. Active enforcement of the current federal regulatory position on cannabis may thus indirectly and adversely affect revenues and profits of the GrowLife companies.
All this being said, many reports show that the majority of the American public is in favor of making medical cannabis available as a controlled substance to those patients who need it. The need and consumption will then require cultivators to continue to provide safe and compliant crops to consumers. The cultivators will then need to build facilities and use consumable products, which GrowLife provides.
THE COMPANY’S COMMON STOCK
OurOn April 10, 2014, we received notice from the SEC that trading of our common stock trades on the OTC Bulletin BoardOTCBB was to be suspended from April 10, 2014 through April 24, 2014. The SEC issued its order pursuant to Section 12(k) of the Securities Exchange Act of 1934. According to the notice received by us from the SEC: “It appears to the Securities and Exchange Commission that the public interest and the protection of investors require a suspension of trading in the securities of GrowLife, Inc. because of concerns regarding the accuracy and adequacy of information in the marketplace and potentially manipulative transactions in GrowLife’s common stock.” We never received notice from the SEC that and we were formally being investigated.The suspension of trading eliminated our market makers, resulted in our trading on the grey sheets, resulted in legal proceedings and restricted our access to capital.
On October 17, 2017, we were informed by Alpine Securities Corporation (“Alpine”) that Alpine has demonstrated compliance with the Financial Industry Regulatory Authority (“FINRA”) Rule 6432 and Rule 15c2-11 under the symbol “PHOT.” WhileSecurities Exchange Act of 1934. We filed an amended application with the company’sOTC Markets to list the Company’s common stock is currently traded without a market maker, its stock does trade directly between buyers and sellers. The Company is currently taking the appropriate steps to uplist toon the OTCQB Exchange and resume priced quotations withbegin to trade on this market makers as soon as it is able.of March 28, 2018.
PRIMARY RISKS AND UNCERTAINTIES
We are exposed to various risks related to legal proceedings, our need for additional financing, the sale of significant numbers of our shares, the potential adjustment in the exercise price of our convertible debentures and a volatile market price for our common stock. These risks and uncertainties are discussed in more detail below in Part I, Item 1A.
WEBSITE ACCESS TO UNITED STATES SECURITIES AND EXCHANGE COMMISSION REPORTS
We file annual and quarterly reports, proxy statements and other information with the Securities and Exchange Commission ("SEC"). You may read and copy any document we file at the SEC's Public Reference Room at 100 F Street, N.E., Washington D.C. 20549. Please call the SEC at 1-800-SEC-0330 for further information on the public reference room. The SEC maintains a website at http://www.sec.gov that contains reports, proxy and information statements and other information concerning filers. We also maintain a web site at http://www.growlifeinc.com that provides additional information about our Company and links to documents we file with the SEC. The Company's charters for the Audit Committee, the Compensation Committee, and the Nominating Committee; and the Code of Conduct & Ethics are also available on our website. The information on our website is not part of this Form 10-K.
There are certain inherent risks which will have an effect on our development in the future and the most significant risks and uncertainties known and identified by our management are described below.
There are certain inherent risks which will have an effect on the Company’s development in the future and the most significant risks and uncertainties known and identified by our management are described below.
Risks Related to Our Business
Risks associatedAssociated with our funding from TCA Global Credit Master Fund, LP (“TCA”).
On July 9, 2015, we closed a Securities Purchase Agreement and related agreements with TCA Global Credit Master Fund LP, an accredited investor, whereby we agreed to sell and TCA agreed to purchase up to $3,000,000 of senior secured convertible, redeemable debentures, of which $700,000 was purchased on July 9, 2015 and up to $2,300,000 may be purchased in additional closings. The closing of the Transaction occurred on July 9, 2015.Chicago Venture
On August 6, 2015, we closed aThe Securities Purchase Agreement with Chicago Venture will terminate if we file protection from its creditors, a Registration Statement on Form S-1 is not effective, and related agreements with TCA Global Credit Master Fund LP, wherebyour market capitalization or the trading volume of our common stock does not reach certain levels. If terminated, we agreedwill be unable to sell and TCA agreeddraw down all or substantially all of our Chicago Venture Notes.
Our ability to purchase a $100,000 senior secured convertible redeemable debenture and we agreedrequire Chicago Venture to issue and sellfund the Chicago Venture Note is at our discretion, subject to TCA, from timecertain limitations. Chicago Venture is obligated to time, and TCA agreed to purchase from us up to $3,000,000fund if each of the Company’sfollowing conditions are met; (i) the average and median daily dollar volumes of our common stock pursuantfor the twenty (20) and sixty (60) trading days immediately preceding the funding date are greater than $100,000; (ii) our market capitalization on the funding date is greater than $17,000,000; (iii) we are not in default with respect to a Committed Equity Facility. The closingshare delivery obligations under the note as of the Transaction occurred on August 6, 2015.funding date; and (iv) we are current in our reporting obligations.
On October 27, 2015,There is no guarantee that we entered into an Amended and Restatedwill be able to meet the foregoing conditions or any other conditions under the Securities Purchase Agreement and related agreements with TCA Global Credit Master Fund LP wherebyand/or Chicago Venture Note or that we agreedwill be able to sell, and TCA agreed to purchase $350,000draw down any portion of senior secured convertible, redeemable debentures. We previously entered into athe amounts available under the Securities Purchase Agreement dated asand/or Chicago Venture Note.
If we not able to draw down all due under the Securities Purchase Agreement or if the Securities Purchase Agreement is terminated, we may be forced to curtail the scope of April 30, 2015 and effective as of July 9, 2015 to purchase up to $3,000,000 in Debentures. As of October 27, 2015, we sold $1,050,000 in Debentures to TCA and up to $1,950,000 in Debentures remains for sale by us. The closing of the transaction occurred on October 27, 2015. In addition, TCA has advanced us an additional $100,000 for a total of $1,150.000. Also, on October 21, 2015 we issued 150,000 Series B Preferred Stock at a stated value equal to $10.00 per share to TCA that is convertible into our common stock. On October 21, 2015, we also issued 51 shares of Series C Preferred Stock at $0.0001 par value per share to TCA thatoperations or alter our business plan if other financing is not convertible into our common stock. In the event of a default under the Amended and Restated TCA Transaction Documents, TCA can exercise voting control over our common stock with their Series C Preferred Stock voting rightsavailable to us.
As of April 14, 2016, we are in default on our repayment obligations in our Agreements with TCA and owe TCA approximately $254,000 in principal and interest payments. We are working to resolve these issues.
Failure to operate in accordance with the Agreements with TCA could result in the cancellation of these agreements, result in foreclosure on our assets in event of default and would have a material adverse effect on our business, results of operations or financial condition.
Suspension of trading of the Company’s securities.
On April 10, 2014, we received notice from the SEC that trading of the Company’sour common stock on the OTCBB was to be suspended from April 10, 2014 through April 24, 2014. The SEC issued its order pursuant to Section 12(k) of the Securities Exchange Act of 1934. According to the notice received by us from the SEC: “It appears to the Securities and Exchange Commission that the public interest and the protection of investors require a suspension of trading in the securities of GrowLife, Inc. because of concerns regarding the accuracy and adequacy of information in the marketplace and potentially manipulative transactions in GrowLife’s common stock.” To date, the Company has notWe never received notice from the SEC that it iswere formally being formally investigated.
On February 18, 2016, our common stock resumed unsolicited quotation on the OTC Bulletin Board after receiving clearance from the Financial Industry Regulatory Authority (“FINRA”) on our Form 15c2-11. We are currently taking the appropriate steps to uplist to the OTCQB Exchange and resume priced quotations with market makers as soon as it is able.
The suspension of trading eliminated our market makers, resulted in our trading on the grey sheets, resulted in legal proceedings and restricted our access to capital.
On October 17, 2017, we were informed by Alpine Securities Corporation (“Alpine”) that Alpine has demonstrated compliance with the Financial Industry Regulatory Authority (“FINRA”) Rule 6432 and Rule 15c2-11 under the Securities Exchange Act of 1934. We filed an amended application with the OTC Markets to list the Company’s common stock on the OTCQB and begin to trade on this market as of March 20, 2018.
This action had a material adverse effect on our business, financial condition and results of operations. If we are unable to obtain additional financing when it is needed, we will need to restructure our operations, and divest all or a portion of our business.
SEC charges outsiders with manipulating our securities.
On August 5, 2014, the SEC charged four promoters with ties to the Pacific Northwest for manipulating our securities. The SEC alleged that the four promoters bought inexpensive shares of thinly traded penny stock companies on the open market and conducted pre-arranged, manipulative matched orders and wash trades to create the illusion of an active market in these stocks. They then sold their shares in coordination with aggressive third party promotional campaigns that urged investors to buy the stocks because the prices were on the verge of rising substantially. This action has had a material adverse effect on our business, financial condition and results of operations. If we are unable to obtain additional financing when it is needed, we will need to restructure our operations, and divest all or a portion of our business.
On July 9, 2015, the SEC entered into settlements with two of the promoters. In connection with the settlement of their SEC action, the two men are liable for disgorgement of approximately $2.1 million and $306,000 in illicit profits, respectively. Earlier this year the two men were also sentenced to five and three years in prison, respectively, for their participation in the scheme.
We are involved in Legal Proceedings.
We are involved in the disputes and legal proceedings as discussed in the section title “Legal Proceedings” within this Form 10-K.10-K for year ended December 31, 2017. In addition, as a public company, we are also potentially susceptible to litigation, such as claims asserting violations of securities laws. Any such claims, with or without merit, if not resolved, could be time-consuming and result in costly litigation. There can be no assurance that an adverse result in any future proceeding would not have a potentially material adverse on our business, results of operations or financial condition.
Our Joint Venture Agreement with CANX USA, LLC ismay be important to our operations.
On November 19, 2013, we entered into a Joint Venture Agreement with CANX, a Nevada limited liability company. Under the terms of the Joint Venture Agreement, the Company and CANX formed Organic Growth International, LLC (“OGI”), a Nevada limited liability company, for the purpose of expanding our operations in its current retail hydroponic businesses and in other synergistic business verticals and facilitating additional funding for commercially financeable transactions of up to $40,000,000.
We initially owned a non-dilutive 45% share of OGI and the Company could acquire a controlling share of OGI as provided in the Joint Venture Agreement. In accordance with the Joint Venture Agreement, the Company and CANX entered into a Warrant Agreement whereby the we delivered to CANX a warrant to purchase 140,000,000 shares of our common stock that is convertible at $0.033 per share, subject to adjustment as provided in the warrant. The five-year warrant expires November 18, 2018. Also in accordance with the Joint Venture Agreement, on February 7, 2014, the Company issued an additional warrant to purchase 100,000,000 shares of our common stock that is convertible at $0.033 per share, subject to adjustment as provided in the warrant. The five-year warrant expires February 6, 2019.
GrowLife received the $1 million as a convertible note in December 2013, received the $1.3 million commitment but not executed and by January 2014 OGI had Letters of Intent with four investment and acquisition transactions valued at $96 million. Before the deals could close, the SEC put a trading halt on our stock on April 10, 2014, which resulted in the withdrawal of all transactions. The business disruption from the trading halt and the resulting class action and derivative lawsuits ceased further investments with the OGI joint venture. The Convertible Note was converted into our common stock as of the year ended December 31, 2016.
On July 10, 2014, we closed a Waiver and Modification Agreement, Amended and Restated Joint Venture Agreement, Secured Credit Facility and Secured Convertible Note with CANX and Logic Works LLC, a lender and shareholder of the Company. The Agreements require the filing of a registration statement on Form S-1 within 10 days of the filing of our Form 10-Q for the period ended June 30, 2014. Due to our grey sheet trading status and other issues, we did not file the registration statement.
Previously, we entered into a Joint Venture Agreement with CANX USA LLC, a Nevada limited liability company. Under the terms of the Joint Venture Agreement, the Company and CANX formed Organic Growth International, LLC (“OGI”), a Nevada limited liability company, for the purpose of expanding the Company’s operations in its current retail hydroponic businesses and in other synergistic business verticals and facilitating additional funding for commercially financeable transactions of up to $40,000,000. In connection with the closing of the Agreement, CANX agreed to provide a commitment for funding in the amount of $1,300,000 for a GrowLife Infrastructure Funding Technology program transaction and provided additional funding under a 7% Convertible Note instrument for $1,000,000, including $500,000 each from Logic Works and China West III Investments LLC, entities that are unaffiliated with CANX and operate as separate legal entities. We initially owned a non-dilutive 45% share of OGI and we may acquire a controlling share of OGI as provided in the Joint Venture Agreement. In accordance with the Joint Venture Agreement, the Company and CANX entered into a Warrant Agreement whereby the Company delivered to CANX a warrant to purchase 140,000,000 shares of the Company common stock at a maximum strike price of $0.033 per share. Also in accordance with the Joint Venture Agreement, we issued an additional warrant to purchase 100,000,000 shares of our common stock at a maximum strike price of $0.033 per share on February 7, 2014.
On April 10, 2014, as a result of the suspension in the trading of our securities, we went into default on our 7% Convertible Notes Payable for $500,000 each from Logic Works and China West III. As a result, we accrued interest on these notes at the default rate of 24% per annum. Furthermore, as a result of being in default on these notes, the Holders could have, at their sole discretion, called these notes.
Waiver and Modification Agreement
We entered into a Waiver and Modification Agreement dated June 25, 2014 with Logic Works LLC whereby the 7% Convertible Note with Logic Works dated December 20, 2013 was modified to provide for (i) a waiver of the default under the 7% Convertible Note; (ii) a conversion price which is the lesser of (A) $0.025 or (B) twenty percent (20%) of the average of the three (3) lowest daily VWAPs occurring during the twenty (20) consecutive Trading Days immediately preceding the applicable Conversion Date on which the Holder elects to convert all or part of this Note; (iii) the filing of a registration statement on Form S-1 within 10 days of the filing of the Company’s Form 10-Q for the period ended June 30, 2014; and (iv) continuing interest of 24% per annum. China West III converted its Note into common stock on June 4, 2014. Due to our grey sheet trading status and other issues, we did not file the registration statement.
Amended and Restated Joint Venture Agreement
We entered into anThe Amended and Restated Joint Venture Agreement dated July 1, 2014 with CANX wherebymodified the Joint Venture Agreement dated November 19, 2013 was modified to provide for (i) up to $12,000,000 in conditional financing subject to review by GrowLife and approval by OGI for business growth development opportunities in the legal cannabis industry for up to sixnine months, subject to extension; (ii) up to $10,000,000 in working capital loans with each loaning requiring approval in advance by CANX; (iii) confirmed that the five year warrants, subject to extension,adjustment, at $0.033 per share for the purchase of 140,000,000 and 100,000,000 were fully earned and were not considered compensation for tax purposes by the Company; (iv) granted CANX five year warrants, subject to extension,adjustment, to purchase 300,000,000 shares of common stock at the fair market price of $0.033 per share as determined by an independent appraisal; (v) warrants as defined in the Agreement related to the achievement of OGI milestones; and (vi) a four year term, subject to adjustment and (vi) the filing of a registration statement on Form S-1 within 10 days of the filing of our Form 10-Q for the period ended June 30, 2014. Due to our grey sheet trading status and other issues, we did not file the registration statement.adjustment.
Secured Convertible Note and Secured Credit Facility
We entered into a Secured Convertible Note and Secured Credit Facility dated June 25, 2014 with Logic Works whereby Logic Works agreed to provide up to $500,000 in funding. Each funding requiresrequired approval in advance by Logic Works, provides for interest at 6% with a default interest of 24% per annum and requiresrequired repayment by June 26, 2016. The Note is convertible into our common stock of the Company at the lesser of $0.007$0.0070 or (B) 20%twenty percent (20%) of the average of the three (3) lowest daily VWAPs occurring during the 20twenty (20) consecutive Trading Days immediately preceding the applicable conversion date on which Logic Works elects to convert all or part of this 6% Convertible Note, subject to adjustment as provided in the Note. The 6% Convertible Note is collateralized by our assets. We also agreed to file a registration statement on Form S-1 within 10 days of the filing of our Form 10-Q for the three months ended June 30, 2014 and have the registration statement declared effective within ninety days of the filing of our Form 10-Q for the three months ended June 30, 2014. Due to our grey sheet trading status and other issues, we did not file the registration statement.
On July 10, 2014, we closed a Waiver and Modification Agreement, Amended and Restated Joint Venture Agreement, Secured Credit Facility and Secured Convertible Note with CANX, and Logic Works LLC, a lender and shareholderassets of the Company. As of December 31, 2015, we have borrowed $350,000 underSeptember 30, 2017, the Securedoutstanding balance on the Convertible Note and Secured Credit Facility dated June 25, 2014 with Logic Works.was $41,225.
Failure to operate in accordance with the Agreements with CANX could result in the cancellation of these agreements, result in foreclosure on our assets in event of default and would have a material adverse effect on our business, results of operations or financial condition.
We may engage in acquisitions, mergers, strategic alliances, joint ventures and divestures that could result in final results that are different than expected.
In the normal course of business, we engage in discussions relating to possible acquisitions, equity investments, mergers, strategic alliances, joint ventures and divestitures. Such transactions are accompanied by a number of risks, including the use of significant amounts of cash, potentially dilutive issuances of equity securities, incurrence of debt on potentially unfavorable terms as well as impairment expenses related to goodwill and amortization expenses related to other intangible assets, the possibility that we may pay too much cash or issue too many of our shares as the purchase price for an acquisition relative to the economic benefits that we ultimately derive from such acquisition, and various potential difficulties involved in integrating acquired businesses into our operations.
From time to time, we have also engaged in discussions with candidates regarding the potential acquisitions of our product lines, technologies and businesses. If a divestiture such as this does occur, we cannot be certain that our business, operating results and financial condition will not be materially and adversely affected. A successful divestiture depends on various factors, including our ability to effectively transfer liabilities, contracts, facilities and employees to any purchaser; identify and separate the intellectual property to be divested from the intellectual property that we wish to retain; reduce fixed costs previously associated with the divested assets or business; and collect the proceeds from any divestitures.
If we do not realize the expected benefits of any acquisition or divestiture transaction, our financial position, results of operations, cash flows and stock price could be negatively impacted.
Our proposed business is dependent on laws pertaining to the marijuana industry.
Continued development of the marijuana industry is dependent upon continued legislative authorization of the use and cultivation of marijuana at the state level. Any number of factors could slow or halt progress in this area. Further, progress, while encouraging, is not assured. While there may be ample public support for legislative action, numerous factors impact the legislative process. Any one of these factors could slow or halt use of marijuana, which would negatively impact our proposed business.
As of November 30, 2015, 23Currently, thirty states and the District of Columbia allow its citizens to use medical marijuana.cannabis. Additionally, 4eight states and the District of Columbia have legalized cannabis for adult use. The state laws are in conflict with the federal Controlled Substances Act, which makes marijuana use and possession illegal on a national level. The Obama administration haspreviously effectively stated that it is not an efficient use of resources to direct law federal law enforcement agencies to prosecute those lawfully abiding by state-designated laws allowing the use and distribution of medical marijuana. The Trump administration position is unknown. However, there is no guarantee that the Trump administration will not change its statedcurrent policy regarding the low-priority enforcement of federal laws. Additionally, any new administration that follows could change this policy and decide to enforce the federal laws strongly. Any such change in the federal government’s enforcement of current federal laws could cause significant financial damage to us and its shareholders.
Further, while we do not harvest, distribute or sell marijuana, by supplying products to growers of marijuana, we could be deemed to be participating in marijuana cultivation, which remains illegal under federal law, and exposes us to potential criminal liability, with the additional risk that our business could be subject to civil forfeiture proceedings.
The marijuana industry faces strong opposition.
It is believed by many that large, well-funded businesses may have a strong economic opposition to the marijuana industry. We believe that the pharmaceutical industry clearly does not want to cede control of any product that could generate significant revenue. For example, medical marijuana will likely adversely impact the existing market for the current “marijuana pill” sold by mainstream pharmaceutical companies. Further, the medical marijuana industry could face a material threat from the pharmaceutical industry, should marijuana displace other drugs or encroach upon the pharmaceutical industry’s products. The pharmaceutical industry is well funded with a strong and experienced lobby that eclipses the funding of the medical marijuana movement. Any inroads the pharmaceutical industry could make in halting or impeding the marijuana industry harm our business, prospects, results of operation and financial condition.
Marijuana remains illegal under Federal law.
Marijuana is a Schedule-I controlled substance and is illegal under federal law. Even in those states in which the use of marijuana has been legalized, its use remains a violation of federal law. Since federal law criminalizing the use of marijuana preempts state laws that legalize its use, strict enforcement of federal law regarding marijuana would harm our business, prospects, results of operation and financial condition.
Raising additional capital to implement our business plan and pay our debts will cause dilution to our existing stockholders, require us to restructure our operations, and divest all or a portion of our business.
We need additional financing to implement our business plan and to service our ongoing operations and pay our current debts. There can be no assurance that we will be able to secure any needed funding, or that if such funding is available, the terms or conditions would be acceptable to us.
If we raise additional capital through borrowing or other debt financing, we may incur substantial interest expense. Sales of additional equity securities will dilute on a pro rata basis the percentage ownership of all holders of common stock. When we raise more equity capital in the future, it will result in substantial dilution to our current stockholders.
If we are unable to obtain additional financing when it is needed, we will need to restructure our operations, and divest all or a portion of our business.
We were in default on our convertible notes payable.Potential Convertible Note Defaults.
On April 10, 2014, as a resultSeveral of the SEC suspension in the tradingCompany’s convertible promissory notes remain outstanding beyond their respective maturity dates. This may trigger an event of our securities, we went into default on our 6% Senior Secured Convertible Notes Payable and our 7% Convertible Notes Payable. As a result, we accrued interest on these notes at the default rate of 12% and 24% per annum, respectively. Furthermore, as a result of being in default on these notes, the Holders could have, at their sole discretion, called these notes.
During July 2014, we reached settlement agreements with our holders of the 7% Convertible Notes Payable and we are not in default under any of our convertiblethe respective agreements. The Company is working with these noteholders to convert their notes payable. We are accruing interest at the interest rate in the settlement agreements.into common stock and intends to resolve these outstanding issues as soon as practicable. Any default could have a significant adverse effect on our cash flows and should we be unsuccessful in negotiating an extension or other modification, we may have to restructure our operations, divest all or a portion of its business, or file for bankruptcy.
Closing of bank accounts could have a material adverse effect on our business, financial condition and/or results of operations.
As a result of the regulatory environment, we have experienced the closing of several of our bank accounts since March 2014. We have been able to open other bank accounts. However, we may have other banking accounts closed. These factors impact management and could have a material adverse effect on our business, financial condition and/or results of operations.
Federal regulation and enforcement may adversely affect the implementation of medical marijuana laws and regulations may negatively impact our revenues and profits.
Currently, there are twenty threethirty states plus the District of Columbia that have laws and/or regulation that recognize in one form or another legitimate medical uses for cannabis and consumer use of cannabis in connection with medical treatment. Many other states are considering legislation to similar effect. As of the date of this writing, the policy and regulations of the Federal government and its agencies is that cannabis has no medical benefit and a range of activities including cultivation and use of cannabis for personal use is prohibited on the basis of federal law and may or may not be permitted on the basis of state law. Active enforcement of the current federal regulatory position on cannabis on a regional or national basis may directly and adversely affect the willingness of customers of GrowLife to invest in or buy products from GrowLife that may be used in connection with cannabis. Active enforcement of the current federal regulatory position on cannabis may thus indirectly and adversely affect revenues and profits of the GrowLife companies.
Our history of net losses has raised substantial doubt regarding our ability to continue as a going concern. If we do not continue as a going concern, investors could lose their entire investment.
Our history of net losses has raised substantial doubt about our ability to continue as a going concern, and as a result, our independent registered public accounting firm included an explanatory paragraph in its report on our financial statements as of and for the year ended December 31, 20152017 and 20142016 with respect to this uncertainty. Accordingly, our ability to continue as a going concern will require us to seek alternative financing to fund our operations. This going concern opinion could materially limit our ability to raise additional funds through the issuance of new debt or equity securities or otherwise. Future reports on our financial statements may include an explanatory paragraph with respect to our ability to continue as a going concern.
We have a history of operating losses and there can be no assurance that we can again achieve or maintain profitability.
We have experienced net losses since inception. As of December 31, 2015,2017, we had an accumulated deficit of $116.7$129.7 million. There can be no assurance that we will achieve or maintain profitability.
We are subject to corporate governance and internal control reporting requirements, and our costs related to compliance with, or our failure to comply with existing and future requirements, could adversely affect our business.
We must comply with corporate governance requirements under the Sarbanes-Oxley Act of 2002 and the Dodd–Frank Wall Street Reform and Consumer Protection Act of 2010, as well as additional rules and regulations currently in place and that may be subsequently adopted by the SEC and the Public Company Accounting Oversight Board. These laws, rules, and regulations continue to evolve and may become increasingly stringent in the future. We are required to include management’s report on internal controls as part of our annual report pursuant to Section 404 of the Sarbanes-Oxley Act. We strive to continuously evaluate and improve our control structure to help ensure that we comply with Section 404 of the Sarbanes-Oxley Act. The financial cost of compliance with these laws, rules, and regulations is expected to remain substantial.
We cannot assure you that we will be able to fully comply with these laws, rules, and regulations that address corporate governance, internal control reporting, and similar matters. Failure to comply with these laws, rules and regulations could materially adversely affect our reputation, financial condition, and the value of our securities.
Our management has concluded that we have material weaknesses in our internal controls over financial reporting and that our disclosure controls and procedures are not effective.
A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of a company's annual or interim financial statements will not be prevented or detected on a timely basis. A significant deficiency is a deficiency, or a combination of deficiencies, in internal control over financial reporting that is less severe than a material weakness, yet important enough to merit attention by those responsible for oversight of the company's financial reporting. During the review of our internal controls over financial statementsreporting for the year ended December 31, 2015,2017, our management identified material weaknesses in our internal control over financial reporting. If these weaknesses continue, investors could lose confidence in the accuracy and completeness of our financial reports and other disclosures.
Our inability to effectively manage our growth could harm our business and materially and adversely affect our operating results and financial condition.
Our strategy envisions growing our business. We plan to expand our product, sales, administrative and marketing organizations. Any growth in or expansion of our business is likely to continue to place a strain on our management and administrative resources, infrastructure and systems. As with other growing businesses, we expect that we will need to further refine and expand our business development capabilities, our systems and processes and our access to financing sources. We also will need to hire, train, supervise and manage new and retain contributing employees. These processes are time consuming and expensive, will increase management responsibilities and will divert management attention. We cannot assure you that we will be able to:
| | expand our products effectively or efficiently or in a timely manner; |
| ● | allocate our human resources optimally; |
| ● | meet our capital needs; |
| ● | identify and hire qualified employees or retain valued employees; or |
| ● | incorporate effectively the components of any business or product line that we may acquire in our effort to achieve growth. |
expand our products effectively or efficiently or in a timely manner;
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allocate our human resources optimally;
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identify and hire qualified employees or retain valued employees; or
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incorporate effectively the components of any business or product line that we may acquire in our effort to achieve growth.
Our inability or failure to manage our growth and expansion effectively could harm our business and materially and adversely affect our operating results and financial condition.
Our operating results may fluctuate significantly based on customer acceptance of our products. As a result, period-to-period comparisons of our results of operations are unlikely to provide a good indication of our future performance. Management expects that we will experience substantial variations in our net sales and operating results from quarter to quarter due to customer acceptance of our products. If customers don’t accept our products, our sales and revenues will decline, resulting in a reduction in our operating income.
Customer interest for our products could also be impacted by the timing of our introduction of new products. If our competitors introduce new products around the same time that we issue new products, and if such competing products are superior to our own, customers’ desire for our products could decrease, resulting in a decrease in our sales and revenues. To the extent that we introduce new products and customers decide not to migrate to our new products from our older products, our revenues could be negatively impacted due to the loss of revenue from those customers. In the event that our newer products do not sell as well as our older products, we could also experience a reduction in our revenues and operating income.
As a result of fluctuations in our revenue and operating expenses that may occur, management believes that period-to-period comparisons of our results of operations are unlikely to provide a good indication of our future performance.
If we do not successfully generate additional products and services, or if such products and services are developed but not successfully commercialized, we could lose revenue opportunities.
Our future success depends, in part, on our ability to expand our product and service offerings. To that end we have engaged in the process of identifying new product opportunities to provide additional products and related services to our customers. The process of identifying and commercializing new products is complex and uncertain, and if we fail to accurately predict customers’ changing needs and emerging technological trends our business could be harmed. We may have to commit significant resources to commercializing new products before knowing whether our investments will result in products the market will accept. Furthermore, we may not execute successfully on commercializing those products because of errors in product planning or timing, technical hurdles that we fail to overcome in a timely fashion, or a lack of appropriate resources. This could result in competitors providing those solutions before we do and a reduction in net sales and earnings.
The success of new products depends on several factors, including proper new product definition, timely completion and introduction of these products, differentiation of new products from those of our competitors, and market acceptance of these products. There can be no assurance that we will successfully identify new product opportunities, develop and bring new products to market in a timely manner, or achieve market acceptance of our products or that products and technologies developed by others will not render our products or technologies obsolete or noncompetitive.
Our future success depends on our ability to grow and expand our customer base. Our failure to achieve such growth or expansion could materially harm our business.
To date, our revenue growth has been derived primarily from the sale of our products and through the purchase of existing businesses. Our success and the planned growth and expansion of our business depend on us achieving greater and broader acceptance of our products and expanding our customer base. There can be no assurance that customers will purchase our products or that we will continue to expand our customer base. If we are unable to effectively market or expand our product offerings, we will be unable to grow and expand our business or implement our business strategy. This could materially impair our ability to increase sales and revenue and materially and adversely affect our margins, which could harm our business and cause our stock price to decline.
If we incur substantial liability from litigation, complaints, or enforcement actions resulting from misconduct by our distributors, our financial condition could suffer. We will require that our distributors comply with applicable law and with our policies and procedures. Although we will use various means to address misconduct by our distributors, including maintaining these policies and procedures to govern the conduct of our distributors and conducting training seminars, it will still be difficult to detect and correct all instances of misconduct. Violations of applicable law or our policies and procedures by our distributors could lead to litigation, formal or informal complaints, enforcement actions, and inquiries by various federal, state, or foreign regulatory authorities against us and/or our distributors. Litigation, complaints, and enforcement actions involving us and our distributors could consume considerable amounts of financial and other corporate resources, which could have a negative impact on our sales, revenue, profitability and growth prospects. As we are currently in the process of implementing our direct sales distributor program, we have not been, and are not currently, subject to any material litigation, complaint or enforcement action regarding distributor misconduct by any federal, state or foreign regulatory authority.
Our future manufacturers could fail to fulfill our orders for products, which would disrupt our business, increase our costs, harm our reputation and potentially cause us to lose our market.
We may depend on contract manufacturers in the future to produce our products. These manufacturers could fail to produce products to our specifications or in a workmanlike manner and may not deliver the units on a timely basis. Our manufacturers may also have to obtain inventories of the necessary parts and tools for production. Any change in manufacturers to resolve production issues could disrupt our ability to fulfill orders. Any change in manufacturers to resolve production issues could also disrupt our business due to delays in finding new manufacturers, providing specifications and testing initial production. Such disruptions in our business and/or delays in fulfilling orders would harm our reputation and would potentially cause us to lose our market.
Our inability to effectively protect our intellectual property would adversely affect our ability to compete effectively, our revenue, our financial condition and our results of operations.
We may be unable to obtain intellectual property rights to effectively protect our business. Our ability to compete effectively may be affected by the nature and breadth of our intellectual property rights. While we intend to defend against any threats to our intellectual property rights, there can be no assurance that any such actions will adequately protect our interests. If we are unable to secure intellectual property rights to effectively protect our technology, our revenue and earnings, financial condition, and/or results of operations would be adversely affected.
We may also rely on nondisclosure and non-competition agreements to protect portions of our technology. There can be no assurance that these agreements will not be breached, that we will have adequate remedies for any breach, that third parties will not otherwise gain access to our trade secrets or proprietary knowledge, or that third parties will not independently develop the technology.
We do not warrant any opinion as to non-infringement of any patent, trademark, or copyright by us or any of our affiliates, providers, or distributors. Nor do we warrant any opinion as to invalidity of any third-party patent or unpatentability of any third-party pending patent application.
Our industry is highly competitive and we have less capital and resources than many of our competitors, which may give them an advantage in developing and marketing products similar to ours or make our products obsolete.
We are involved in a highly competitive industry where we may compete with numerous other companies who offer alternative methods or approaches, may have far greater resources, more experience, and personnel perhaps more qualified than we do. Such resources may give our competitors an advantage in developing and marketing products similar to ours or products that make our products obsolete. There can be no assurance that we will be able to successfully compete against these other entities.
Transfers of our securities may be restricted by virtue of state securities “blue sky” laws, which prohibit trading absent compliance with individual state laws. These restrictions may make it difficult or impossible to sell shares in those states.
Transfers of our common stock may be restricted under the securities or securities regulations laws promulgated by various states and foreign jurisdictions, commonly referred to as "blue sky" laws. Absent compliance with such individual state laws, our common stock may not be traded in such jurisdictions. Because the securities held by many of our stockholders have not been registered for resale under the blue sky laws of any state, the holders of such shares and persons who desire to purchase them should be aware that there may be significant state blue sky law restrictions upon the ability of investors to sell the securities and of purchasers to purchase the securities. These restrictions may prohibit the secondary trading of our common stock. Investors should consider the secondary market for our securities to be a limited one.
We are dependent on key personnel and we are default under Employment and Consulting Agreements
Our success depends to a significant degree upon the continued contributions of key management and other personnel, some of whom could be difficult to replace. We do not maintain key man life insurance covering our officers except for Marco Hegyi, our President. We are in default under the Employment Agreement with Mr. Hegyi and the Consulting Agreement with Mr. Scott.
officers. Our success will depend on the performance of our officers and key management and other personnel, our ability to retain and motivate our officers, our ability to integrate new officers and key management and other personnel into our operations, and the ability of all personnel to work together effectively as a team. Our failure to retain and recruit officers and other key personnel could have a material adverse effect on our business, financial condition and results of operations.
We have limited insurance.
We have nolimited directors’ and officers’ liability insurance and limited commercial liability insurance policies. Any significant claims would have a material adverse effect on our business, financial condition and results of operations.
Risks Related to our Common Stock
CANX Logic Works and China West and TCAChicago Venture could have significant influence over matters submitted to stockholders for approval.
CANX and Logic Works and China West
As of December 31, 2015,2017, CANX Logic Works and China West in the aggregate hold sharesholds warrants representing approximately 53.9%18.6% of our common stock on a fully-converted basis and could be considered a control group for purposes of SEC rules. However, their agreements limit their ownership to 4.99% individually and each of the parties disclaims its status as a control group or a beneficial owner due to the fact that their beneficial ownership is limited to 4.99% per their agreements. Beneficial ownership includes shares over which an individual or entity has investment or voting power and includes shares that could be issued upon the exercise of options and warrants within 60 days after the date of determination.
TCA and Chicago Venture
As a result of funding from Chicago Venture as previously detailed, they exercise significant control over us.
If these persons were to choose to act together, they would be able to significantly influence all matters submitted to our stockholders for approval, as well as our officers, directors, management and affairs. For example, these persons, if they choose to act together, could significantly influence the election of directors and approval of any merger, consolidation or sale of all or substantially all of our assets. This concentration of voting power could delay or prevent an acquisition of us on terms that other stockholders may desire.
TCA
On July 9, 2015, we closed a Securities Purchase Agreement and related agreements with TCA Global Credit Master Fund LP, an accredited investor, whereby we agreed to sell and TCA agreed to purchase up to $3,000,000 of senior secured convertible, redeemable debentures, of which $700,000 was purchased on July 9, 2015 and up to $2,300,000 may be purchased in additional closings. The closing of the Transaction occurred on July 9, 2015.
On August 6, 2015, we closed a Securities Purchase Agreement and related agreements with TCA Global Credit Master Fund LP, whereby we agreed to sell and TCA agreed to purchase a $100,000 senior secured convertible redeemable debenture and we agreed to issue and sell to TCA, from time to time, and TCA agreed to purchase from us up to $3,000,000 of the Company’s common stock pursuant to a Committed Equity Facility. The closing of the Transaction occurred on August 6, 2015.
On October 27, 2015, we entered into an Amended and Restated Securities Purchase Agreement and related agreements with TCA Global Credit Master Fund LP whereby we agreed to sell, and TCA agreed to purchase $350,000 of senior secured convertible, redeemable debentures. We previously entered into a Securities Purchase Agreement dated as of April 30, 2015 and effective as of July 9, 2015 to purchase up to $3,000,000 in Debentures. As of October 27, 2015, we sold $1,050,000 in Debentures to TCA and up to $1,950,000 in Debentures remains for sale by us. The closing of the transaction occurred on October 27, 2015. In addition, TCA has advanced us an additional $100,000 for a total of $1,150.000. In addition, on October 21, 2015 we issued 150,000 Series B Preferred Stock at a stated value equal to $10.00 per share to TCA that is convertible into our common stock. On October 21, 2015, we also issued 51 shares of Series C Preferred Stock at $0.0001 par value per share to TCA that is not convertible into our common stock. In the event of a default under the Amended and Restated TCA Transaction Documents, TCA can exercise voting control over our common stock with their Series C Preferred Stock voting rights
As of April 14, 2016, we are in default on our repayment obligations in our Agreements with TCA and owe TCA approximately $254,000 in principal and interest payments. We are working to resolve these issues.
TCA is able to significantly influence all matters submitted to our stockholders for approval, as well as our officers, directors, management and affairs. For example, these persons, if they choose to act together, could significantly influence the election of directors and approval of any merger, consolidation or sale of all or substantially all of our assets. This concentration of voting power could delay or prevent an acquisition of us on terms that other stockholders may desire.
Trading in our stock is limited by the lack of market makers and the SEC’s penny stock regulations.
On April 10, 2014, as a result of the SEC suspension in the trading of our securities, we lost all market makers and traded on the grey market of OTCBB. Until we complied with FINRA Rule 15c2-11, we traded on the grey market, which has limited quotations and marketability of securities. Holders of our common stock found it more difficult to dispose of, or to obtain accurate quotations as to the market value of, our common stock, and the market value of our common stock declined.declined.
On October 17, 2017, we were informed by Alpine Securities Corporation (“Alpine”) that Alpine has demonstrated compliance with the Financial Industry Regulatory Authority (“FINRA”) Rule 6432 and Rule 15c2-11 under the Securities Exchange Act of 1934. As a result, Alpine may initiate an unpriced quotation for our common stock. On February 18, 2016, our common stock resumed unsolicited quotation on the OTC Bulletin Board after receiving clearance from the Financial Industry Regulatory Authority (“FINRA”) on our Form 15c2-11. We are currently takingfiled an amended application with the appropriate stepsOTC Markets to uplist tolist the Company’s common stock on the OTCQB Exchange and resume priced quotations withbegan to trade on this market makers as soon as it is able.of March 20, 2018.
Our stock is categorized as a penny stock The SEC has adopted Rule 15g-9 which generally defines "penny stock" to be any equity security that has a market price (as defined) less than US$ 5.00 per share or an exercise price of less than US$ 5.00US $5.00 per share, subject to certain exclusions (e.g., net tangible assets in excess of $2,000,000 or average revenue of at least $6,000,000 for the last three years). The penny stock rules impose additional sales practice requirements on broker-dealers who sell to persons other than established customers and accredited investors. The penny stock rules require a broker-dealer, prior to a transaction in a penny stock not otherwise exempt from the rules, to deliver a standardized risk disclosure document in a form prepared by the SEC, which provides information about penny stocks and the nature and level of risks in the penny stock market. The broker-dealer also must provide the customer with current bid and offer quotations for the penny stock, the compensation of the broker-dealer and its salesperson in the transaction, and monthly account statements showing the market value of each penny stock held in the customer's account. The bid and offer quotations, and the broker-dealer and salesperson compensation information, must be given to the customer orally or in writing prior to effecting the transaction and must be given to the customer in writing before or with the customer's confirmation. In addition, the penny stock rules require that prior to a transaction in a penny stock not otherwise exempt from these rules, the broker-dealer must make a special written determination that the penny stock is a suitable investment for the purchaser and receive the purchaser's written agreement to the transaction. Finally, broker-dealers may not handle penny stocks under $0.10 per share.
These disclosure requirements reduce the level of trading activity in the secondary market for the stock that is subject to these penny stock rules. Consequently, these penny stock rules would affect the ability of broker-dealers to trade our securities if we become subject to them in the future. The penny stock rules also could discourage investor interest in and limit the marketability of our common stock to future investors, resulting in limited ability for investors to sell their shares.
FINRA sales practice requirements may also limit a shareholder’s ability to buy and sell our stock.
In addition to the “penny stock” rules described above, FINRA has adopted rules that require that in recommending an investment to a customer, a broker-dealer must have reasonable grounds for believing that the investment is suitable for that customer. Prior to recommending speculative low priced securities to their non-institutional customers, broker-dealers must make reasonable efforts to obtain information about the customer’s financial status, tax status, investment objectives and other information. Under interpretations of these rules, FINRA believes that there is a high probability that speculative low priced securities will not be suitable for at least some customers. The FINRA requirements make it more difficult for broker-dealers to recommend that their customers buy our common stock, which may limit your ability to buy and sell our stock and have an adverse effect on the market for our shares.
The market price of our common stock may be volatile.
The market price of our common stock has been and is likely in the future to be volatile. Our common stock price may fluctuate in response to factors such as:
● | Halting of trading by the SEC or FINRA. |
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● | Announcements by us regarding liquidity, legal proceedings, significant acquisitions, equity investments and divestitures, strategic relationships, addition or loss of significant customers and contracts, capital expenditure commitments, loan, note payable and agreement defaults, loss of our subsidiaries and impairment of assets, |
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● | Issuance of convertible or equity securities for general or merger and acquisition purposes, |
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● | Issuance or repayment of debt, accounts payable or convertible debt for general or merger and acquisition purposes, |
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● | Sale of a significant number of shares of our common stock by shareholders, |
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● | General market and economic conditions, |
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Halting of trading by the SEC or FINRA.
● | Quarterly variations in our operating results, |
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● | Investor relation activities, |
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● | Announcements of technological innovations, |
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● | New product introductions by us or our competitors, |
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● | Competitive activities, and |
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● | Additions or departures of key personnel. |
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Announcements by us regarding liquidity, legal proceedings, significant acquisitions, equity investments and divestitures, strategic relationships, addition or loss of significant customers and contracts, capital expenditure commitments, loan, note payable and agreement defaults, loss of our subsidiaries and impairment of assets,
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Issuance of convertible or equity securities for general or merger and acquisition purposes,
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Issuance or repayment of debt, accounts payable or convertible debt for general or merger and acquisition purposes,
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Sale of a significant number of shares of our common stock by shareholders,
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General market and economic conditions,
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Quarterly variations in our operating results,
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Investor relation activities,
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Announcements of technological innovations,
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New product introductions by us or our competitors,
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Competitive activities, and
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Additions or departures of key personnel.
These broad market and industry factors may have a material adverse effect on the market price of our common stock, regardless of our actual operating performance. These factors could have a material adverse effect on our business, financial condition, and/or results of operations.
The sale of a significant number of our shares of common stock could depress the price of our common stock.
Sales or issuances of a large number of shares of common stock in the public market or the perception that sales may occur could cause the market price of our common stock to decline. As of December 31, 2015,2017, there were approximately 891.1 million2.37 billion shares of our common stock issued and outstanding. In addition, as of December 31, 2015,2017, there are also (i) stock option grants outstanding for the purchase of 29.056 million common shares at a $0.028$0.007 average strikeexercise price; (ii) warrants for the purchase of 565.0595 million common shares at a $0.032$0.031 average exercise price; and (iii) 243.6198 million shares related to convertible debt that can be converted at 0.0070.0036 per share; (iv) 6.0share. During the year ended December 31, 2017, Chicago Venture converted principal and accrued interest of $2,688,000 into 554 million shares that may be issued toof our common stock at a former executive related to a severance agreement;per share conversion price of $0.049; and (v) 15(iii) Logic Works converted principal and interest of $291,000 into 82.6 million shares recorded as contingently redeemable common stock. We issued $2 million inof our common stock or 115,141,048 shares on April 6, 2016 pursuant to the settlementat a per share conversion price of the Consolidated Class Action and Derivative Action lawsuits alleging violations of federal securities laws that were filed against the Company in United States District Court, Central District of California. $.004.
In addition, we have an unknown number of common shares to be issued under the TCAChicago Venture financing agreements.agreements because the number of shares ultimately issued to Chicago Venture depends on the price at which Chicago Venture converts its debt to shares. The lower the conversion price, the more shares that will be issued to Chicago Venture upon the conversion of debt to shares. We won’t know the exact number of shares of stock issued to Chicago Venture until the debt is actually converted to equity. If all stock option grant and warrant and contingent shares are issued, approximately 1.8832.682 billion of our currently authorized 36 billion shares of common stock will be issued and outstanding. For purposes of estimating the number of shares issuable upon the exercise/conversion of all stock options, warrants and contingent shares, we assumed the number of shares and average share prices detailed above.
These stock option grant, warrant and contingent shares could result in further dilution to common stock holders and may affect the market price of the common stock.
Significant shares of common stock are held by our principal shareholders, other Company insiders and other large shareholders. As affiliates as defined under Rule 144 of the Securities Act or Rule 144 of the Company, our principal shareholders, other Company insiders and other large shareholders may only sell their shares of common stock in the public market pursuant to an effective registration statement or in compliance with Rule 144.
Some of the present shareholders have acquired shares at prices as low as $0.007 per share, whereas other shareholders have purchased their shares at prices ranging from $0.007$0.0036 to $0.78 per share.
These stock option grant, warrant and contingent shares could result in further dilution to common stock holders and may affect the market price of the common stock.
Some of our convertible debentures may require adjustment in the conversion price.
Our 6% Senior Secured Convertible Notes Payable, our 7% Convertible Notes Payable and our 6% Convertible Secured Convertible Note and Secured Credit Facility dated June 25, 2014 with Logic WorksNotes may require an adjustment in the current conversion price of $0.0036 per share if we issue common stock, warrants or equity below the price that is reflected in the convertible notes payable. Any adjustment in theThe conversion price also could affectof the convertible notes will have an impact on the market price of theour common stock. Specifically, if under the terms of the convertible notes the conversion price goes down, then the market price, and ultimately the trading price, of our common stock will go down. If under the terms of the convertible notes the conversion price goes up, then the market price, and ultimately the trading price, of our common stock will likely go up. In other words, as the conversion price goes down, so does the market price of our stock. As the conversion price goes up, so presumably does the market price of our stock. The more the conversion price goes down, the more shares are issued upon conversion of the debt which ultimately means the more stock that might flood into the market, potentially causing a further depression of our stock.
We do not anticipate paying any cash dividends on our capital stock in the foreseeable future.
We have never declared or paid cash dividends on our capital stock. We currently intend to retain all of our future earnings, if any, to finance the growth and development of our business, and we do not anticipate paying any cash dividends on our capital stock in the foreseeable future. In addition, the terms of any future debt agreements may preclude us from paying dividends. As a result, capital appreciation, if any, of our common stock will be your sole source of gain for the foreseeable future.
Anti-takeover provisions may limit the ability of another party to acquire our company, which could cause our stock price to decline.
Our certificate of incorporation, as amended, our bylaws and Delaware law contain provisions that could discourage, delay or prevent a third party from acquiring our company, even if doing so may be beneficial to our stockholders. In addition, these provisions could limit the price investors would be willing to pay in the future for shares of our common stock.
We may issue preferred stock that could have rights that are preferential to the rights of common stock that could discourage potentially beneficially transactions to our common shareholders.
An issuance of additional shares of preferred stock could result in a class of outstanding securities that would have preferences with respect to voting rights and dividends and in liquidation over our common stock and could, upon conversion or otherwise, have all of the rights of our common stock. Our Board of Directors' authority to issue preferred stock could discourage potential takeover attempts or could delay or prevent a change in control through merger, tender offer, proxy contest or otherwise by making these attempts more difficult or costly to achieve. The issuance of preferred stock could impair the voting, dividend and liquidation rights of common stockholders without their approval.
If the company were to dissolve or wind-up, holders of our common stock may not receive a liquidation preference.
If we were totoo wind-up or dissolve the Company and liquidate and distribute our assets, our shareholders would share ratably in our assets only after we satisfy any amounts we owe to our creditors. If our liquidation or dissolution were attributable to our inability to profitably operate our business, then it is likely that we would have material liabilities at the time of liquidation or dissolution. Accordingly, we cannot give you any assurance that sufficient assets will remain available after the payment of our creditors to enable you to receive any liquidation distribution with respect to any shares you may hold.
ITEM 1B. UNRESOLVED STAFF COMMENTS
Not applicable.
ITEM 2. PROPERTIES
Operating Leases
Current Operating Leases
Upon our acquisition of Rocky Mountain Hydroponics, LLC and Evergreen Garden Center, LLC, we assumed the lease for the RMH/EGC retail hydroponics store located in Portland, Maine. The lease commencement date was May 1, 2013 with an expiration date of April 30, 2016. The monthly rent for year one of the lease was $4,917, with monthly rent of $5,065 in year two, and monthly rent of $5,217 in year three of the lease. We have an option to extend the lease for two three year terms as long it is not in default under the lease.
On October 21, 2013, we entered into a lease agreement for retail space for its hydroponics store in Avon (Vail), Colorado. The lease expires on September 30, 2018. Monthly rent for year one of the lease is $2,606$2,792 and increasesincreased 3.5% per year thereafter through the end of the lease. We terminated this lease agreement as of August 31, 2017.
On December 7, 2016, we entered into entered into a Consent to Judgement and Settlement Agreement related to our retail hydroponics store located in Portland, Maine. This Agreement provides for a monthly lease payment of $5,373 through May 1, 2020. We also agreed to a repayment schedule for past due rent and owe $45,175 as of December 31, 2017. We are past due on the repayment schedule by $45,175 as of December 31, 2017. We do not have an option to extend the lease.lease after May 1, 2020.
On June 18, 2014,May 31, 2017, we rented space at 500 Union Street, Suite 810, Seattle,5400 Carillon Point, Kirkland, Washington 98033 for its$623 per month for our corporate office. We rentoffice and use of space in the space on a monthRegus network, including California. Our agreement expires May 31, 2018 and is expected to month basisbe renewed for $1,700 per month.another year.
Terminated Operating Leases
In May 2011, weOn October 1, 2017, GrowLife Hydroponics, Inc. entered into a lease for our Phototron business unit to rent a warehouse facility in Gardena, California.Calgary, Canada. The terms of themonthly lease provide for monthly rental expense of $4,065 with annual rent increases through the expiration of the lease on May 31, 2014. During the last twelve months of the lease the monthly rent was $4,313. We terminated this lease as of May 31, 2014.
Upon our acquisition of Rocky Mountain Hydroponics, LLC and Evergreen Garden Center, we assumed the lease for the RMH/EGC retail hydroponics store located in Plaistow, New Hampshire.is approximately $1,997. The lease commencement date was May 1, 2013 with an expiration date of January 31, 2016. The monthly rent throughout the term of the lease is $2,105. We vacated this store and to terminated this lease during 2015.expires September 30, 2022.
On June 5, 2013, weDecember 19, 2017, GrowLife Innovations, Inc. entered into a lease to rent office space in Woodland Hills, California Grand Prairie, Texas dated October 9, 2017, for our corporate headquarters. the manufacturing and distribution of its flooring products. The landlord was 20259 Ventura Blvd LP, which was a previous affiliate of a stockholder of our company.monthly lease is approximately $15,000. The term was for ninety dayslease expires December 15, 2018 and can be renewed, or terminated, by either party with thirty days written notice. The monthly rent was $6,758. We terminated this lease as of June 30, 2014.
On May 30, 2013, we entered into a lease to rent retail space in Woodland Hills, California for its Urban Garden Supply (Soja, Inc.) hydroponics store. The term was for ninety days and can be renewed, or terminated, by either party with ninety days written notice. The monthly rent was $3,257. We terminated this lease as of June 1, 2015.
On August 26, 2013, we entered into a lease agreement for warehouse and retail space for its Greners (Business Bloom, Inc.) business unit in Santa Rosa, California. The lease commencement date was September 1, 2013 with an expiration date of August 31, 2015. The monthly rent is $3,000. We terminated this lease as of November 25, 2014.
On September 23, 2013, we entered into an Assignment and Assumption and Amendment of Lease Agreement for our retail hydroponics store in Peabody, Massachusetts. The original lease between the landlord and Evergreen Garden Center, LLC was assigned from Evergreen Garden Center, LLC to GrowLife Hydroponics, Inc. In addition, the term of the lease was extended from the original expiration date of October 31, 2013 to October 31, 2014. The monthly rent remained at $4,500 through October 31, 2014. Our lease expired on October 31, 2014.
On January 23, 2014, we entered into a lease agreement for retail space for its hydroponics store in Boulder, Colorado. The lease commenced on February 1, 2014 and expires on May 31, 2017. Monthly rent for year one of the lease was $4,051, with monthly rent of $4,173 in year two, $4,298 in year three, and $4,427 for month 37 through 39. We had an option to extend the lease for one three year terms as long it is not in default under the lease. We vacated the retail space as of November 30, 2015. The landlord has filed a collection claim for $179,920 against GrowLife Hydroponics. We expect to contest this claim.
We are in default on our Portland, Maine, Boulder, Colorado and Plaistow, New Hampshire store leases for non-payment of the lease payments and are negotiating with the landlords.
ITEM 3. LEGAL PROCEEDINGSrenewed.
We are involved in the disputes and legal proceedings described below. In addition, as a public company, we are also potentially susceptible to litigation, such as claims asserting violations of securities laws. Any such claims, with or without merit, if not resolved, could be time-consuming and result in costly litigation.
Class Actions Alleging Violations of Federal Securities Laws
Beginning on April 18, 2014, three class action lawsuits alleging violations of federal securities laws were filed against us in United States District Court, Central District of California (the “Court”). At a hearing held on July 21, 2014, the three class action lawsuits were consolidated into one case with Lawrence Rosen as the lead plaintiff (the “Consolidated Class Action,” styled Romero et al. vs. GrowLife et al.). On May 15, 2014 and August 4, 2014, respectively two shareholder derivative lawsuits were filed against us with the Court (the “Derivative Actions”). On October 20, 2014, AmTrust North America, our insurer, filed a lawsuit contesting insurance coverage on the above legal proceedings. On January 20, 2015, the Court ordered all of the above actions stayed pending completion of mediation of the dispute.
The parties then worked diligently
ITEM 3. LEGAL PROCEEDINGS
From time to finalize settlement documentation on the above actions. On April 27, 2015, the Court preliminarily approved the proposed settlement of the Consolidated Class Action.
On June 1, 2015, the Court preliminarily approved the proposed settlement of the Derivative Actions pursuanttime, we may become subject to a proposed stipulated settlement agreement.
On August 3, 2015, the Court entered a Final Order and Judgment resolving the Consolidated Class Action litigation in its entirety. The Consolidated Class Action was thereby dismissed in its entirety with prejudice and without costs.
On August 10, 2015, pursuant to a settlement by and between the Company and AmTrust North America, AmTrust’s lawsuit contesting insurance coverage of the Consolidated Class Action and Derivative Actions was dismissed in its entirety with prejudice pursuant to a Stipulation for Dismissal of Entire Action with Prejudice executed by and between AmTrust and the Company.
On August 17, 2015, the Court entered a Final Order and Judgment resolving the Derivative Actions in their entirety. The Derivative Actions were thereby dismissed in their entirety with prejudice.
As a result of the foregoing, all litigation discussed herein is resolved in full at this time.
We issued $2 million in common stock or 115,141,048 shares of our common stock on April 6, 2016 pursuantvarious legal proceedings that are incidental to the settlementordinary conduct of its business. Although we cannot accurately predict the Consolidated Class Actionamount of any liability that may ultimately arise with respect to any of these matters, it makes provision for potential liabilities when it deems them probable and Derivative Action lawsuits alleging violations of federal securities laws that were filed against the Company in United States District Court, Central District of California. We accrued $2,000,000 as lossreasonably estimable. These provisions are based on Class Action lawsuitscurrent information and contingent liabilities during the year ending December 31, 2015.may be adjusted from time to time according to developments.
Sales and Payroll Tax Liabilities
As of December 31, 2015, we owe approximately $102,000 in sales tax and $20,000 in payroll taxes. We are currently negotiating or operating under payment plans on these liabilities.
Other Legal Proceedings
We arethan those certain legal proceedings as reported in defaultour annual report on our Portland, Maine, Boulder, Colorado and Plaistow, New Hampshire store leases for non-payment of the lease payments and are negotiatingForm 10-K filed with the landlords.SEC on March 28, 2018, we know of no material, existing or pending legal proceedings against our Company, nor are we involved as a plaintiff in any material proceeding or pending litigation. There are no proceedings in which any director, officer or any affiliates, or any registered or beneficial shareholder, is an adverse party or has a material interest adverse to our interest.
ITEM 4. MINE SAFETY DISCLOSURES
Not applicable.
PART II
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
General
The following description of our capital stock and provisions of our articles of incorporation and bylaws are summaries and are qualified by reference to our articles of incorporation and the bylaws. We have filed copies of these documents with the SEC as exhibits to our Form 10-K.
Authorized Capital Stock
We have authorized 6,010,000,000 shares of capital stock, of which 6,000,000,000 are shares of voting common stock, of 3,000,000,000 shares at $0.0001 par value $0.0001 per share, and 10,000,000 are shares of non-voting preferred stock, with a par value of $0.0001 as authorized by the shareholders. per share.
In addition,Certificate of Elimination for Series B and C Preferred Stock
On October 24, 2017, the Company filed a Certificate of Elimination with the Secretary of State of the State of Delaware to eliminate the Series B Convertible Preferred Stock and Series C Preferred Stock of the Company. None of the authorized shares of either the Series B or Series C Preferred Stock were outstanding.
The Certificate of Elimination, effective upon filing, had the effect of eliminating from the Company's Certificate of Incorporation, as amended, all matters set forth in the Certificate of Designations of the Series B Convertible Preferred Stock and Series C Preferred Stock with respect to each respective series, which were both previously filed by the Company with the Secretary of State on October 21, 2015 we issued22, 2015. Accordingly, the 150,000 shares of Series B Preferred Stock at a stated value equal to $10.00 per share and convertible into our common stock. On October 21, 2015, we also issued 51 shares of Series C Preferred Stock at $0.0001 par value per share that have certain voting rightspreviously reserved for issuance under their respective Certificates of Designation resumed their status as authorized but are not convertible into our commonunissued shares of undesignated preferred stock of the Company upon filing of the Certificate of Elimination.
Capital Stock Issued and Outstanding
As of December 31, 2015,2017, we have issued and outstanding securities on a fully diluted basis:basis, consisting of:
• 891,116,496●
2,367,634,022 shares of common stock;
• ●
Stock option grants for the purchase of 29,020,00056,000,000 shares of common stock at average exercise price of $0.028;$0.007;
• ●
Warrants to purchase an aggregate of 565,000,000595,000,000 shares of common stock with expiration dates between November 2018 (subject to extension) and July 2019October 2023 at an exercise price of $0.032$0.031 per share;
• 243,631,571●
198,216,194 shares of common stock to be issued for the conversion of Convertible Notes Payables with expiration dates between September 2015 and June 2016 at a conversion price of $0.007$0.0026 per share; and
• 6,000,000 shares●
An unknown number of common stock that mayshares to be issued to a former executive related to a severance agreement;under the Chicago Venture Partners, L.P. financing agreements.
• 15,000,000 shares of common stock recorded as contingently redeemable common stock; and
• We issued $2 million in common stock or 115,141,048 shares of our common stock on April 6, 2016 pursuant to the settlement of the Consolidated Class Action and Derivative Action lawsuits alleging violations of federal securities laws that were filed against us in United States District Court, Central District of California.
Voting Common Stock
Holders of our common stock are entitled to one vote for each share held on all matters submitted to a vote of stockholders and do not have cumulative voting rights. An election of directors by our stockholders shall be determined by a plurality of the votes cast by the stockholders entitled to vote on the election. On all other matters, the affirmative vote of the holders of a majority of the stock present in person or represented by proxy and entitled to vote is required for approval, unless otherwise provided in our articles of incorporation, bylaws or applicable law. Holders of common stock are entitled to receive proportionately any dividends as may be declared by our board of directors, subject to any preferential dividend rights of outstanding preferred stock.
In the event of our liquidation or dissolution, the holders of common stock are entitled to receive proportionately all assets available for distribution to stockholders after the payment of all debts and other liabilities and subject to the prior rights of any outstanding preferred stock. Holders of common stock have no preemptive, subscription, redemption or conversion rights. The rights, preferences and privileges of holders of common stock are subject to and may be adversely affected by the rights of the holders of shares of any series of preferred stock that we may designate and issue in the future.
Non-Voting Preferred Stock
Under the terms of our articles of incorporation, our board of directors is authorized to issue shares of non-voting preferred stock in one or more series without stockholder approval. Our board of directors has the discretion to determine the rights, preferences, privileges and restrictions, dividend rights, conversion rights, redemption privileges and liquidation preferences, of each series of non-voting preferred stock.
The purpose of authorizing our board of directors to issue non-voting preferred stock and determine itsour rights and preferences is to eliminate delays associated with a stockholder vote on specific issuances. The issuance of non-voting preferred stock, while providing flexibility in connection with possible acquisitions, future financings and other corporate purposes, could have the effect of making it more difficult for a third party to acquire or could discourage a third party from seeking to acquire, a majority of our outstanding voting stock. Other than the Series B and C Preferred Stock discussed below, there are no shares of non-voting preferred stock presently outstanding and we have no present plans to issue any shares of preferred stock.
Series B Preferred Stock Designation
In connection with the Amended and Restated Securities Purchase Agreement, the Board of Directors, on October 21, 2015, approved the authorization of a Series B Preferred Stock as provided in our Certificate of Incorporation, as amended.
The Series B Preferred Stock has authorized 150,000 shares with a stated value equal to $10.00 per share. Dividends payable to other classes of stock are restricted until repayment of the aggregate value of Series B Preferred Stock. Upon our liquidation or dissolution, Series B Preferred Stock has no priority or preference with respect to distributions of any assets by us. The Series B Preferred Stock is convertible into common stock by dividing the stated value of the shares being converted by 100% of the average of the five lowest closing bid prices for the common stock during the ten consecutive trading days immediately preceding the conversion date as quoted by Bloomberg, LP.
TCA was issued 150,000 shares of Series B Preferred Stock. However, in no event will Purchaser be entitled to hold in excess of 4.99% of the outstanding shares of common stock of the Company.
Series C Preferred Stock Designation
In connection with the Amended and Restated Securities Purchase Agreement, the Board of Directors, on October 21, 2015, approved the authorization of a Series C Preferred Stock as provided in our Certificate of Incorporation, as amended, and the issuance of 51 shares of Series C Preferred Stock. These shares only have voting rights in the event of a default by us under the Amended and Restated Transaction Documents. The Series C Preferred Stock is cancelled with the repayment of the TCA debt.
The Series C Preferred Stock Designation authorizes 51 shares of Series C Preferred Stock. Series C Preferred Stock is not entitled to dividend or liquidation rights and is not convertible into our common stock.
In the event of a default under the Amended and Restated Transaction Documents, each share of Series C Preferred Stock shall have voting votes equal to 0.019607 multiplied by the total issued and outstanding common stock and preferred stock eligible to vote divided by .49 minus the numerator. For example, if the total issued and outstanding common stock eligible to vote is 5,000,000, the voting rights of one share of Series C Preferred Stock shall be equal to 102,036 (e.g. ((0.019607 x 5,000,000/0.49) – (0.019607 x 5,000,000) = 102,036). In the event of a default under the Amended and Restated TCA Transaction Documents, TCA can exercise voting control over our common stock.
Warrants to Purchase Common Stock
As of December 31, 2015,2017, we had warrants to purchase an aggregate of 565,000,000595,000,000 shares of common stock with expiration dates between November 2018 (subject to extension) and July 2019October 2023 at an average exercise price of $0.032$0.031 per share are outstanding.share.
Options to Purchase Common Stock
In fiscal year 2011, we authorized aOn October 23, 2017, our shareholders voted to approve the 2017 Stock Incentive Plan whereby a maximum of 18,870,184 shares of the Company’s common stock could be granted in the form of Non-Qualified Stock Options, Incentive Stock Options, Stock Appreciation Rights, Restricted Stock, Restricted Stock Units, and Other Stock-Based Awards. On April 18, 2013, the Company’s Board of Directors votedPlan., increasing to increase to 35,000,000100,000,000 the maximum allowable shares of the Company’s common stock allocated to the 20112017 Stock Incentive Plan. After the exercise of stock option grants, weWe have 27,522,62644,000,000 shares available for issuance. We have outstanding unexercised stock option grants totaling 29,020,00055,000,000 shares at an average exercise price of $0.028$0.007 per share as of December 31, 2015. All grants are considered non-qualified until2017. We filed a registration statement on Form S-8 to register 100,000,000 shares of Company’s common stock related to the increase is approved by the shareholders.2017 Stock Incentive Plan.
Dividend Policy
We have not previously paid any cash dividends on our common stock and do not anticipate or contemplate paying dividends on our common stock in the foreseeable future. We currently intend to use all of our available funds to develop our business. We can give no assurances that we will ever have excess funds available to pay dividends.
Change in Control Provisions
Our articles of incorporation and by-laws provide for a maximum of nine directors, and the size of the Board cannot be increased by more than three directors in any calendar year. There is no provision for classification or staggered terms for the members of the Board of Directors.
Our articles of incorporation also provide that except to the extent the provisions of Delaware General Corporation Law require a greater voting requirement, any action, including the amendment of the Company’s articles or bylaws, the approval of a plan of merger or share exchange, the sale, lease, exchange or other disposition of all or substantially all of the Company’s property other than in the usual and regular course of business, shall be authorized if approved by a simple majority of stockholders, and if a separate voting group is required or entitled to vote thereon, by a simple majority of all the votes entitled to be cast by that voting group.
Our bylaws provide that only the Chief Executive Officer or a majority of the Board of Directors may call a special meeting. The bylaws do not permit the stockholders of the Company to call a special meeting of the stockholders for any purpose.
Articles of Incorporation and Bylaws Provisions
Our articles of incorporation, as amended, and bylaws contain provisions that could have the effect of discouraging potential acquisition proposals or tender offers or delaying or preventing a change in control, including changes a stockholder might consider favorable. In particular, our articles of incorporation and bylaws among other things:
• ●
permit our board of directors to alter our bylaws without stockholder approval; and
• ●
provide that vacancies on our board of directors may be filled by a majority of directors in office, although less than a quorum.
Such provisions may have the effect of discouraging a third party from acquiring us, even if doing so would be beneficial to our stockholders. These provisions are intended to enhance the likelihood of continuity and stability in the composition of our board of directors and in the policies formulated by them, and to discourage some types of transactions that may involve an actual or threatened change in control of our company. These provisions are designed to reduce our vulnerability to an unsolicited acquisition proposal and to discourage some tactics that may be used in proxy fights. We believe that the benefits of increased protection of our potential ability to negotiate with the proponent of an unfriendly or unsolicited proposal to acquire or restructure our company outweigh the disadvantages of discouraging such proposals because, among other things, negotiation of such proposals could result in an improvement of their terms.
However, these provisions could have the effect of discouraging others from making tender offers for our shares that could result from actual or rumored takeover attempts. These provisions also may have the effect of preventing changes in our management.
Market Price of and Dividends on Common Equity and Related Stockholder Matters
Our common stock traded on the grey market under the symbol “PHOT” through February 17, 2016. While the company was without a market maker, its stock does trade directly between buyers and sellers on the grey sheets. On February 18, 2016, our common stock resumed unsolicited quotation on the OTC Bulletin Board after receiving clearance from the FINRA on our Form 15c2-11. On April 10, 2014, as a result of the SEC suspension in the trading of our securities, we lost all market makers and traded on the grey market of OTCBB. On October 17, 2017, we were informed by Alpine that they had demonstrated compliance with FINRA Rule 6432 and Rule 15c2-11 under the Securities Exchange Act of 1934. We filed an amended application with the OTC Markets to list the Company’s common stock on the OTCQB and begin to trade on this market as of March 20, 2018.
The quotations reflect inter-dealer prices, without retail markup, markdown or commission, and may not represent actual transactions. Consequently, the information provided below was not be indicative of our common stock price under different conditions.
On February 18, 2016, our common stock resumed unsolicited quotation on the OTC Bulletin Board after receiving clearance from the Financial Industry Regulatory Authority (“FINRA”) on our Form 15c2-11. We are currently taking the appropriate steps to uplist to the OTCQB Exchange and resume priced quotations with market makers as soon as it is able.Period Ended | | |
| Year Ending December 31, 2017 | | |
| December 31, 2017 | $0.037 | $0.001 |
| September 30, 2017 | $0.012 | $0.002 |
| June 30, 2017 | $0.007 | $0.001 |
| March 31, 2017 | $0.020 | $0.005 |
| Period Ended | | High | | | Low | |
| Year Ending December 31, 2015 | | | | | | |
| December 31, 2015 | | $ | 0.02 | | | $ | 0.003 | |
| September 30, 2015 | | $ | 0.18 | | | $ | 0.01 | |
| June 30, 2015 | | $ | 0.06 | | | $ | 0.01 | |
| March 31, 2015 | | $ | 0.35 | | | $ | 0.02 | |
| | | | | | | | | |
| Year Ending December 31, 2014 | | | | | | | | |
| December 31, 2014 | | $ | 0.36 | | | $ | 0.01 | |
| September 30, 2014 | | $ | 0.80 | | | $ | 0.01 | |
| June 30, 2014 | | $ | 0.64 | | | $ | 0.06 | |
| March 31, 2014 | | $ | 0.78 | | | $ | 0.16 | |
| Year Ending December 31, 2016 | | |
| December 31, 2016 | $0.021 | $0.007 |
| September 30, 2016 | $0.020 | $0.006 |
| June 30, 2016 | $0.027 | $0.015 |
| March 31, 2016 | $0.058 | $0.003 |
As of April 14, 2016,March 24, 2018, the closing price of the company's common stock was $0.020$0.016 per share. As of April 14, 2016,March 24, 2018, there were 1,099,143,9812,913,559,657 shares of common stock issued and outstanding. We have approximately 116120 stockholders of record. This number does not include up to approximately 80,000over 92,000 beneficial owners whose shares are held in the names of various security brokers, dealers, and registered clearing agencies.
Transfer Agent
The transfer agent for our common stock is Issuer Direct Corporation located 500 Perimeter Park, Suite D, Morrisville NC 27560, and their telephone number is (919) 481-4000.
Dividends
We have not previously paid any cash dividends on our common stock and do not anticipate or contemplate paying dividends on our common stock in the foreseeable future. We currently intend to use all of our available funds to develop our business. We can give no assurances that we will ever have excess funds available to pay dividends.
Recent Sales of Unregistered Securities
Unless otherwise indicated, all of the following sales or issuances of Company securities were conducted under the exemption from registration as provided under Section 4(a)(2) of the Securities Act of 1933. All of the shares issued were issued in transactions not involving a public offering, are considered to be restricted stock as defined in Rule 144 promulgated under the Securities Act of 1933 and stock certificates issued with respect thereto bear legends to that effect.
We have compensated consultants and service providers with restricted common stock during the development of our business and when our capital resources were not adequate to provide payment in cash.
During the three months ended December 31, 2015,2017, we had the following sales of unregistered sales of equity securities.
OnDuring the three months ended December 18, 2015,31, 2017, we issued 2,000,0005,000,000 shares each to two if our former independent Board Directors.three directors. The shares were valued at the fair market price of $0.005 per share or $25,000.
During the three months ended December 31, 2017, we issued 29,889,623 shares to suppliers for services provided. We valued the 4,000,000 shares at $0.01 per share or $40,000.$298,655.
During the three months ended December 31, 2017, Chicago Venture converted principal and accrued interest of $535,000 into 171,381,904 shares of Series B Preferred Stock.our common stock at a per share conversion price of $0.0031.
TCA was issued 51 shares of Series C Preferred Stock.
EQUITY COMPENSATION PLAN INFORMATION
The following table provides information as of December 31, 20152017 related to the equity compensation plan in effect at that time.
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| | | | | under equity compensation |
| | | (a) | | | (b) | | | (c) | | | | plan (excluding securities |
| Plan Category | | Number of securities to be issued upon | | | Weighted-average exercise price of | | | Number of securities remaining available | | options, warrants and rights | | |
| Equity compensation plan | | | | | | | | | | |
| approved by shareholders | | | - | | | | - | | | | - | | 56,000,000 | $0.007 | 44,000,000 |
| Equity compensation plans | | | | | | | | | | | | | |
| not approved by shareholders | | | 29,020,000 | | | | 0.028 | | | | - | | |
| Total | | | 29,020,000 | | | | 0.028 | | | | - | | 56,000,000 | $0.007 | 44,000,000 |
ITEM 6. SELECTED FINANCIAL DATA
In the following table, we provide you with our selected consolidated historical financial and other data. We have prepared the consolidated selected financial information using our consolidated financial statements for the years ended December 31, 20152017 and 2014.2016. When you read this selected consolidated historical financial and other data, it is important that you read along with it the historical financial statements and related notes in our consolidated financial statements included in this report, as well as Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.
| | | Years Ended December 31, | | |
| | | 2015 | | | 2014 | | | 2013 | | | 2012 | | | | | | |
| | | (Audited) | | | (Audited) | | | (Audited) | | | (Audited) | | |
| STATEMENT OF OPERATIONS DATA: | | | | | | | | | | | | | |
| Net revenue | | $ | 3,500 | | | $ | 8,538 | | | $ | 4,859 | | | $ | 1,451 | | $2,452 | $1,231 | $3,500 | $8,538 | $4,859 |
| Cost of goods sold | | | 2,981 | | | | 7,173 | | | | 4,006 | | | | 1,039 | | 2,181 | 1,276 | 2,981 | 7,173 | 4,006 |
| Gross profit | | | 519 | | | | 1,365 | | | | 853 | | | | 412 | | 271 | (45) | 519 | 1,365 | 853 |
| General and administrative expenses | | | 2,684 | | | | 7,851 | | | | 11,796 | | | | 1,683 | | 2,320 | 2,764 | 2,684 | 7,851 | 11,796 |
| Operating (loss) | | | (2,165 | ) | | | (6,486 | ) | | | (10,943 | ) | | | (1,271 | ) | (2,049) | (2,809) | (2,165) | (6,486) | (10,943) |
| Other expense | | | (3,524 | ) | | | (80,140 | ) | | | (10,437 | ) | | | (915 | ) | (3,272) | (4,886) | (3,524) | (80,140) | (10,437) |
| Net (loss) | | $ | (5,689 | ) | | $ | (86,626 | ) | | $ | (21,380 | ) | | $ | (2,186 | ) | $(5,321) | $(7,695) | $(5,689) | $(86,626) | $(21,380) |
| Net (loss) per share | | $ | (0.01 | ) | | $ | (0.10 | ) | | $ | (0.04 | ) | | $ | (0.01 | ) | $(0.00) | $(0.01) | $(0.10) | $(0.04) |
| Weighted average number of shares | | | 884,348,627 | | | | 834,503,868 | | | | 593,034,693 | | | | 245,420,970 | | 2,044,521,389 | 1,197,565,907 | 884,348,627 | 834,503,868 | 593,034,693 |
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Our goal of becoming the nation’s largest cultivation facility service provider for the production of organics, herbs and greens and plant-based medicines has not changed.continues to guide our decisions. Our mission is to best serve more cultivators in the design, build-out, expansion and maintenance of their facilities with products of high quality, exceptional value and competitive price. Through knowledgeable representatives, regional centers and its e-commerce website, GrowLife provides essential and hard-to-find goods including growing media, (i.e., farming soil), industry-leading hydroponics equipment, organic plant nutrients, and thousands more products to specialty grow operations across the United States.
We primarily sell through our wholly owned subsidiary, GrowLife Hydroponics, Inc. In addition to the promotion and sales of GrowLife owned brands, GrowLife companies distribute and sell over 3,00015,000 products through its e-commerce distribution channel, Greners.com,GrowLifeEco.com, and through our regional retail storefronts. GrowLife and its business units are organized and directed to operate strictly in accordance with all applicable state and federal laws.
We are focusing on future success. In that regard, we believe that the hydroponics supply industry will experience significant growth and, as a result, operating in this industry has become highly competitive, cash intensive and customer centric. However, we have plans to address these challenges.
First, the opportunity to sell both infrastructure equipment and recurring supplies to the indoor cultivation industry is constantly increasing as demand for indoor cultivation grows across the United States. We believe the demand will continue to grow and more and more states and municipalities enact rules and regulations allowing for more indoor cultivation activities. We plan to continue with our multi-faceted distribution strategy, which we believe serves customers in the following manner: Direct sales to large commercial customers, retail in some markets for local convenience, and e-commerce via GrowLifeEco.com to fulfill orders across the nation from customers of all sizes.
Second, serving what we see as an increasing number of cultivators has become cash intensive because of the need for large inventory levels at retail, extensive e-commerce online marketing, and supporting payment terms to large accounts. We need to arrange for financing support to be competitive. We have learned that retail success is about having the right products on hand, knowledgeable and experienced talent, accessible advisory services and superior turn-over ratios. Currently, GrowLifeEco.com offers over 15,000 products, far beyond the 3,000 found in Greners.com, its former online store.
Third, our customers come in different stages from caregiver cultivators to 80,000 square foot commercial operations. With the use of e-commerce, we endeavor to reach as many customers as possible in areas where we do not have stores or a direct sales presence. Earlier this year GrowLife built GrowLifeEco.com, our new e-commerce website, that is optimized for mobile devices. Our next step is to put web marketing in place to increase awareness, traffic and conversions.
Also, we recognize demand is increasing from small, aspiring cultivation consumers across the country seeking to learn and use a complete indoor growing solution. To address this demand, we packaged GrowLife Cube, a development-stage annual subscription service, for consumers to get hands-on experience with indoor growing. Although many still buy the components separately, we are working on developing videos and supplier tools to attract them to this one-stop shop subscription program. Given the election results in California the GrowLife Cube subscription service will evolve with greater value and specialty services to be announced in the fourth quarter.
Resumed Trading of our Common Stock
On February 18, 2016, our common stock resumed unsolicited quotation on the OTC Bulletin Board after receiving clearance from the Financial Industry Regulatory Authority (“FINRA”) on our Form 15c2-11. The Company is currently taking On October 17, 2017, we were informed by Alpine Securities Corporation (“Alpine”) that Alpine has demonstrated compliance with the appropriate stepsFinancial Industry Regulatory Authority (“FINRA”) Rule 6432 and Rule 15c2-11 under the Securities Exchange Act of 1934. We filed an amended application with the OTC Markets to uplist tolist the Company’s common stock on the OTCQB Exchange and resume priced quotations withbegin to trade on this market makers as soon as it is able.
Overcoming Company Challenges
We grew through a series of acquisitions in 2012 and 2013 leading to seven retail stores. In 2013 we expected to grow through the following three key initiatives (i) expanding to 30 retail stores at an expected average annual revenue of $1.25 million with 12 stores in 2014 resulting in sales of $15 million; (ii) educating the investment community of the demand for indoor growing equipment from the cannabis industry; and (iii) engaging a joint venture investor willing to provide financial resources for acquisitions and strategic investments. These three initiatives were expected to help position us as the leading supplier and participating investor to the emerging cannabis industry and were therefore announced and allocated resources with those goals in mind.
The retail expansion plan, starting in July 2013, was expected to maintain the pre-acquisition revenue pace of GrowLife Hydroponics’ earlier purchase of Rocky Mountain Hydroponics, LLC, a Colorado limited liability company (“RMC”), and Evergreen Garden Center, LLC, a Maine limited liability company (“EGC”), and generate sales of $5.5 million in 2013. For several reasons, GrowLife Hydroponics achieved 2013 revenue of $4.8 million. In addition, GrowLife Hydroponics opened two more stores in Plaistow, New Hampshire and Peabody, Massachusetts. This seven store expansion across five states exposed three issues with the retail expansion plan: (i) the cost of inventory, integration and ramp up in offsetting revenue was under-estimated; (ii) the laws, policies and resulting customer purchase process across the five states varied greatly and lowered the expected economies of scale benefit; and (iii) the increasing competitive hydroponic supplier market, stemming from manufacturers selling directly to cultivators, lowered expected operating margins. The lack of financial resources to offset the operating losses from the retail expansion initiative necessitated a change of our plans.
An education initiative was formed where GrowLife engaged Grass Roots Research and Distribution, Inc., a market research and marketing firm, to study our 2013 plan, the emerging growth of the cannabis industry and estimate the possible financial impact to GrowLife and its valuation. Sets of reports were published and supported with GrowLife press releases to educate the new industry and generate greater awareness of GrowLife. While this initiative proved successful in 2013, we ceased to engage Grass Roots in 2014, after we changed our business strategy.
The third investor initiative was formed in November 2013, through the Organic Growth International, LLC (“OGI”), a joint venture, between GrowLife and CANX USA LLC (“CANX”). CANX would provide the financial resources for OGI to facilitate acquisitions and strategic investments. GrowLife issued warrants for 240 million GrowLife shares to CANX and CANX would provide up to $40 million in mutually agreed upon investments, $1 million in a convertible note and a $1.3 million commitment towards the GrowLife Infrastructure Funding & Technology (“GIFT”) program. GrowLife received the $1 million as a convertible note in December 2013, received the $1.3 million commitment but not executed and by January 2014 OGI had Letters of Intent with four investment and acquisition transactions valued at $96 million. Before the deals could close, the SEC put a trading halt on our stock on April 10, 2014, which resulted in the withdrawal of all transactions. The business disruption from the trading halt and the resulting class action and derivative lawsuits ceased further investments with the OGI joint venture.
Starting in June 2014, we focused on cost reductions with minimal revenue loss as our focus. The primary reduction in operating costs came from (i) streamlining non-profitable personnel, lowering expenses by replacing the Woodland Hills, California headquarters with that of Seattle, Washington that serves more people at a lower cost; (ii) closing the unprofitable Peabody, Massachusetts, Woodland Hills, California and Plaistow, New Hampshire stores and Boulder, Colorado; (iii) relocating the Greners.com e-commerce operation from Santa Rosa, California to the Vail, Colorado store until a new Denver facility is set up; (iv) reducing full-time employees from 46 to 8 as of December 31, 2015; and (v) closing the Phototron subsidiary in California. While transition costs were paid out, the repurposing of company resources is expected to reduce our operating expenses and allows for greater market reach and efficiencies.
However, the challenges of operating a public company under the strains grey market trading and lawsuits, as well as limited access to investment capital kept the company lean. We also chose to convert inventory into cash. This reduced our inventory level from approximately $1.8 million during 2014 to $400,000 as of December 31, 2015 and lowered our gross margins to 14.8% for the year ended December 31, 2015. This conscientious decision was made to help us transition through this period. Also, we reduced our general and administrative expenses from approximately $7.9 million for the year ended December 31, 2014 to $2.7 million for the year ended December 31, 2015.March 20, 2018.
We remain focused on hiring the best people to expand our direct sales personnel. These personnel are knowledgeable in using the most progressive growing technologies that fit our customer’s needs. Whether they are small-scale local cultivation facilities or large-scale regional cultivators, our customer service team recommends smart medium, cost-effective lighting and ventilation, and the right nutrients that are best suited for the crop objective. Our knowledge layer is strategic for the evolution of the indoor growing industry. Unlike an outdoor superstore, GrowLife serves the specialty cultivation business as indoor crops are designed to deliver multiple grow cycles with greater quality and yield not available in outdoor agriculture. Technologies will be available to provide our customers with a way to further tune their ordering process and crop development using their own experience.
RESULTS OF OPERATIONS
The following table presents certain consolidated statement of operations information and presentation of that data as a percentage of change from year-to-year.
(dollars in thousands)
| | |
| | | | | |
| Net revenue | $2,452 | $1,231 | $1,221 | 99.2% |
| Cost of goods sold | 2,181 | 1,276 | 905 | -70.9% |
| Gross profit | 271 | (45) | 316 | 702.2% |
| General and administrative expenses | 2,320 | 2,764 | (444) | 16.1% |
| Operating loss | (2,049) | (2,809) | 760 | 27.1% |
| Other income (expense): | | | | |
| Change in fair value of derivative | 496 | (1,324) | 1,820 | 137.5% |
| Interest expense, net | (1,281) | (817) | (464) | -56.8% |
| Other income (expense), primarily related to TCA funding | 16 | 145 | (129) | -89.0% |
| Loss on debt conversions | (2,503) | (2,890) | 387 | 13.4% |
| Total other (expense) income | (3,272) | (4,886) | 1,614 | 33.0% |
| (Loss) before income taxes | (5,321) | (7,695) | 2,374 | 30.9% |
| Income taxes - current benefit | - | - | - | 0.0% |
| Net (loss) | $(5,321) | $(7,695) | $2,374 | 30.9% |
| | | Years Ended December 31, | |
| | | 2015 | | | 2014 | | | $ Variance | | | % Variance | |
| | | $ | 3,500 | | | $ | 8,538 | | | $ | (5,038 | ) | | | -59.0 | % |
| Cost of goods sold | | | 2,981 | | | | 7,173 | | | | (4,192 | ) | | | 58.4 | % |
| | | | 519 | | | | 1,365 | | | | (846 | ) | | | -62.0 | % |
| General and administrative expenses | | | 2,684 | | | | 7,851 | | | | (5,167 | ) | | | 65.8 | % |
| | | | (2,165 | ) | | | (6,486 | ) | | | 4,321 | | | | 66.6 | % |
| Other income (expense): | | | | | | | | | | | | | | | | |
| Change in fair value of derivative | | | 1,679 | | | | (16,253 | ) | | | 17,932 | | | | 110.3 | % |
| Interest expense, net | | | (1,119 | ) | | | (64,074 | ) | | | 62,955 | | | | 98.3 | % |
| Other expense | | | (2,003 | ) | | | - | | | | (2,003 | ) | | | -100.0 | % |
| Realized gain on sale of investment | | | - | | | | 187 | | | | (187 | ) | | | -100.0 | % |
| Loss on class action lawsuit settlements | | | (2,081 | ) | | | - | | | | (2,081 | ) | | | -100.0 | % |
| Total other income (expense) | | | (3,524 | ) | | | (80,140 | ) | | | 76,616 | | | | 95.6 | % |
| Income (loss) before income taxes | | | (5,689 | ) | | | (86,626 | ) | | | 80,937 | | | | 93.4 | % |
| Income taxes - current benefit | | | - | | | | - | | | | - | | | | 0.0 | % |
| Net income (loss) | | $ | (5,689 | ) | | $ | (86,626 | ) | | $ | 80,937 | | | | 93.4 | % |
YEAR ENDED DECEMBER 31, 20152017 COMPARED TO THE YEAR ENDED DECEMBER 31, 20142016
Revenue
Net revenue for the year ended December 31, 2015 decreased $5,038,0002017 increased $1,221,000 to $3,500,000$2,452,000 as compared to $8,538,000$1,231,000 for the year ended December 31, 2014.2016. The decrease was due to (i) lower revenueincrease resulted from increased sales personnel and channels of distribution and the retail stores acquired by GrowLife Hydroponics’ acquisition of Rocky Mountain Hydroponics and Evergreen Garden Center on June 7, 2013; (ii) closuredevelopment of the unprofitable Peabody, Massachusetts, Woodland Hills, Californiareflective tiles and Plaistow, New Hampshire stores; (iii) relocation of the Greners eCommerce operation from Santa Rosa, California to the Boulder, Colorado store until a new Denver facility is set up; (iv) reducing full-time employees from 46 to 8 as of December 31, 2015; and (v) closing the Phototron subsidiary in California.flooring product line.
Cost of Goods Sold
Cost of sales for the year ended December 31, 2015 decreased $4,192,0002017 increased $905,000 to $2,981,000$2,181,000 as compared to $7,173,000$1,276,000 for the year ended December 31, 2014.2016. The decreaseincrease was due increased sales, offset by lower cost of sales related to (i) lower revenue from the retail stores acquired by GrowLife Hydroponics’ acquisition of Rocky Mountain Hydroponicsfavorable product mix and Evergreen Garden Center on June 7, 2013; (ii) closure of the unprofitable Peabody, Massachusetts, Woodland Hills, California and Plaistow, New Hampshire stores; (iii) relocation of the Greners eCommerce operation from Santa Rosa, California to the Boulder, Colorado store until a new Denver facility is set up; and (iv) closing the Phototron subsidiary in California.increased supplier discounts.
Gross profit was $519,000$271,000 for the year ended December 31, 20152017 as compared to $1,365,000a gross profit loss of ($45,000) for the year ended December 31, 2014.2016. The gross marginprofit percentage was 14.8%11.1% for the year ended December 31, 20152017 as compared to 16.0%(3.7%) for the year ended December 31, 2014.2016. The gross profit percentageincrease was due increased sales, offset by lower cost of sales related to selling our products at a lower price during the year ended December 31, 2015favorable product mix and 2014 to reduce inventory to be shipped from the closed stores to the remaining stores and the direct channel.increased supplier discounts.
General and Administrative Expenses
General and administrative expenses for the year ended December 31, 2015 decreased $5,167,000 to $2,684,0002017 were $2,320,000 as compared to $7,851,000$2,764,000 for the year ended December 31, 2014.2016. The variances were as follows: (i) an increase in insurance of $73,000 (ii) expense of our annual shareholder meeting of $125,000; (iii) an increase in payroll of $131,000; (iv) an increase in public relations of $106,000; and (v) and an increase in other expenses of $111,000; offset by (v) a decrease was due to (i) reducedin legal expense of $455,000; (ii) reduced wages of $1,906,000; (iii) reduced$68,000; and (vi) a decrease in rent of $389,000; (iv) reduced sales and marketing of $210,000; (v) and reduced common stock issued for services expenses of $2,510,000; offset by (vi) increased other general expenses of $303,000.$46,000 As part of the general and administrative expenses for the year ended December 31, 2015,2017, we recorded public relation, expenses of $14,000 and we did not record any investor relation or business development expenses.expenses of $106,000, $0 and $0 respectively.
The decrease related to (i) closure of the unprofitable Peabody, Massachusetts, Woodland Hills, California and Plaistow, New Hampshire stores; (ii) relocation of the Greners eCommerce operation from Santa Rosa, California to the Boulder, Colorado store until a new Denver facility is set up; (iii) reducing full-time employees from 46 to 8 as of December 31, 2015; and (iv) closing the Phototron subsidiary in California.
Non-cash general and administrative expenses for the year ended December 31, 2015 was $531,000, with2017 were $294,000 including (i) depreciation and amortization of $120,000;$2,000; (ii) stock based compensation of $176,000$216,000 related to stock option grants and warrants; and (iii) common stock issued for services of $76,000.
Non-cash general and administrative expenses for the year ended December 31, 2016 were $1,422,000 including (i) depreciation and amortization of $115,000; (ii) stock based compensation of $146,000 related to stock option grants; (iii) common stock issued for services of $211,000;$285,000; and (iii) other(iv) the impairment of $24,000.GrowLife Hydro, Inc. long-lived assets of $876,000.
Non-cash general and administrative expenses for the year ended December 31, 2014 totaled $3,583,000, with (i) depreciation and amortization of $140,000; (ii) stock based compensation of $724,000 related to stock option grants; (iii) increased common stock issued for services expenses of $2,721,000; (iv) change in inventory reserve of $13,000.
Other Income/ Expense
Other expense for the year ended December 31, 20152017 was $3,524,000$3,272,000 as compared to other expense of $80,140,000$4,886,000 for the year ended December 31, 2014.2016. The other expense for the year ended December 31, 20152017 included (i) change in derivative liability of $1,679,000,$496,000 and (ii) other income of $16,000; offset by (iii) interest expense of $1,120,000, other expense of $2,003,000$1,281,000 and (iv) loss on class action lawsuit settlementsdebt conversions of $2,081,000.$2,503,000. The change in derivative liability is the non-cash change in the fair value and relates to our derivative instruments. The non-cash interest related to the amortization of the debt discount associated with our convertible notes and accrued interest expense related to our notes payable. The other expense is primarilyloss on debt conversions related to the TCA funding. We accrued $2,081,000 as loss on class action lawsuits and contingent liabilities asconversion of December 31, 2015.our notes payable at prices below the market price.
OtherThe other expense for the year ended December 31, 20142016 included loss on change – derivative liability warrants of $16,253,000 and(i) interest expense of $64,074,000,$817,000; (ii) loss on debt conversions of $2,890,000; (iii) change in derivative liability of $1,324,000; offset by the realized gain on the sale(iv) and other income of investment of $187,000.$145,000. The loss on change-change in derivative liability is the non-cash change in the fair value and relates to our derivative instruments. The non-cash interest related to the amortization of the debt discount associated with our convertible notes and accrued interest expense related to our notes payable. The loss on debt conversions related to the conversion of our notes payable andat prices below the issuance of a 100,000,000 share warrant to CANX in February 7, 2014 and a 300,000,000 share warrant to CANX on July 10, 2014.market price.
Net (Loss)
Net loss for the year ended December 31, 20152017 was $5,689,000$5,321,000 as compared to a net loss of $86,626,000$7,695,000 for the year ended December 31, 20142016 for the reasons discussed above.
Net loss for the year ended December 31, 20152017 included non-cash expenses of $3,462,000, (i) depreciation and amortization of $2,000; (ii) stock based compensation of $216,000 related to stock option grants and warrants; (iii) common stock issued for services of $76,000. (iv) accrued interest and amortization of debt discount on convertible notes payable of $623,000; (v) write-off of derivative liability to additional paid in capital to of $538,000; and (vi) loss on debt conversions of 2,503,000, offset by (vii) change in derivative liability of $496,000.
Net loss for the year ended December 31, 2016 included non-cash expense of $3,759,000,$6,271,000, including (i) depreciation and amortization of $120,000;$115,000; (ii) stock based compensation of $176,000$146,000 related to stock option grants; (iii) common stock issued for services of $211,000;$285,000; (iv) the impairment of GrowLife Hydro, Inc. long-lived assets of $876,000; (v) accrued interest expenseand amortization of $1,120,000,debt discount on convertible notes payable of $635,000; (v) loss on class action lawsuit settlementsdebt conversions of $2,000,000;$2,890,000; and (vi) preferred shares issued for services of $300,000; (vii) issuance of Series B Convertible Preferred Stock of $1,500,000; and (viii) other of $176,000, offset by (ix) change in derivative liability of $724,000.$1,324,000.
Net loss for the year ended December 31, 2014 included non-cash expenses of $83,899,000, including (i) loss on change – derivative liability of $16,253,000; (ii) depreciation and amortization of $140,000; (iii) stock based compensation of $724,000 related to stock option grants; (iv) common stock issued for services expenses of $2,722,000; (v) change in inventory reserve of $13,000; (vi) interest expense of $64,046,000, offset by the realized gain on the sale of investment of $187,000.
We expect losses to continue as we implement our business plan.
LIQUIDITY AND CAPITAL RESOURCES
We had cash of $60,000$69,000 and a net working capital deficit of approximately $3,357,000 (excluding the$3,396,000 (less derivative liability- warrantsliability of $1,377,000$2,660,000) as of December 31, 2015.2017. We expect losses to continue as we grow our business. Our cash used in operations for the yearyears ended December 31, 20152017 and 20142016 was $1,376,000$2,082,000 and $2,123,000,$1,212,000, respectively.
Shortly after the SEC suspended trading of our securities on April 10, 2014, some of our primary suppliers rescinded our credit terms and required us to pay cash for our product purchases and pay down our outstanding balance with these suppliers.
We will need to obtain additional financing in the future. There can be no assurance that we will be able to secure funding, or that if such funding is available, the terms or conditions would be acceptable to us. If we are unable to obtain additional financing, we may need to restructure our operations, divest all or a portion of our business or file for bankruptcy.
We have financed our operations through the issuance of convertible debentures and the sale of common stock.
TransactionsFunding Agreements with Chicago Venture Partners, L.P.
On February 1, 2017, we closed the transactions described below with Chicago Venture Partners, L.P. (“Chicago Venture”).
Securities Purchase Agreement, Secured Promissory Notes, Membership Interest Pledge Agreement and Security Agreement
On January 9, 2017, the Company executed the following agreements with Chicago Venture: (i) Securities Purchase Agreement; (ii) Secured Promissory Notes; (iii) Membership Interest Pledge Agreement; and (iv) Security Agreement (collectively the “Chicago Venture Agreements”). The Chicago Venture Agreements are attached hereto, collectively, filed as Exhibit 10.1 to our Current Report on Form 8-K filed with the SEC on February 7, 2017, and incorporated herein by reference. The Company entered into the Chicago Venture Agreements with the intent of paying its debt, in full, to TCA Global Credit Master Fund, LP
On July 9, 2015, we closed a Securities Purchase Agreement and related agreements with (“TCA”), which included any TCA Global Credit Master Fund LP, an accredited investor, whereby we agreed to sell and TCA agreed to purchase up to $3,000,000 of senior secured convertible, redeemable debentures, of which $700,000 was purchased on July 9, 2015 and up to $2,300,000 may be purchased in additional closings. The closing of the Transaction occurred on July 9, 2015.affiliates.
On August 6, 2015, we closedThe total amount of funding under the Chicago Venture Agreements is $1,105,000 (the “Debt”). Each Convertible Promissory Note carries an original issue discount of $100,000 and a Securities Purchase Agreement and related agreements with TCA Global Credit Master Fund LP, whereby we agreed to sell and TCA agreed to purchase a $100,000 senior securedtransaction expense amount of $5,000, for total debt of $1,105,000. If not converted sooner, the Debt is due on or before January 9, 2018. The Debt carries an interest rate of ten percent (10%). The Debt is convertible, redeemable debenture and we agreed to issue and sell to TCA, from time to time, and TCA agreed to purchase from us up to $3,000,000 ofat Chicago Venture’s option, into the Company’s common stock pursuantat $0.009 per share subject to a Committed Equity Facility. The closingadjustment as provided for in the Secured Promissory Notes attached hereto and incorporated herein by this reference. As of the Transaction occurred on August 6, 2015.date of this report, Chicago Venture has funded the entire amount of the Debt.
Chicago Venture’s obligation to fund the Debt was secured by Chicago Venture’s 60% interest in Typenex Medical, LLC, an Illinois corporation, as provided for in the Membership Pledge Agreement attached hereto and incorporated herein by this reference.
Payment of All TCA Obligations
On October 27, 2015, we entered into an AmendedJanuary 10, 2017, Chicago Venture, at the Company’s instruction, remitted funds of $1,495,901 to TCA in order to satisfy all debts to TCA. On or around January 11, 2017, the Company was notified by TCA that $13,540 were due to TCA in order for TCA to release its security interest in the Company’s assets. On February 1, 2017, TCA notified the Company that all funds were received and Restated TCA would release its security interest in Company’s assets. TCA has confirmed that it is paid in full and the Company is not aware of any other obligations that the Company has as to TCA. The funds received under the Chicago Venture Agreements and previous Chicago Venture Agreements were used to pay-off TCA.
Securities Purchase Agreement, Secured Promissory Notes and relatedSecurity Agreement dated August 11, 2017
On August 11, 2017, we executed the following agreements with TCA Global Credit Master Fund LP whereby we agreed to sell,Chicago Venture: (i) Securities Purchase Agreement; (ii) Secured Promissory Notes; and TCA agreed to purchase $350,000 of senior secured convertible, redeemable debentures. We previously(iii) Security Agreement (collectively the “Chicago Venture Agreements”). The Company entered into the Chicago Venture Agreements with the intent to acquire working capital to grow the Company’s business.
The total amount of funding under the Chicago Venture Agreements is $1,105,000.00 (the “Debt”). Each Convertible Promissory Note carries an original issue discount of $100,000 and a transaction expense amount of $5,000, for total debt of $1,105,000. We to reserve 200,000,000 of its shares of common stock for issuance upon conversion of the Debt, if that occurs in the future. If not converted sooner, the Debt is due on or before August 11, 2018. The Debt carries an interest rate of ten percent (10%). The Debt is convertible, at Chicago Venture’s option, into our common stock at $0.009 per share subject to adjustment as provided for in the Secured Promissory Notes attached hereto and incorporated herein by this reference.
Securities Purchase Agreement, Secured Promissory Notes and Security Agreement dated asDecember 22, 2017
On December 22, 2017, we executed the following agreements with Chicago Venture: (i) Securities Purchase Agreement; (ii) Secured Promissory Notes; and (iii) Security Agreement (collectively the “Chicago Venture Agreements”). The Company entered into the Chicago Venture Agreements with the intent to acquire working capital to grow the Company’s businesses.
The total amount of April 30, 2015funding under the Chicago Venture Agreements is $1,105,000. Each Convertible Promissory Note carries an original issue discount of $100,000 and effective asa transaction expense amount of July 9, 2015$5,000, for total debt of $1,105,000. We agreed to purchase up to $3,000,000 in Debentures. Asreserve three times the number of October 27, 2015, we sold $1,050,000 in Debentures to TCA and up to $1,950,000 in Debentures remainsshares based on the redemption value with a minimum of 50 million shares of its common stock for sale by us. The closingissuance upon conversion of the transaction occurredDebt, if that occurs in the future. If not converted sooner, the Debt is due on October 27, 2015. In addition, TCA has advanced usor before December 21, 2018. The Debt carries an additional $100,000 for a totalinterest rate of $1,150.000. Also, on October 21, 2015 we issued 150,000 Series B Preferred Stockten percent (10%). The Debt is convertible, at a stated value equal to $10.00Chicago Venture’s option, into the Company’s common stock at $0.015 per share subject to TCA that is convertible into our common stock. On October 21, 2015, we also issued 51 shares of Series C Preferred Stock at $0.0001 par value per share to TCA that is not convertible into our common stock. In the event of a default under the Amended and Restated TCA Transaction Documents, TCA can exercise voting control over our common stock with their Series C Preferred Stock voting rights
As of April 14, 2016, we are in default on our repayment obligations in our Agreements with TCA and owe TCA approximately $254,000 in principal and interest payments. We are working to resolve these issues.
Failure to operate in accordance with the Agreements with TCA could resultadjustment as provided for in the cancellation of these agreements, result in foreclosure on our assets in event of default and would have a material adverse effect on our business, results of operations or financial condition.
$254,000 in principal and interest paymentsSecured Promissory Notes.
Transactions with CANX, LLC and Logic Works LLCOur obligation to pay the Debt, or any portion thereof, is secured by all of our assets.
On July 10, 2014, we closed a Waiver and Modification Agreement, Amended and Restated Joint Venture Agreement, Secured Credit Facility and Secured Convertible Note with CANX, and Logic Works LLC, a lender and shareholder of the Company.
Operating Activities
Net cash used in operating activities for the year ended December 31, 20152017 was $1,376,000.$2,082,000. This amount was primarily related to a net loss of $5,689,000, offset by$5,321,000, (i) a reduction in inventory of $465,000, a reduction in prepaid expenses of $42,000, an increasedecrease in accounts payable and accrued expenses of $30,000$151,000; and (ii) a reduction in deferred revenue of $38,000; offset by (iii) a reduction in deposits of $13,000; (iv) an increase in inventory of $47,000; and (v) non-cash expenses included non-cash expenses of $3,759,000$3,462,000, including (i)(vi) depreciation and amortization of $120,000; (ii)$2,000; (vii) stock based compensation of $176,000$216,000 related to stock option grants; (iii)grants and warrants; (viii) common stock issued for services of $211,000; (iv)$76,000. (ix) accrued interest expenseand amortization of $1,120,000, (v)debt discount on convertible notes payable of $623,000; (x) write-off of derivative liability to additional paid in capital to of $538,000; and (xi) loss on class action lawsuit settlementsdebt conversions of $2,000,000; (vi) preferred shares issued for services of $300,000; (vii) issuance of Series B Convertible Preferred Stock of $1,500,000; and (viii) other of $176,000,2,503,000, offset by (ix)(xii) change in derivative liability of $724,000$496,000.
Investment Activities
.Net cash used in investing activities for the year ended December 31, 2017 was $303,000. This amount was primarily related to the payment of expenses related to the acquisition of 51% of the Purchased Assets on October 3, 2017 from David Reichwein, a Pennsylvania resident, GIP International Ltd, a Hong Kong corporation and DPR International LLC, a Pennsylvania limited liability corporation. The Purchased Assets include intellectual property, copy rights and trademarks related to reflective tiles and flooring.
Financing Activities
Net cash provided by financing activities for the year ended December 31, 20152017 was $1,150,000. This$2,351,000. The amount was related to thefunding provided of $3,860,000 by Chicago Venture to us and $1,509,000 paid to TCA fundings.to in order to satisfy all debts to TCA.
Our contractual cash obligations as of December 31, 20152017 are summarized in the table below:
| | | | | | |
Contractual Cash Obligations | | | | | |
| Operating leases | $556,245 | $319,962 | $174,615 | $61,668 | $- |
| Convertible notes payable | 3,713,568 | 3,713,568 | - | - | - |
| Capital expenditures | 300,000 | 100,000 | 100,000 | 100,000 | - |
| | $4,569,813 | $4,133,530 | $274,615 | $161,668 | $- |
| | | | | | Less Than | | | | | | | | | Greater Than | |
| Contractual Cash Obligations | | Total | | | 1 Year | | | 1-3 Years | | | 3-5 Years | | | 5 Years | |
| Operating leases | | $ | 139,969 | | | $ | 76,929 | | | $ | 63,040 | | | $ | - | | | $ | - | |
| Note payable | | | 2,886,921 | | | | 2,886,921 | | | | 0 | | | | - | | | | - | |
| Capital expenditures | | | 50,000 | | | | 50,000 | | | | - | | | | - | | | | - | |
| | | $ | 3,076,890 | | | $ | 3,013,850 | | | $ | 63,040 | | | $ | - | | | $ | - | |
OFF-BALANCE SHEET ARRANGEMENTS
We do not have any off-balance sheet arrangements (as that term is defined in Item 303 of Regulation S-K) that are reasonably likely to have a current or future material effect on our financial condition, revenue or expenses, results of operations, liquidity, capital expenditures or capital resources.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The application of GAAP involves the exercise of varying degrees of judgment. On an ongoing basis, we evaluate our estimates and judgments based on historical experience and various other factors that are believed to be reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions. We believe that of our significant accounting policies (see summary of significant accounting policies more fully described in Note 3 to Form 10-K for the year ended December 31, 2015)2017), the following policies involve a higher degree of judgment and/or complexity:
Cash and Cash Equivalents - We classify highly liquid temporary investments with an original maturity of three months or less when purchased as cash equivalents. The Company maintains cash balances at various financial institutions. Balances at US banks are insured by the Federal Deposit Insurance Corporation up to $250,000. We have not experienced any losses in such accounts and believes it is not exposed to any significant risk for cash on deposit.
Accounts Receivable and Revenue -Revenue is recognized on the sale of a product when the product is shipped, which is when the risk of loss transfers to our customers, the fee is fixed and determinable, and collection of the sale is reasonably assured. A product is not shipped without an order from the customer and the completion of credit acceptance procedures. The majority of our sales are cash or credit card; however, we occasionally extend terms to our customers. Accounts receivable are reviewed periodically for collectability.
Inventories -Inventories are recorded on a first in first out basis. Inventory consists of raw materials, purchased finished goods and components held for resale. Inventory is valued at the lower of cost or market. We record a provision for excess and obsolete inventory whenever an impairment has been identified.The reserve for inventory was $20,000 and $40,215 at December 31, 20142017 and 2013,2016, respectively.
Goodwill and Intangible Assets - We evaluate the carrying value of goodwill, intangible assets, and long-lived assets during the fourth quarter of each year and between annual evaluations if events occur or circumstances change that would more likely than not reduce the fair value of the reporting unit below its carrying amount. Such circumstances could include, but are not limited to (1) a significant adverse change in legal factors or in business climate, (2) unanticipated competition, (3) an adverse action or assessment by a regulator, (4) continued losses from operations, (5) continued negative cash flows from operations, and (6) the suspension of trading of the Company’s securities. When evaluating whether goodwill is impaired, we compare the fair value of the reporting unit to which the goodwill is assigned to the reporting unit’s carrying amount, including goodwill. The fair value of the reporting unit is estimated using a combination of the income, or discounted cash flows, approach and the market approach, which utilizes comparable companies’ data. If the carrying amount of a reporting unit exceeds its fair value, then the amount of the impairment loss must be measured. The impairment loss would be calculated by comparing the implied fair value of reporting unit goodwill to its carrying amount. In calculating the implied fair value of reporting unit goodwill, the fair value of the reporting unit is allocated to all of the other assets and liabilities of that unit based on their fair values. The excess of the fair value of a reporting unit over the amount assigned to its other assets and liabilities is the implied fair value of goodwill.
We amortize the cost of other intangible assets over their estimated useful lives, which range up to ten years, unless such lives are deemed indefinite. Intangible assets with indefinite lives are tested in the fourth quarter of each fiscal year for impairment, or more often if indicators warrant.
Long Lived Assets – We reviews our long-lived assets for impairment annually or when changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Long-lived assets under certain circumstances are reported at the lower of carrying amount or fair value. Assets to be disposed of and assets not expected to provide any future service potential to the Company are recorded at the lower of carrying amount or fair value (less the projected cost associated with selling the asset). To the extent carrying values exceed fair values, an impairment loss is recognized in operating results.
Fair Value Measurements and Financial Instruments - –ASC Topic 820, Fair Value Measurement and Disclosures, defines fair value establishes a frameworkas the exchange price that would be received for measuring fair value, establishes a three-level valuation hierarchy for disclosure of fair value measurement and enhances disclosure requirements for fair value measurements. The valuation hierarchy is based upon the transparency of inputs to the valuation of an asset or paid to transfer a liability as of(an exit price) in the measurement date. The three levels are defined as follows:
Level 1 - Inputs to the valuation methodology are quoted prices (unadjusted) for identical assetsprincipal or liabilities in active markets.
Level 2 - Inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets, and inputs that are observablemost advantageous market for the asset or liability either directly or indirectly, for substantiallyin an orderly transaction between market participants on the full term of the financial instrument.
Level 3 - Inputs to the valuation methodology are unobservable and significant to themeasurement date. This topic also establishes a fair value measurement.
The carrying value of cash, accounts receivable, investment in a related party, accounts payables, accrued expenses, due to related party, notes payable,hierarchy, which requires classification based on observable and convertible notes approximates theirunobservable inputs when measuring fair values due to their short-term maturities.
Derivative financial instruments -We evaluate all of its financial instruments to determine if such instruments are derivatives or contain features that qualify as embedded derivatives. For derivative financial instruments that are accounted for as liabilities, the derivative instrument is initially recorded at itsvalue. The fair value and is then re-valued at each reporting date, with changes in the fair value reported in the consolidated statements of operations. For stock-based derivative financial instruments, the Company uses a weighted average Black-Scholes-Merton option pricing model to value the derivative instruments at inception and on subsequent valuation dates. The classification of derivative instruments, including whether such instruments should be recorded as liabilities or as equity, is evaluated at the end of each reporting period. Derivative instrument liabilities are classified in the balance sheet as current or non-currenthierarchy distinguishes between assumptions based on whether or not net-cash settlement of the derivative instrument could be required within twelve months of the balance sheet date.market data (observable inputs) and an entity’s own assumptions (unobservable inputs).
As of December 31, 2015 and 2014, we had outstanding 7% convertible notes for $500,000 that we determined were a derivative liability due to the “reset” clause associated with the note’s conversion price. We valued the derivative liability of these notes at $105,515 and $1,278,878, respectively, using the Black-Scholes-Merton option pricing model.
As of December 31, 2015 and 2014, we had outstanding 6% convertible notes for $350,000 that we determined were a derivative liability due to the “reset” clause associated with the note’s conversion price. We valued the derivative liability of these notes at $54,377 and $822,037, respectively using the Black-Scholes-Merton option pricing model.
As of December 31, 2015, we had outstanding 18% convertible notes for $1,150,000 that we determined were a derivative liability due to the “reset” clause associated with the note’s conversion price. We valued the derivative liability of these notes at $1,217,283 using the Black-Scholes-Merton option pricing model.
Stock Based Compensation – We have share-based compensation plans under which employees, consultants, suppliers and directors may be granted restricted stock, as well as options and warrants to purchase shares of our common stock at the fair market value at the time of grant. Stock-based compensation cost to employees is measured by us at the grant date, based on the fair value of the award, over the requisite service period under ASC 718. For options issued to employees, we recognize stock compensation costs utilizing the fair value methodology over the related period of benefit. Grants of stock to non-employees and other parties are accounted for in accordance with the ASC 505.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
As a smaller reporting company, we are not required to provide the information required by this Item. Nevertheless, we have no investments in any market risk sensitive instruments either held for trading purposes or entered into for other than trading purposes.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Reference is made to our consolidated financial statements beginning on page F-1 of this report.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
Not applicable.
ITEM 9A. CONTROLS AND PROCEDURES
a) (a)Evaluation of Disclosure Controlsdisclosure controls and Proceduresprocedures.
We conducted an evaluation, under the supervision and with the participation of our management, of the effectiveness of the design and operation of our disclosure controls and procedures. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Securities and Exchange Act of 1934, as amended (“Exchange Act”), means controls and other procedures of a company that are designed to ensure that information required to be disclosed by the company in the reports it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission's rules and forms. Disclosure controls and procedures also include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company's management, including its principal executive and principal financial officers, or persons performing similar functions, as appropriate, to allow timely decisions regarding required disclosure. Based on this evaluation, our principal executive and principal financial officers concluded as of December 31, 20152017 that our disclosure controls and procedures were not effective at the reasonable assurance level due to the material weaknesses in our internal controls over financial reporting discussed immediately below.
Identified Material Weakness
A material weakness in our internal control over financial reporting is a control deficiency, or combination of control deficiencies, that results in more than a remote likelihood that a material misstatement of the financial statements will not be prevented or detected.
Management identified the following material weakness during its assessment of internal controls over financial reporting:
Audit Committee:
On June 3, 2014,While we formed an Audit Committee and appointedhave an audit committee, we need an additional committee member. During 2018, the Board expects to appoint an additional independent Director to serve on the Audit Committee.
Inventory: The Company needs to strengthen its controls over inventory.
(b) Management's Report on Internal Control Over Financial Reporting.
Our management is responsible for establishing and maintaining adequate internal control over financial expertreporting as defined by SECin Rules 13a-15(f) and as adopted15d-15(f) under the Sarbanes-OxleySecurities Exchange Act of 2002. Prior1934. Our internal control over financial reporting is a process designed by, or under the supervision of, our CEO and CFO, or persons performing similar functions, and effected by our board of directors, management and other personnel, to this, we did not have an Audit Committee to overseeprovide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with accounting principles generally accepted in the United States of America (GAAP). Our internal control over financial reporting includes those policies and procedures that: (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and disposition of the assets of the Company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with GAAP and that receipts and expenditures of the Company are being made only in accordance with authorization of management and directors of the Company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the Company’s assets that could have a material effect on the financial statements.
Management assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2017. In making this assessment, management used external service providersthe criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission in the 2013 Internal Control-Integrated Framework. Based on its evaluation, management has concluded that the Company’s internal control over financial reporting was not effective as of December 31, 2017.
Pursuant to ensureRegulation S-K Item 308(b), this Annual Report on Form 10-K does not include an attestation report of our company’s registered public accounting firm regarding internal control over financial reporting.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions or that the degree of compliance with the SEC requirements.policies or procedures may deteriorate. A control system, no matter how well designed and operated can provide only reasonable, but not absolute, assurance that the control system’s objectives will be met. The current Audit Committee has two management directors.
Other Weaknesses:
Our information systems lack sufficient controls limiting access to key applications and data.
Our inventorydesign of a control system lacked standardized product descriptions and effective controls to ensuremust reflect the accuracy, valuation, and timeliness of the financial accounting process around inventory, including a lack of accuracy and basis for valuation resulting in adjustments to the amount of cost of revenuesfact that there are resource constraints, and the carrying amountbenefits of inventory.controls must be considered relative to their cost.
c) Changes in Internal Control over Financial Reporting
During the quarter ended December 31, 2015, there wereThere have been no changes in our internal controlscontrol over financial reporting during thisin the fiscal quarteryear ended December 31, 2017, which were identified in connection with our management’s evaluation required by paragraph (d) of rules 13a-15 and 15d-15 under the Exchange Act, that have materially affected, or isare reasonably likely to have a materially affect, on our internal control over financial reporting.
ITEM 9B. OTHER INFORMATION
There were no disclosures of any information required to be filed on Form 8-K during the three months ended December 31, 20152017 that were not filed.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
The following changes in directors and named executive officers occurred during the year ending December 31, 2014 and for the subsequent periods:
Eric Shevin was appointed Director on April 1, 2013 and resigned April 1, 2014.
John Genesi was appointed Chief Financial Officer on July 22, 2013 and resigned on July 15, 2014.
Rob Hunt was appointed President of GrowLife Hydroponics, Inc. and Director on June 7, 2013. Mr. Hunt resigned as Executive Vice President of GrowLife, Inc. and President of GrowLife Hydroponics, Inc. effective May 23, 2014 and as a Director effective on June 3, 2014.
Marco Hegyi was appointed President on December 4, 2013 and Director on December 9, 2013. Mr. Hegyi was appointed Chairman of the Board and CEO on April 1, 2016.
Alan Hammer was appointed Director on December 17, 2013 and resigned May 6, 2014.
Jeff Giarraputo Director was appointed Director on December 19, 2013 and resigned on October 27, 2015.
Anthony Ciabattoni was appointed Director on December 19, 2013 and resigned on October 27, 2015.
Sterling Scott resigned as Chairman, Chief Executive Officer and Director on May 19, 2014.
Mark Scott was appointed Director on May 21, 2014, Chairman of the Audit Committee on June 3, 2014 and Consulting Chief Financial Officer on July 31, 2014. Mr. Scott resigned as Director and Chairman of the Audit Committee on October 18, 2015.
Joseph Barnes was appointed Senior Vice President of Business Development on October 10, 2014.
Michael Fasci was appointed Director on October 27, 2015 and Chairman of the Audit Committee on November 11, 2015. Mr. Fasci was appointed Secretary on April 1, 2016.
Tara Antal was appointed Director on October 27, 2015 and resigned on March 4, 2016.
Brad Fretti was appointed Director on October 27, 2015 and Chairman of the Compensation Committee on November 11, 2015. Mr. Fretti resigned as Director and Chairman of the Compensation Committee on March 4, 2016.
Directors and Executive Officers
The following table sets forth certain information about our current directors and executive officers:officers as of December 31, 2017:
| Name | | Age | Positions and Offices Held | Director/ Executive OfficerSince |
| Management Directors | | | |
| Marco Hegyi | 60 | 58Director | December 9, 2013 |
| | Chairman of the Board CEO, President and Nominations and Governance Committee Chairman (1) | April 1, 2016- October 23, 2017 |
| | | Chief Executive Officer | April 1, 2016 |
| | | President | December 4, 2013 |
| | Nominations and Governance Committee Chairman | June 3, 2014- October 23, 2017 |
| Mark E. Scott | 64 | 62 | | Consulting Chief Financial Officer | July 31, 2014 |
| | | Secretary | February 14, 2017 |
| | Director | February 14, 2017 |
| Independent Directors | | | |
| Michael E. Fasci | 59 | 57Chairman of the Board | October 23, 2017 |
| | Director | October 27, 2015 |
| | Audit Committee Chairman and Secretary (2)(3)Compensation Committee Chairman | November 11, 2015 |
| Katherine McLain | 52 | Director | February 14, 2017 |
| | | Nominations and Governance Committee Chairman | October 23, 2017 |
| Thom Kozik | 57 | Director | October 5, 2017 |
| Other Named Executives | | | |
| Joseph Barnes | 45 | 43President of GrowLife Hydroponics, Inc. | August 16, 2017
|
| | Senior Vice President of Business Development | October 10, 2014 |
(1) Member of the Audit Committee.
(2) Member of the Compensation Committee.
(3) Member of the Nominations and Governance Committee.
All directors hold office until their successors are duly appointed or until their earlier resignation or removal.
Business Experience Descriptions
Set forth below is certain biographical information regarding each of our executive officers and directors.
Marco Hegyi–Mr. Hegyi joined GrowLife as its President and a Member of its Board of Directors on December 9, 2013 and was appointed as Chairman of the Nominations and Governance Committee and a member of the Compensation Committee on June 3, 2014. Mr. Hegyi was appointed as CEO and Chairman of GrowLife effective on April 1, 2016. On October 23, 2017, Mr. Hegyi was not appointed as Chairman of GrowLife, Chairman of the Nominations and Governance Committee or a member of the Compensation Committee. Mr. Hegyi has served as an independent director of Visualant, Inc. since February 14, 2008 and as Chairman of the Board sincefrom May 2011, and servesserved at the Chairman of the Audit and Compensation committees.committees until his departure on February 2015. Previously, Mr. Hegyi was a principal with the Chasm Group from 2006 to January 2014, where he has provided business consulting services. As a management consultant, Mr. Hegyi applied his extensive technology industry experience to help early-stage companies. companies and has been issued 10 US patents.
Prior to working as a consultant in 2006, Mr. Hegyi served as Senior Director of Global Product Management at Yahoo! Prior to Yahoo!, Mr. Hegyi was at Microsoft leading program management for Microsoft Windows and Office beta releases aimed at software developers from 2001 to 2006. While at Microsoft, he formed new software-as-a-service concepts and created operating programs to extend the depth and breadth of the company’s unparalleled developer eco-system, including managing offshore, outsource teams in China and India, and being the named inventor of a filed Microsoft patent for a business process in service delivery.
During Mr. Hegyi’s career, he has served as President and CEO of private and public companies, Chairman and director of boards, finance, compensation and audit committee chair, chief operating officer, vice-president of sales and marketing, senior director of product management, and he began his career as a systems software engineer. Mr. Hegyi holds several patents.
Mr. Hegyi earned a Bachelor of Science degree in Information and Computer Sciences from the University of California, Irvine, and has completed advanced studies in innovation marketing, advanced management, and strategy at Harvard Business School, Stanford University, UCLA Anderson Graduate School of Management, and MIT Sloan School of Management.
Mr. Hegyi’s prior experience as Chairman and Chief Executive Officer of public companies, combined with his advanced studies in business management and strategy, were the primary factors in the decision to add Mr. Hegyi to the Company’s Board of Directors.
Michael E. Fasci – Mr. Fasci joined GrowLife as a Member of its Board of Directors on October 27, 2015 and was appointed Audit Committee Chairman on November 11, 2015. On April 1, 2016, Mr. Fasci was appointed as the Secretary of the Company.Company, but resigned on February 14, 2017. On October 23, 2017, Mr. Fasci was appointed Chairman of the Board. Mr. Fasci is a 30-year veteran in the finance sector having served as an officer and director of many public and private companies. From 2013 to 2017, Mr. Fasci owns and operated Process Engineering Services, Inc., an engineering consulting company as well as worked as a financial consultant for TCA Global Fund, a Mutual Fund located in Aventura, Florida.Mr. Fasci is a seasoned operator across various industries and has served in both CEO and CFO capacities for both growth and turnaround situations. Mr. Fasci began his career as a field engineer and then manager of various remediation filtration and environmental monitoring projects globally before focusing his efforts on the daily operations, accounting and financial reporting and SEC compliance of the numerous companies he has served. Mr. Fasci resides in East Taunton, Massachusetts and studied Electrical Engineering at Northeastern University and maintains his qualification as an Enrolled Agent of the Internal Revenue Service. University.
Mr. Fasci was appointed to the Board of Directors based on his financial, SEC and governance skills.
Mark E. Scott – Mr. Mark Scott was appointedre-appointed to the Board of Directors and Secretary of GrowLife, Inc. on May 21, 2014 and as Chairman of the Audit Committee on June 3, 2014. On July 31, 2014,February 14, 2017. Mr. Scott appointed Consulting Chief Financial Officer. Mr. Scott resigned fromwas previously a member of the Board of Directors and Secretary and as Chairman of the Audit CommitteeGrowLife, Inc. from May 2014 until his resignation on October 18, 2015. Mr. Scott was appointed our Consulting Chief Financial Officer on July 31, 2014 and Chief Financial Officer on November 1, 2017.
Mr. Scott has significant financial, capital market and relations experience in public microcap companies. Mr. Scott also currently servesserved as (i) Chief Financial Officer, Secretary and Treasurer of Visualant, Inc., a position he has held sincefrom May 2010. Mr. Scott also provides consulting services2010 to other non-public entities from time to time.
August 31, 2016. Mr. Scott was Chief Financial Officer of U.S. Rare Earths, Inc., a consulting position he held December 19, 2011 to April 30, 2014 and Chief Financial Officer of Sonora Resources Corporation, a consulting position he held from June 15, 2011 to August 31, 2014. Also, Mr. Scott was Chief Financial Officer, Secretary and Treasurer of WestMountain Gold from February 28, 2011 to December 31, 2013 and was a consultant from December 2010 to February 27, 2011. Mr. Scott previously served as Chief Financial Officer and Secretary of IA Global, Inc. from October 2003 to June 2011. Previously, he held executiveMr. Scott also provides consulting services to other non-public entities from time to time. Mr. Scott has significant financial, positions with Digital Lightwave; Network Access Solutions;capital market and Teltronics, Inc. He has also held senior financial positions at Protel, Inc., Crystals International, Inc., Ranks Hovis McDougall, LLPrelations experience in public and Brittania Sportswear, and worked at Arthur Andersen.private microcap companies. Mr. Scott is also a certified public accountant and received a Bachelor of Arts in Accounting from the University of Washington.
Mr. Scott was appointed to the Board of Directors based on his financial, SEC and governance skills.
Katherine McLain-Katherine McLain, Esq.joined GrowLife as a Member of its Board of Directors on February 14, 2017 and was appointed Chairman of the Nominations and Governance Committee and a member of the Compensation Committee on October 23, 2017.Ms. McLain has served as Assistant General Counsel for Intuit, Inc. (known for TurboTax & QuickBooks) since November 2017. Previously, Ms. McLain was legal counsel for Stripe, Inc., a financial payments company from 2015-2017. From 2010 to 2015, Ms. McLain was Senior Counsel of Silicon Valley Bank. Ms. McLain has held legal and compliance roles ranging in both public and private companies including Silicon Valley Bank, Wells Fargo Bank, and Obopay. Ms. McLain has over 30 years of experience as a revenue focused attorney and regulatory professional helping grow new business lines as well as ground up start-up ventures. She is a graduate of the University of California, Berkeley and the Santa Clara University School of Law and lives in Castro Valley, CA.
Ms. McLain was appointed to the Board of Directors based on her legal and regulatory skills.
Thom Kozik- Thom Kozik joined GrowLife as a Member of its Board of Directors on October 5, 2017 and was appointed a member of the Audit Committee on October 23, 2017. From 2013 through 2014, Mr. Kozik served as Chief Operating Office of Omnia Media in Los Angeles, a leading YouTube Multichannel Network delivering over 1 billion monthly video views, and almost 70 million global Millennial subscribers. Thom assisted the company’s CEO/founder in building the team, refining product strategy, and securing additional funding. In December 2014, Mr. Kozik took on the role of VP, Global Marketing/Loyalty for Marriott International, having been recruited to fundamentally transform the hospitality industry’s longest-running loyalty program. Thom also led the merging of two of the industry’s most powerful programs with Marriott’s acquisition of Starwood Hotels & Resorts in 2016. In his more than 30 years experience with corporations such as Marriott International, Microsoft, Yahoo, and Atari, along with several startups, he has held executive roles in marketing, business development, and product development. Over the past decade Kozik’s core focus has been the behavioral economics of online consumers and communities, and methods to maximize their lifetime value, and leveraging technology to reduce acquisition costs while increasing retention.
Mr. Kozik was appointed to the Board of Directors based on his marketing and product brand skills.
Joseph Barnes-Mr. Barnes was appointed President of GrowLife Hydroponics, Inc. on August 16, 2017 and was appointed Senior Vice President of Business Development for GrowLife, Inc. on October 10, 2014. Mr. Barnes works from our Boulder, Colorado store.Avon (Vail), Colorado. Mr. Barnes joined GrowLife in 2010 and is responsible for all national sales operations including direct sales, retail and e-commerce.GrowLife Hydroponics operations. He led the sales team that recorded sales in 2014 of more than $8 million, a 100% increase from the previous year.
Mr. Barnes made the progressive and entrepreneurial decision to work with GrowLife after seeing the agricultural benefits of indoor growing. He is deeply passionate about clean and sustainable grows, and has deep relationships with many trusted cultivators. He holds extensive knowledge of indoor growing methods with concentrating on maximizing the yields for clean and healthy crops.
Barnes was a highly regarded snowboard instructor in Vail, Colorado prior to joining GrowLife. He worked with many top snowboard professionals, and received a Level 1 certification from American Association Snowboard Instructors (AASI). Before his days on the slopes, Barnes was also a recruiting manager focusing on placing senior executives with international pharmaceutical/biotech companies. He also owned and operated Chrome Night Life Arena, a 20,000 square foot indoor/outdoor venue based in Philadelphia with more than 65 employees.
Certain Significant Employees
There are no significant employees required to be disclosed under Item 401(c) of Regulation S-K.
Family Relationships
There are no family relationships among our directors and executive officers.
Involvement in Certain Legal Proceedings
None of our current directors or executive officers has, to the best of our knowledge, during the past ten years:
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Had any petition under the federal bankruptcy laws or any state insolvency law filed by or against, or had a receiver, fiscal agent, or similar officer appointed by a court for the business or property of such person, or any partnership in which he was a general partner at or within two years before the time hereof, or any corporation or business association of which he was an executive officer at or within two years before the time hereof;
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Been convicted in a criminal proceeding or a named subject of a pending criminal proceeding (excluding traffic violations and other minor offenses);
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Been the subject of any order, judgment, or decree, not subsequently reversed, suspended, or vacated, of any court of competent jurisdiction, permanently or temporarily enjoining him from, or otherwise limiting, the following activities:
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Acting as a futures commission merchant, introducing broker, commodity trading advisor, commodity pool operator, floor broker, leverage transaction merchant, any other person regulated by the Commodity Futures Trading Commission, or an associated person of any of the foregoing, or as an investment adviser, underwriter, broker or dealer in securities, or as an affiliated person, director or employee of any investment company, bank, savings and loan association or insurance company, or engaging in or continuing any conduct or practice in connection with such activity;
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Engaging in any type of business practice; or
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Engaging in any activity in connection with the purchase or sale of any security or commodity or in connection with any violation of federal or state securities laws or federal commodities laws;
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Been the subject of any order, judgment, or decree, not subsequently reversed, suspended, or vacated, of any federal or state authority barring, suspending, or otherwise limiting for more than 60 days the right of such person to engage in any activity described in (i) above, or to be associated with persons engaged in any such activity;
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Been found by a court of competent jurisdiction in a civil action or by the SEC to have violated any federal or state securities law, where the judgment in such civil action or finding by the SEC has not been subsequently reversed, suspended, or vacated; or
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Been found by a court of competent jurisdiction in a civil action or by the Commodity Futures Trading Commission to have violated any federal commodities law, where the judgment in such civil action or finding by the Commodity Futures Trading Commission has not been subsequently reversed, suspended, or vacated.
Committees of the Board of Directors
The Board has three standing committees to facilitate and assist the Board in the execution of its responsibilities. The committees are currently the Audit Committee, the Nominations and Governance Committee, and the Compensation Committee. The Committees were formed on June 3, 2014 by the current board of directors. The Audit Committee, Compensation and Nominations and Governance Committees each have two management directors. The table below shows current membership for each of the standing Board committees.
| Audit | | Compensation | | Nominations and Governance |
| Michael E. Fasci (Chairman) | | Michael E. Fasci (Chairman) | | Marco HegyiKatherine McLain (Chairman) |
| Thom Kozik | | Katherine McLain | | Thom Kozik |
Compensation Committee Interlocks and Insider Participation
None of our executive officers serves as a member of the board of directors or compensation committee, or other committee serving an equivalent function, of any other entity that has one or more of its executive officers serving as a member of our board of directors or our compensation committee.
Code of Conduct and Ethics
We have adopted conduct and ethics standards titled the code of ethics, which is available at www.growlifeinc.com. These standards were adopted by our board of directors to promote transparency and integrity. The standards apply to our board of directors, executives and employees. Waivers of the requirements of our code of ethics or associated polices with respect to members of our board of directors or executive officers are subject to approval of the full board.
Section 16(a) Beneficial Ownership Reporting Compliance
Our executive officers, directors and 10% stockholders are required under Section 16(a) of the Exchange Act to file reports of ownership and changes in ownership with the SEC. Copies of these reports must also be furnished to us.
Except as follows, based solely on a review of copies of reports furnished to us, as of December 31, 20152017 our executive officers, directors and 10% holders complied with all filing requirements.
| | | | | | Required | | Actual |
| | | | Transaction | | File | | File |
Person | | Filing Type | | Date | | Date | | Date |
Tara AntalMichael E. Fasci | | 34 | | 10/4/27/201517 | | 11/10/20154/29/17 | | 11/17/20155/1/17 |
Brad FrettiMichael E. Fasci | | 34 | | 10/27/201516/17 | | 11/10/201518/17 | | 11/10/20/17 |
| Thom Kozik | | 4 | | 10/23/17 | | 10/25/17 | | 12/29/17 |
| Katherine McLain | | 4 | | 10/23/17 | | 10/25/17 | | 1/17/201518 |
CANX and Logic Works & China West Beneficial Ownership
On July 10, 2014, we entered into a Waiver and Modification Agreement, Amended and Restated Joint Venture Agreement, Secured Credit Facility and Secured Convertible Note with CANX, and Logic Works LLC, a lender and shareholder of the Company.
Previously, we entered into a Joint Venture Agreement with CANX USA LLC, a Nevada limited liability company. Under the terms of the Joint Venture Agreement, the Company and CANX formed Organic Growth International, LLC (“OGI”), a Nevada limited liability company, for the purpose of expanding our operations in its current retail hydroponic businesses and in other synergistic business verticals and facilitating additional funding for commercially financeable transactions of up to $40,000,000. In connection with the closing of the Agreement, CANX agreed to provide a commitment for funding in the amount of $1,300,000 for a GrowLife Infrastructure Funding Technology program transaction and provided additional funding under a 7% Convertible Note instrument for $1,000,000, including $500,000 each from Logic Works and China West III Investments LLC, entities that are unaffiliated with CANX and operate as separate legal entities. We initially owned a non-dilutive forty-five percent (45%) share of OGI and the Company may acquire a controlling share of OGI as provided in the Joint Venture Agreement. In accordance with the Joint Venture Agreement, the Company and CANX entered into a Warrant Agreement whereby we delivered to CANX a warrant to purchase 140,000,000 shares of the Company common stock at a maximum strike price of $0.033 per share. Also in accordance with the Joint Venture Agreement, we issued an additional warrant to purchase 100,000,000 shares of our common stock at a maximum strike price of $0.033 per share on February 7, 2014.
In connection with the issuance of the above warrants to CANX in November 2013 and early 2014, we drafted certain beneficial ownership forms, including a Schedule 13D, for CANX’s review and filing in connection with their acquisition of a potential control position of the Company due to their holdings of the warrants which amounted to a significant derivative security position in the Company. CANX refused to file the beneficial ownership filings at that time contending that they had not received the warrants provide for under the Joint Venture Agreement from us and therefore were not beneficial owners of said securities and thus not obligated to file said forms. The ultimate responsibility for filing such beneficial ownership forms lies with the reporting person which, in this case, was CANX.
On July 10, 2014, as discussed above, CANX and the Company entered into amended agreement which provided, among other things, the re-issuance of warrants with 4.99% beneficial ownership limitation provisions. The 4.99% beneficial ownership limitation prevented CANX from acting as a control person under the terms of the amended agreements and CANX disclaims its status as a control person or a beneficial owner due to the 4.99% beneficial ownership limitation.
Accordingly, CANX does not consider itself a beneficial owner due to its position that it has a 4.99% ownership limit. CANX further disclaims it has acted as a control group with Logic Works and/or China West in connection with the above transactions. Therefore, CANX has not made any Section 16(a) filings. Likewise, at this time, we do not consider CANX a control party under SEC Rules.
Additionally, Logic Works and China West, parties unaffiliated with CANX that received certain convertible notes in the above transactions to which CANX was a party, do not consider themselves a control group because both Logic Works and China West have a 4.99% ownership limit, are not affiliated with CANX or each other and disclaim their status as a potential control group with CANX. Therefore, Logic Works and China West have not made any Section 16(a) filings. China West has since converted its $500,000 Note into 20,640,548 shares of our common stock on June 4, 2014 which is less than 2.5% of our issued and outstanding common stock.ITEM 11. EXECUTIVE COMPENSATION
Compensation Discussion and Analysis
Overview of Compensation Program
This Compensation Discussion and Analysis describes the material elements of compensation awarded to, earned by or paid to each of our executive officers named in the Compensation Table on page __37 under “Remuneration of Executive Officers” (the “Named Executive Officers”) who served during the year ended December 31, 2015.2017. This compensation discussion primarily focuses on the information contained in the following tables and related footnotes and narrative for the last completed fiscal year. We also describe compensation actions taken after the last completed fiscal year to the extent that it enhances the understanding of our executive compensation disclosure. The principles and guidelines discussed herein would also apply to any additional executive officers that the Company may hire in the future.
The Compensation Committee of the Board has responsibility for overseeing, reviewing and approving executive compensation and benefit programs in accordance with the Compensation Committee’s charter. The membermembers of the Compensation Committee isare Michael E. Fasci.Fasci and Katherine McLain. We expect to appoint twoone independent Directors to serve on the Compensation Committee during 2016.2018.
Compensation Philosophy and Objectives
The major compensation objectives for the Company’s executive officers are as follows:
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| • | to attract and retain highly qualified individuals capable of making significant contributions to our long-term success; |
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| • | to motivate and reward named executive officers whose knowledge, skills, and performance are critical to our success; |
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| • | to closely align the interests of our named executive officers and other key employees with those of its shareholders; and |
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| • | to utilize incentive based compensation to reinforce performance objectives and reward superior performance. |
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to attract and retain highly qualified individuals capable of making significant contributions to our long-term success;
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to motivate and reward named executive officers whose knowledge, skills, and performance are critical to our success;
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to closely align the interests of our named executive officers and other key employees with those of its shareholders; and
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to utilize incentive based compensation to reinforce performance objectives and reward superior performance.
Role of Chief Executive Officer in Compensation Decisions
The Board approves all compensation for the chief executive officer. The Compensation Committee makes recommendations on the compensation for the chief executive officer and approves all compensation decisions, including equity awards, for our executive officers. Our chief executive officer makes recommendations regarding the base salary and non-equity compensation of other executive officers that are approved by the Compensation Committee in its discretion.
Setting Executive Compensation
The Compensation Committee believes that compensation for the Company’s executive officers must be managed to what we can afford and in a way that allows for us to meet our goals for overall performance. During 20152017 and 2014,2016, the Compensation Committee and the Board compensated its Chief Executive Officers, President and Chief Financial Officer at the salaries indicated in the compensation table. This compensation reflected theour financial condition of the Company.condition. The Compensation Committee does not use a peer group of publicly-traded and privately-held companies in structuring the compensation packages.
Executive Compensation Components for the Year Ended December 31, 20152017
The Compensation Committee did not use a formula for allocating compensation among the elements of total compensation during the year that ended December 31, 2015.2017. The Compensation Committee believes that in order to attract and retain highly effective people it must maintain a flexible compensation structure. For the year that ended December 31, 2015,2017, the principal components of compensation for named executive officers were base salary.
Base Salary
Base salary is intended to ensure that our employees are fairly and equitably compensated. Generally, base salary is used to appropriately recognize and reward the experience and skills that employees bring to the Company and provides motivation for career development and enhancement. Base salary ensures that all employees continue to receive a basic level of compensation that reflects any acquired skills which are competently demonstrated and are consistently used at work.
Base salaries for the Company’s named executive officers are initially established based on their prior experience, the scope of their responsibilities and the applicable competitive market compensation paid by other companies for similar positions. Mr. Hegyi, Mr. Scott and Mr. ScottBarnes were compensated as described above based on the financial condition of the Company.
Performance-Based Incentive Compensation
The Compensation Committee believes incentive compensation reinforces performance objectives, rewards superior performance and is consistent with the enhancement of stockholder value. All of the Company’s Named Executive Officers are eligible to receive performance-based incentive compensation. The Compensation Committee did not recommend or approve payment of any performance-based incentive compensation to the Named Executive Officers during the year ended December 31, 20152017 based on our financial condition.
Ownership Guidelines
The Compensation Committee does not require our executive officers to hold a minimum number of our shares. However, to directly align the interests of executive officers with the interests of the stockholders, the Compensation Committee encourages each executive officer to maintain an ownership interest in the Company.
Stock Option Program
Stock options are an integral part of our executive compensation program. They are intended to encourage ownership and retention of the Company’s common stock by named executive officers and employees, as well as non-employee members of the Board. Through stock options, the objective of aligning employees’ long-term interest with those of stockholders may be met by providing employees with the opportunity to build a meaningful stake in the Company.
The Stock Option Program assists us by:
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enhancing the link between the creation of stockholder value and long-term executive incentive compensation;
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providing an opportunity for increased equity ownership by executive officers; and
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maintaining competitive levels of total compensation.
Stock option award levels are determined by the Compensation Committee and vary among participants’ positions within the Company. Newly hired executive officers or promoted executive officers are generally awarded stock options, at the discretion of the Compensation Committee, at the next regularly scheduled Compensation Committee meeting on or following their hire or promotion date. In addition, such executives are eligible to receive additional stock options on a discretionary basis after performance criteria are achieved.
Options are awarded at the closing price of our common stock on the date of the grant or last trading day prior to the date of the grant. The Compensation Committee’s policy is not to grant options with an exercise price that is less than the closing price of our common stock on the grant date.
Generally, the majority of the options granted by the Compensation Committee vest quarterly over two to three years or annually over five years of the 5-10-year option term. Vesting and exercise rights cease upon termination of employment and/or service, except in the case of death (subject to a one year limitation), disability or retirement. Stock options vest immediately upon termination of employment without cause or an involuntary termination following a change of control. Prior to the exercise of an option, the holder has no rights as a stockholder with respect to the shares subject to such option, including voting rights and the right to receive dividends or dividend equivalents.
The Named Executive Officers received stock option grants and warrants during the year ended December 31, 20152017 as outlined below.
Retirement and Other Benefits
We have no other retirement, savings, long-term stock award or other type of plans for the Named Executive Officers.
Perquisites and Other Personal Benefits
During the year ended December 31, 2014,2017, we provided the Named Executive Officers with medical insurance. The Company paid $8,561$10,273 in life insurance for Mr. Hegyi.Hegyi and $28,047 in insurance for Mr. Scott. No other perquisites or other personal benefits were provided to Named Executive Officers. The committee expects to review the levels of perquisites and other personal benefits provided to Named Executive Officers annually.
Employment and consulting agreements are discussed below.
Tax and Accounting Implications
Deductibility of Executive Compensation
Subject to certain exceptions, Section 162(m) of the Internal Revenue Code of 1986, as amended (the "Code") generally denies a deduction to any publicly held corporation for compensation paid to its chief executive officer and its three other highest paid executive officers (other than the principal financial officer) to the extent that any such individual's compensation exceeds $1 million. “Performance-based compensation” (as defined for purposes of Section 162(m)) is not taken into account for purposes of calculating the $1 million compensation limit, provided certain disclosure, shareholder approval and other requirements are met. We periodically review the potential consequences of Section 162(m) and may structure the performance-based portion of our executive compensation to comply with certain exceptions to Section 162(m). However, we may authorize compensation payments that do not comply with the exceptions to Section 162(m) when we believe that such payments are appropriate and in the best interests of the stockholders, after taking into consideration changing business conditions or the officer's performance
Accounting for Stock-Based Compensation
We account for stock-based payments including its Stock Option Program in accordance with the requirements of ASC 718, “Compensation-Stock Compensation.”
COMPENSATION COMMITTEE REPORT
The Compensation Committee, sets and administers policies that govern the Company's executive compensation programs, and incentive and stock programs. The Compensation Committee of the Company has reviewed and discussed the Compensation Discussion and Analysis required by Item 402(b) of Regulation S-K with management and, based on such review and discussions, the Compensation Committee recommended to the Board that the Compensation Discussion and Analysis be included in this Proxy Statement.Annual Report on Form 10-K for year ended December 31, 2017.
THE COMPENSATION COMMITTEE
Michael E. Fasci (Chairman)
Katherine McLain
EXECUTIVE COMPENSATION
REMUNERATION OF EXECUTIVE OFFICERS
The following table provides information concerning remuneration of the chief executive officer, the chief financial officer and another named executive officer for the years ended December 31, 20152017 and 2014:2016:
Summary Compensation Table
| | | | | | | | | | | | | | Non-Equity | | | | | | | | | |
| | | | | | | | | | | | | | Incentive | | | | | | | | | | |
| | | | | | | | | | | Stock | | | Plan | | | Option | | | Other | | | | |
| | | | | Salary | | | Bonus | | | Awards | | | Compensation | | | Awards | | | Compensation | | | Total | |
| Principal Position | | | | ($) | | | ($) | | | ($) (1) | | | ($) | | | ($) | | | ($) | | | ($) | |
| Marco Hegyi, President and Director (2) | | 12/31/2015 | | $ | 253,000 | | | $ | - | | | $ | - | | | $ | - | | | $ | - | | | $ | 8,561 | | | $ | 261,561 | |
| | | 12/31/2014 | | $ | 156,906 | | | $ | - | | | $ | - | | | $ | - | | | $ | - | | | $ | 14,997 | | | $ | 171,903 | |
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| Mark E. Scott, Consulting Chief Financial Officer (3) | | 12/31/2015 | | $ | 156,250 | | | $ | - | | | $ | - | | | $ | - | | | $ | 7,312 | | | $ | - | | | $ | 163,562 | |
| | | 12/31/2014 | | $ | 86,250 | | | $ | - | | | $ | - | | | $ | - | | | $ | 292,480 | | | $ | 15,686 | | | $ | 394,416 | |
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| Joseph Barnes, Senior Vice President of Business | | 12/31/2015 | | $ | 90,000 | | | $ | - | | | $ | - | | | $ | - | | | $ | - | | | $ | - | | | $ | 90,000 | |
| Development (4) | | 12/31/2014 | | $ | 70,096 | | | $ | 6,500 | | | $ | 24,000 | | | $ | - | | | $ | 120,648 | | | $ | 9,119 | | | $ | 230,363 | |
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| Principal Position | | | | | | | | | |
Marco Hegyi, Chief Excutive
| | 12/31/17 | $250,000 | $- | $- | $- | $- | $205,273 | $455,273 |
| Officer and Director (2) | | 12/31/16 | $250,000 | $- | $- | $- | $- | $34,231 | $284,231 |
Mark E. Scott, Chief Financial
| | 12/31/17 | $138,250 | $- | $- | $- | $18,000 | $28,047 | $184,297 |
| Officer and Director (3) | | 12/31/16 | $156,250 | $- | $60,000 | $- | $- | $9,755 | $226,005 |
Joseph Barnes,Prwsident of
| | 12/31/17 | $138,670 | $- | $- | $- | $24,000 | $- | $162,670 |
| GrowLife Hydroponics, Inc. (4) | | 12/31/16 | $120,000 | $- | $- | $- | $- | $- | $120,000 |
(1) For 2013, reflects the aggregate grant date fair value of stock awards granted during the relevant fiscal year calculated in accordance with FASB ASC Topic 718 as reflected in the terms of the August 12, 2012 Compensation Plan. For 2014, these amounts reflect the grant date market value as required by Regulation S-K Item 402(n)(2), computed in accordance with FASB ASC Topic 718.
(2) Mr. Hegyi was paid a salary of $253,000 (cash salary of $203,500 and accrued salary of $49,500)$250,000 during the yearyears ended December 31, 2015. This accrual was based on the tight cash flow of the Company2017 and agreed to by Mr. Hegyi, but there was no formal deferral agreement. There was no accrued interest paid on the unpaid salary. The accrued salary is expected to be paid during the year ended December 31, 2016. The CompanyWe paid life insurance of $8,561$10,273 for Mr. Hegyi during the yearyears ended December 31, 2015.2017 and 2016, respectively. On October 21, 2016, Mr. Hegyi was paidreceived a cash salaryWarrant to purchase up to 10,000,000 shares of $156,906 duringour common stock at an exercise price of $0.01 per share. In addition, Mr. Hegyi received Warrants to purchase up to 10,000,000 shares of our common stock at an exercise price of $0.01 per share which vest on October 21, 2017 and 2018. The Warrants are exercisable for 5 years. The warrants were valued at $390,000 and we recorded $190,000 and $23,958 of compensation expense for the year endedwarrants that had vested as of December 31, 2014. The Company paid life insurance of $14,997 for Mr. Hegyi during the year ended December 31, 2014.2017 and 2016.
(3) Mark E. Scott was appointed a Director on May 24, 2014 and as consulting Chief Financial Officer on July 31, 2014. Mr. Scott was paid a consulting fee of$138,250 and $156,250 (cash salary of $105,000 and accrued salary of $51,250 during the yearyears ended December 31, 2015. This accrual was based on the tight cash flow of the Company2017 and agreed to by Mr. Scott, but there was no formal deferral agreement. There was no accrued interest paid on the unpaid consulting fee. The accrued consulted is expected to be paid during the year ended December 31, 2016. Mr. Scott was paid a cash consulting fee of $86,250 during the year ended December 31, 2014. 2016, respectively. Mr. Scott was reimbursed $15,686$28,047 and $9,755 for insurance and travel expenses during the year ended December 31, 2014.
2017 and 2016, respectively. On July 31, 2014, the BoardOctober 15, 2017, an entity controlled by Mr. Scott was granted an option to purchase 12,000,000 shares of Directors approved acommon stock at an exercise price of $0.006 per share. The stock option grant vests quarterly over three years and is exercisable for 5 years. The stock option grant was valued at $18,000. On October 21, 2016, an entity controlled by Mr. Scott to purchase 16,000,000was granted 6,000,000 shares of our common stock under our 2011 Stock Incentive Plan at an exercise price of $0.07 per share, the fair market price on July 31, 2014. The exercise price was reduced to $0.01 per share or $60,000. The price per share was based on December 18, 2015. The shares vest as follows:the thirty-day trailing average.
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| i | Two million of the Shares vest immediately upon securing a market maker with an approved 15c2-11 resulting in the Company’s relisting on OTCBB (not earned); |
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| ii | Two million Shares vest immediately upon the successful approval and effectiveness of the Company’s S-1 (not earned); |
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| iii | Two million Shares will vest immediately upon the Company’s resolution of the class action lawsuits (earned as of August 17, 2015); |
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| iv | Ten million Shares vest on a monthly basis over a period of three years beginning on the July 1, 2014. |
All options will have a five-year life(4) Mr. Barnes was paid $138,670 and allow for a cashless exercise. The stock option grant is subject to the terms and conditions of the Company’s Stock Incentive Plan, including vesting requirements. In the event that Mr. Scott’s continuous status as consultant to the Company is terminated by the Company without Cause or Mr. Scott terminates his employment with the Company for Good Reason as defined in the Scott Agreement, in either case upon or within twelve months after a Change in Control as defined in the Company’s Stock Incentive Plan except for CANX USA, LLC, then 100% of the total number of Shares shall immediately become vested. We valued the options at $7,312 and $292,480$120,000 during the years ended December 31, 20152017 and 2014,2016, respectively.
(4) Joseph Barnes was appointed Senior Vice President of Business Development on On October 1, 2014. Mr. Barnes was paid a cash salary of $90,000 during the year ended December 31, 2015. Mr. Barnes was paid a cash salary of $70,096, a bonus of $6,500 and expense reimbursements of $9,119 during the year ended December 31, 2014. During the year ended December 31, 2014, Mr. Barnes was issued 300,000 shares of our common stock which was valued at $0.08 per share or $24,000 in the aggregate. Mr. Barnes was paid a cash salary of $15,385 during the year ended December 31, 2013.25, 2017, Mr. Barnes was granted an option to purchase eight million10,000,000 shares of the Company’s Common Stock under the Company’s 2011 Stock Incentive Plancommon stock at an exercise price on the date of grant. The Shares vest as follows:
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| i | Two million of the Shares will vest immediately; |
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| iv | Six million Shares will vest on a monthly basis over a period of three years beginning on the date of grant. |
All options will have a five-year life and allow for a cashless exercise.$0.007 per share. The stock option grant vests quarterly over three years and is subject to the terms and conditions of the Company’s Stock Incentive Plan, including vesting requirements. In the event that Mr. Barnes’s continuous status as employee to the Company is terminated by the Company without Cause or Mr. Barnes terminates his employment with the Companyexercisable for Good Reason as defined in the Barnes Agreement, in either case upon or within twelve months after a Change in Control as defined in the Company’s Stock Incentive, then 100% of the total number of Shares shall immediately become vested.5 years. The stock option grant was valued at $24,000.
We valued the options at $120,648.
Grants of Stock Based Awards during the year ended December 31, 20152017
The Compensation Committee approved the following performance-based incentive compensation to the Named Executive Officers for the year ended December 31, 2015:2017:
| | | Estimated Future | | Estimated Future
| | All Other | | |
| | | Payouts Under | | Payouts Under | | All Other | Option Awards; | | |
| | | Non-Equity | | Equity
| | Stock Awards; | Number of | | |
| | | Incentive Plan | | Incentive Plan | | Number of | Securities | Exercise or | Grant Date |
| | | | | | Estimated Future Payouts Under Non-Equity Incentive PlanAwards | | | Estimated Future Payouts Under Equity Incentive Plan Awards | | | | | | | | | Exercise or Base Price of Option | | | Grant Date Fair Value of Stock and | | | | | | | |
| | | Grant | | | Threshold | | | Target | | | Maximum | | | Threshold | | | Target | | | Maximum | | | Units | | | Options | | | Awards | | | Option | | | | | | | | | | | | |
| Name | | Date | | | ($) | | | ($) | | | ($) | | | (#) | | | (#) | | | (#) | | | (#) | | | (#) | | | ($/Sh) (1) | | | Awards | | | | | | |
| Marco Hegyi | | | - | | | $ | - | | | | - | | | $ | - | | | | - | | | | - | | | | - | | | | - | | | | - | | | $ | - | | | $ | - | | - | $- | - | $- | - | $- | $- |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Mark E. Scott (2) | | | - | | | $ | - | | | | - | | | $ | - | | | | - | | | | - | | | | - | | | | - | | | | 2,000,000 | | | $ | 0.010 | | | $ | 7,312 | | | $- | - | $- | - | 12,000,000 | - | $0.006 | $18,000 |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Joseph Barnes | | | - | | | $ | - | | | | - | | | $ | - | | | | - | | | | - | | | | - | | | | - | | | | - | | | $ | - | | | $ | - | | |
| Joseph Barnes (3) | | | $- | - | $- | - | 10,000,000 | - | $0.007 | $24,000 |
(1) These amounts reflect the grant date market value as required by Regulation S-K Item 402(n)(2), computed in accordance with FASB ASC Topic 718.
(2) AnOn October 15, 2017, an entity controlled by Mr. Scott received awas granted an option to purchase 12,000,000 shares of common stock at an exercise price of $0.006 per share. The stock option grant ofvests quarterly over three years and is exercisable for 5 years. The stock option grant was valued at $18,000.
(3) On October 25, 2017, Mr. Barnes was granted an option to purchase 10,000,000 shares of our common stock which at an exercise price of $0.007 per share. The stock option grant vests monthlyquarterly over three years beginning July 31, 2014. An additional two million shares vested on August 17, 2015 with the Company’s resolution of the class action lawsuits. A further 4,000,000 ofand is exercisable for 5 years. The stock option grants vest upon the achievement of certain performance criteria.grant was valued at $24,000.
Outstanding Equity Awards as of December 31, 20152017
The Named Executive Officers had the following outstanding equity awards as of December 31, 2015:2017:
| | | Option Awards | | Stock Awards | |
| | | | | | | | | | | | | | | | | | | | | | Number of Unearned Shares, | | | | |
| Name | | (#) | | | (#) | | | (#) | | | ($) (1) | | Date | | (#) | | | ($) | | | (#) | | | ($) | |
| Marco Hegyi | | | - | | | | - | | | | - | | | $ | - | | | | | - | | | $ | - | | | | - | | | $ | - | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Mark E. Scott (2) | | | 7,833,333 | | | | 4,166,667 | | | | - | | | $ | 0.01 | | 7/30/2019 | | | - | | | $ | - | | | | - | | | $ | - | |
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Joseph Barnes (3) | | | 4,500,000 | | | | 3,500,000 | | | | - | | | $ | 0.05 | | 10/9/2019 | | | - | | | $ | - | | | | - | | | $ | - | |
| | | |
| | | | | | | | | | |
| | Securities | Securities | Securities | | | Number of | Market Value | Unearned Shares, | Payout Value of |
| | Underlying | Underlying | Underlying | | | Shares or Units | of Shares or | Units or Other | Unearned Shares, |
| | Unexercised | Unexercised | Unexercised | Option | | of Stock | Units of | Rights That | Units, or Other |
| | Options | Options | Unearned | Exercise | Option | That Have Not | Stock That | Have Not | Rights That Have |
| | Exercisable | Unexerciseable | Options | Price | Expiration | Vested | Have Not Vested | Vested | Not Vested |
| Name | (#) | (#) | (#) | ($) (1) | Date | (#) | ($) | (#) | ($) |
| Marco Hegyi (2) | - | - | - | $- | | - | $- | - | $- |
| | | | | | | | | | |
| Mark E. Scott (3) | 4,000,000 | - | - | $0.010 | 7/30/19 | - | $- | - | $- |
| | 1,666,667 | 10,333,333 | - | $0.006 | 10/15/22 | | | | |
| | | | | | | | | | |
| Joseph Barnes (4) | 8,000,000 | - | - | $0.001 | 10/9/19 | - | $- | - | $- |
| | 1,391,666 | 8,608,334 | - | $0.007 | 10/25/22 | - | $- | - | $- |
(1) These amounts reflect the grant date market value as required by Regulation S-K Item 402(n)(2), computed in accordance with FASB ASC Topic 718.
(2)On October 15, 2017, an entity controlled by Mr. Scott was granted an option to purchase 12,000,000 shares of common stock at an exercise price of $0.006 per share. The stock option grant vests quarterly over three years and is exercisable for 5 years. The stock option grant was valued at $18,000. An entity controlled by Mr. Scott received ahas an additional 4,000,000 share stock option grant ofthat is fully vested.
(3) On October 25, 2017, Mr. Barnes was granted an option to purchase 10,000,000 shares of our common stock which at an exercise price of $0.007 per share. The stock option grant vests monthlyquarterly over three years beginning July 31, 2014. An additional two million shares vested on August 17, 2015 with the Company’s resolution of the class action lawsuits. A further 4,000,000 ofand is exercisable for 5 years. The stock option grants vest upon the achievement of certain performance criteria.
(3)grant was valued at $24,000. Mr. Barnes stock option grant consists of 6,000,0008,000,000 shares of our common stock which vestthat vested quarterly over three years beginning October 1, 2014 and 2,000,000 shares of our common stock that vested October 10, 2014. On October 12, 2016, we amended the exercise price of the stock option grants for Mr. Barnes to $0.010 per share.
Option Exercises and Stock Vested for the year ended December 31, 20152017
Mr. Hegyi, Scott and Barnes did not have any option exercised or stock that vested during the year ended December 31, 2015.2017.
Pension Benefits
We do not provide any pension benefits.
Nonqualified Deferred Compensation
We do not have a nonqualified deferral program.
Employment and Consulting Agreements
Employment Agreement with Marco Hegyi
On December 4, 2013,October 21, 2016, we entered into an Employment Agreement with Marco Hegyi pursuant to which wethe Company engaged Mr. Hegyi as its President fromChief Executive Officer through October 20, 2018. Mr. Hegyi’s previous Employment Agreement was dated December 4, 2013 throughand was set to expire on December 4, 2016 to provide consulting and management services. Per the terms of the Hegyi Agreement, Mr. Hegyi established an office in Seattle, Washington while also maintaining operations in the Southern California area. 2016.
Mr. Hegyi’s annual compensation is $150,000 for the first year of the Hegyi Agreement; $250,000 for the second year; and $250,000 for the third year.$250,000. Mr. Hegyi is also entitled to receive an annual bonus equal to four percent (4%) of ourthe Company’s EBITDA for that year. The annual bonus shall be paid no later than 31 days (i.e., by January 31st) following the end of each calendar year. Mr. Hegyi’s first annual bonus will be calculated based on the Company’s EBITDA for calendar year 2014, with such bonus payable on or before January 31, 2015. If Mr. Hegyi’s employment is terminated for any reason prior to the expiration of the Term, as applicable, his annual bonus will be prorated for that year based on the number of days worked in that year. At the commencement of Mr. Hegyi’s employment, an entity affiliated with
Mr. Hegyi received a Warrant to purchase up to 25,000,00010,000,000 shares of our common stock of the Company at an exercise price of $0.08$0.01 per share. The Hegyi Warrant is exercisable for five years. On June 20, 2014,In addition, Mr. Hegyi andreceived Warrants to purchase up to 10,000,000 shares of common stock of the Company agreed to reduce the warrant life from ten to five years. On January 25, 2016, we reduced the warrantat an exercise price toof $0.01 per share effective December 18, 2015.which vest on October 21, 2017 and 2018. The Warrants are exercisable for 5 years.
Mr. Hegyi wasis entitled to participate in all group employment benefits that are offered by us to our senior executives and management employees from time to time, subject to the terms and conditions of such benefit plans, including any eligibility requirements. In addition, we are required towill purchase and maintain during the Term a “key manager”an insurance policy on Mr. Hegyi’s life in the amount of $4,000,000, paid as $2,000,000 payable to Mr. Hegyi’s named heirs or estate as the beneficiary, and $2,000,000 payable to the Company. Mr. Hegyi and the Company waived this $2,000,000 key manager insurance. If, prior to the expiration of the Term, we terminate Mr. Hegyi’s employment for “Cause”, or if Mr. Hegyi voluntarily terminates his employment without “Good Reason”, or if Mr. Hegyi’s employment is terminated by reason of his death, then all of our obligations hereunder shall cease immediately, and Mr. Hegyi will not be entitled to any further compensation beyond any pro-rated base salary due and bonus amounts earned through the effective date of termination. Mr. Hegyi will also be reimbursed for any expenses incurred prior to the date of termination for which he was not previously reimbursed.beneficiary.
If we terminate Mr. Hegyi’s employment at any time prior to the expiration of the Term without Cause, as defined in the Employment Agreement, or if Mr. Hegyi terminates his employment at any time for “Good Reason” or due to a “Disability”, Mr. Hegyi will be entitled to receive (i) his base salaryBase Salary amount through the end of the Term; and (ii) his annual bonusAnnual Bonus amount for each year during the remainder of the Term, which bonus amount shall be equal to the greater of (A) the annual bonus amount for the immediately preceding year, or (B) the bonus amount that would have been earned for the year of termination, absent such termination. Term.
If there has been a “Change in Control” and wethe Company (or its successor or the surviving entity) terminateterminates Mr. Hegyi’s employment without Cause as part of or in connection with such Change in Control (including any such termination occurring within one (1) month prior to the effective date of such Change in Control), then in addition to the benefits set forth above, Mr. Hegyi will be entitled to (i) an increase of $300,000 in his annual base salary amount (or an additional $25,000 per month) through the end of the Term; plus (ii) a gross-up in the annual base salary amount each year to account for and to offset any tax that may be due by Mr. Hegyi on any payments received or to be received by Mr. Hegyi under this Agreement that would result in a “parachute payment” as described in Section 280G of the Internal Revenue Code of 1986, as amended. If the Companywe (or its successor or the surviving entity) terminatesterminate Mr. Hegyi’s employment without Cause within twelve (12) months after the effective date of any Change in Control, or if Mr. Hegyi terminates his employment for Good Reason within twelve (12) months after the effective date of any Change in Control, then in addition to the benefits set forth above, Mr. Hegyi will be entitled to (i) an increase of $300,000 in his annual base salary amount (or an additional $25,000 per month), which increased annual base salary amount shall be paid for the remainder of the Term or for two (2) years following the Change in Control, whichever is longer; (ii) a gross-up in the annual base salary amount each year to account for and to offset any tax that may be due by Mr. Hegyi on any payments received or to be received by Mr. Hegyi under this Letter Agreement that would result in a “parachute payment” as described in Section 280G of the Internal Revenue Code of 1986, as amended; (iii) payment of Mr. Hegyi’s annual bonus amount as set forth above for each year during the remainder of the Term or for two (2) years following the Change in Control, whichever is longer; and (iv) health insurance coverage provided for and paid by usthe Company for the remainder of the Term or for two (2) years following the Change in Control, whichever is longer.
Chief Financial Officer Agreement with an Entity Controlled by Mark E. Scott
On July 31, 2014, we engaged Mr. Scott as its Consulting CFO from July 1, 2014 through September 30, 2014, and continuing thereafter until either party provides sixty-day notice to terminate the Letter or Mr. Scott enters into a full-time employment agreement.
Per the terms of the Scott Agreement, Mr. Scott’s compensation is $150,000 on an annual basis for the first year of the Scott Agreement. Mr. Scott is also entitled to receive an annual bonus equal to two percent of the Company’s EBITDA for that year. Our Board of Directors granted Mr. Scott an option to purchase sixteen million shares of our Common Stock under our 2011 Stock Incentive Plan at an exercise price of $0.07 per share, the fair market price on July 31, 2014. On December 18, 2015, we reduced the exercise price to $0.01 per share. The shares vest as follows:
| | i | Two million shares vest immediately upon securing a market maker with an approved 15c2-11 resulting in our relisting on OTCBB (earned as of February 18, 2016); |
| | | |
| | ii | Two million shares vest immediately upon the successful approval and effectiveness of our S-1 (not earned as of December 31, 2015)2017); |
| | | |
| | iii | Two million shares vest immediately upon our resolution of the class action lawsuits (earned as of August 17, 2015); and, |
| | | |
| | iv | Ten million shares will vest on a monthly basis over a period of three years beginning on the July 1, 2014. |
On October 21, 2016, Mr. Scott cancelled stock option grants totaling 12,000,000 shares of our common stock at $0.01 per share. Mr. Scott has an additional 4,000,000 share stock option grant which are fully vested. On October 15, 2017, an entity controlled by Mr. Scott was granted an option to purchase 12,000,000 shares of common stock at an exercise price of $0.006 per share. The stock option grant vests on a quarterly basis over 3 years.
All options will have a five-year life and allow for a cashless exercise. The stock option grant is subject to the terms and conditions of our Stock Incentive Plan, including vesting requirements. In the event that Mr. Scott’s continuous status as consultant to the Company is terminated by us without Cause or Mr. Scott terminates his employment with us for Good Reason as defined in the Scott Agreement, in either case upon or within twelve months after a Change in Control as defined in our Stock Incentive Plan except for CANX USA, LLC, then 100% of the total number of shares shall immediately become vested.
Mr. Scott will beis entitled to participate in all group employment benefits that are offered by us to our senior executives and management employees from time to time, subject to the terms and conditions of such benefit plans, including any eligibility requirements. In addition, we are required to purchase and maintain an insurance policy on Mr. Scott’s life in the amount of $2,000,000 payable to Mr. Scott’s named heirs or estate as the beneficiary. Finally, Mr. Scott is entitled to twenty days of vacation annually and has certain insurance and travel employment benefits.
If, prior to the expiration of the Term, we Mr. Scott’s employment for Cause, or if Mr. Scott voluntarily terminates his employment without Good Reason, or if Mr. Scott’s employment is terminated by reason of his death, then all of our obligations hereunder shall cease immediately, and Mr. Scott will not be entitled to any further compensation beyond any pro-rated base salary due and bonus amounts earned through the effective date of termination. Mr. Scott will also be reimbursed for any expenses incurred prior to the date of termination for which he was not previously reimbursed. Mr. Scott may receive severance benefits and our obligation under a termination by the Company without Cause or Mr. Scott terminates his employment for Good Reason are discussed above.
Promotion Letter with Joseph Barnes
On October 10, 2014, we entered into a Promotion Letter with Joseph Barnes which was effective October 1, 2014 pursuant to which we engaged Mr. Barnes as its Senior Vice-President of Business Development from October 1, 2014 on an at will basis. This Promotion Letter supersedes and canceled the Manager Services Agreement with Mr. Barnes dated August 1, 2013.
Per the terms of the Barnes Agreement, Mr. Barnes’s compensation is $90,000 on an annual basis. On January 1, 2016, Mr. Barnes salary was increased to $120,000 per year. Mr. Barnes received a bonus of $6,500 and is also entitled to receive a quarterly bonus based on growth of our growth margin dollars. No quarterly bonuses were earned under this Promotion Letter. Mr. Barnes was granted an option to purchase eight million shares of our common stock under our 2011 Stock Incentive Plan at an exercise price on the date of grant.$0.050 per share. The shares vest as follows:
| | |
| | i | Two million shares vested immediately; |
| | | |
| | iv | Six million shares vest on a monthly basis over a period of three years beginning on the date of grant. |
On October 12, 2016, we amended the exercise price of the stock option grants for Mr. Barnes to $0.010 per share. On October 25, 2017, Mr. Barnes was granted an option to purchase 10,000,000 shares of common stock at an exercise price of $0.007 per share. The stock option grant vests on a quarterly over 3 years.
All options will have a five-year life and allow for a cashless exercise. The stock option grant is subject to the terms and conditions of our Stock Incentive Plan, including vesting requirements. In the event that Mr. Barnes’s continuous status as employee to us is terminated by us without Cause or Mr. Barnes terminates his employment with us for Good Reason as defined in the Barnes Agreement, in either case upon or within twelve months after a Change in Control as defined in our Stock Incentive, then 100% of the total number of shares shall immediately become vested.
Mr. Barnes wasis entitled to participate in all group employment benefits that are offered by us to our senior executives and management employees from time to time, subject to the terms and conditions of such benefit plans, including any eligibility requirements. Finally, Mr. Barnes is entitled to fifteen days of vacation annually and has certain insurance and travel employment benefits.
Mr. Barnes may receive severance benefits and our obligation under a termination by the Companyus without Cause or Mr. Barnes terminates his employment for Good Reason are discussed above.
Offer Letter with David Reichwein
On October 1, 2017, we entered into an Offer Letter with David Reichwein pursuant to which we engaged Mr. Reichwein as our Vice-President of Research and Development on an at will basis.
Per the terms of the Reichwein Agreement, Mr. Reichwein’s compensation is $150,000 on an annual basis. Starting on the first quarter 2018, Mr. Reichwein is eligible to earn a quarterly commission based on 10% of tile gross margin dollars (which was amended subsequent to year ended December 31, 2017).
Mr. Reichwein was granted an option to purchase twenty million shares of our common stock under our 2011 Stock Incentive Plan at $0.006 per share. The shares vest as follows:
| i | Ten million shares vested immediately; |
| | |
| ii | Ten million shares vest on a quarterly basis over two years beginning on the date of grant. |
All options will have a five-year life and allow for a cashless exercise. The stock option grant is subject to the terms and conditions of our Stock Incentive Plan, including vesting requirements. In the event that Mr. Reichwein’s continuous status as employee to us is terminated by us without Cause or Mr. Reichwein terminates his employment with us for Good Reason as defined in the Reichwein Agreement, in either case upon or within twelve months after a Change in Control as defined in our Stock Incentive, then 100% of the total number of shares shall immediately become vested.
Mr. Reichwein is entitled to participate in all group employment benefits that are offered by us to our senior executives and management employees from time to time, subject to the terms and conditions of such benefit plans, including any eligibility requirements. Finally, Mr. Reichwein is entitled to fifteen days of vacation annually and has certain insurance and travel employment benefits.
Mr. Reichwein may receive severance benefits and our obligation under a termination by us without Cause or Mr. Reichwein terminates his employment for Good Reason are discussed above.
Potential Payments upon Termination or Change in Control
The Company’s Employment Agreement with Marco Hegyi has provisions providing for severance payments as detailed below.
| | | | | | | | | | | | | | | | |
| | | | | | | |
| Executive | | | | | | |
| Payments Upon | | | | | |
| Separation | | |
| Compensation: | | | | | | | | | | | | | | | | |
| Base salary (1) | | $ | - | | | $ | - | | | $ | 250,000 | | | $ | 550,000 | | | $ | - | | $- | $201,458 | $241,750 | $- |
| Performance-based incentive | | | | | | | | | | | | | | | | | | | | | |
| compensation | | $ | - | | | $ | - | | | $ | - | | | $ | - | | | $ | - | | $- |
| Stock options | | $ | - | | | $ | - | | | $ | - | | | $ | - | | | $ | - | | $- |
| | | | | | | | | | | | | | | | | | | | | | |
| Benefits and Perquisites: | | | | | | | | | | | | | | | | | | | | | |
| Health and welfare benefits | | $ | - | | | $ | - | | | $ | - | | | $ | - | | | $ | - | | $- |
| Accrued vacation pay | | $ | - | | | $ | - | | | $ | - | | | $ | - | | | $ | - | | $- |
| | | | | | | | | | | | | | | | | | | | | | |
| Total | | $ | - | | | $ | - | | | $ | 250,000 | | | $ | 550,000 | | | $ | - | | $- | $201,458 | $241,750 | $- |
(1) | Reflects amounts to be paid upon termination without cause and upon termination in a change of control, less any months worked. |
Reflects amounts to be paid upon termination without cause and upon termination in a change of control, less any months worked.
Mr. Scott and Mr. Barnes currently do not have amounts to be paid upon termination without cause and upon termination in a change of control. There outstanding stock options vests fully vest under certain conditions.
DIRECTOR COMPENSATION
We primarily use stock options grants to incentive compensation to attract and retain qualified candidates to serve on the Board. This compensation reflected the financial condition of the Company. In setting director compensation, we consider the significant amount of time that Directors expend in fulfilling their duties to the Company as well as the skill-level required by our members of the Board. During year ended December 31, 2015,2017, Marco Hegyi and Mark E.Mr. Scott did not receive any compensation for theirhis service as directors.director. The compensation disclosed in the Summary Compensation Table on page __37 represents the total compensation.
Director Summary Compensation
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| | | | | | | | |
| Name | | | | | | | |
| Michael E. Fasci (2) | $- | $52,000 | $- | $- | $- | $- | $52,000 |
| | | | | | | | |
| Katherine McLean (3) | - | 14,000 | - | - | - | - | 14,000 |
| | | | | | | | |
| Thom Kozik (4) | - | 10,000 | - | - | - | - | 10,000 |
| | | | | | | | |
| | $- | $24,000 | $- | $- | $- | $- | $24,000 |
(1) These amounts reflect the grant date market value as required by Regulation S-K Item 402(n)(2), computed in accordance with FASB ASC Topic 718.
(2) On February 4, 2017, we issued 1,000,000 shares of our common stock to Michael E. Fasci pursuant to a service award for $15,000. The shares were valued at the fair market price of $0.015 per share. On April 27, 2017, we issued 1,000,000 shares of our common stock to Michael E. Fasci pursuant to a service award for $9,000. The shares were valued at the fair market price of $0.009 per share. On April 27, 2017, we issued 2,000,000 shares of our common stock to Michael E. Fasci pursuant to a consulting agreement for $18,000. The shares were valued at the fair market price of $0.009 per share. On November 2, 2017, we issued 2,000,000 shares of our common stock to Michael E. Fasci pursuant to a consulting agreement for $10,000. The shares were valued at the fair market price of $0.005 per share.
(3) Ms. Katherine McLain was appointed as a director on February 14, 2017. On June 28, 2017, we issued 1,000,000 shares of our common stock to Ms. McLain pursuant to a service award for $9,000. The shares were valued at the fair market price of $0.009 per share. On October 23, 2017, we issued 1,000,000 shares of our common stock to Ms. McLain pursuant to a service award for $5,000. The shares were valued at the fair market price of $0.005 per share.
(4) Mr. Kozik was appointed as a director on October 5, 2017. On October 23, 2017, we issued 2,000,000 shares of our common stock to Mr. Kozik pursuant to a service award for $10,000. The shares were valued at the fair market price of $0.005 per share.
Director Summary Compensation
Compensation Paid to Board Members
Our independent non-employee directors are not compensated in cash. The only compensation has been in the form of stock awards. There is no stock compensation plan for independent non-employee directors. There was no Director compensation during the year ended December 31, 2015.2017.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
The following table sets forth certain information regarding the ownership of our common stock as of December 31, 20152017 by:
| • | each director and nominee for director; |
| | |
| • | each person known by us to own beneficially 5% or more of our common stock; |
| | |
| • | each officer named in the summary compensation table elsewhere in this report; and |
| | |
| • | all directors and executive officers as a group. |
●
each director and nominee for director;
●
each person known by us to own beneficially 5% or more of our common stock;
●
each officer named in the summary compensation table elsewhere in this report; and
●
all directors and executive officers as a group.
The amounts and percentages of common stock beneficially owned are reported on the basis of regulations of the SEC governing the determination of beneficial ownership of securities. Under the rules of the SEC, a person is deemed to be a “beneficial owner” of a security if that person has or shares voting power,” which includes the power to vote or to direct the voting of such security, or “investment power,” which includes the power to dispose of or to direct the disposition of such security. A person is also deemed to be a beneficial owner of any securities of which that person has the right to acquire beneficial ownership within 60 days. Under these rules more than one person may be deemed a beneficial owner of the same securities and a person may be deemed to be a beneficial owner of securities as to which such person has no economic interest.
Unless otherwise indicated below, each beneficial owner named in the table has sole voting and sole investment power with respect to all shares beneficially owned, subject to community property laws where applicable. The address of each beneficial owner is 500 Union Street, Suite 810, Seattle,5400 Carillon Point, Kirkland, WA 9810198033 and the address of more than 5% of common stock is detailed below.
| | | Shares Beneficially Owned | |
| Name of Beneficial Owner | | Number | | | Percentage (1) | |
| Directors and Named Executive Officers- | | | | | | |
| Marco Hegyi (2) | | | 25,000,000 | | | | 2.7 | % |
| Mark E. Scott (3) | | | 7,833,333 | | | | * | |
| Michael Fasci (4) | | | - | | | | * | |
| Tara Antal (5) | | | - | | | | * | |
| Brad Fretti (6) | | | - | | | | * | |
| Anthony J. Ciabattoni (7) | | | - | | | | * | |
| Jeff Giarraputo (8) | | | - | | | | * | |
| Joseph Barnes (9) | | | 4,800,000 | | | | * | |
| Total Directors and Officers (8 in total) | | | 37,633,333 | | | | 4.2 | % |
| | Shares Beneficially Owned |
| Name of Beneficial Owner | | |
| Directors and Named Executive Officers- | | |
| Marco Hegyi (2) | 25,000,000 | 1.0% |
| Mark E. Scott (3) | 18,666,667 | * |
| Michael E. Fasci (4) | 13,425,000 | * |
| Katherine McLain (5) | 2,000,000 | * |
| Thom Kozik (6) | 2,000,000 | * |
| Joseph Barnes (7) | 9,691,666 | * |
| Total Directors and Officers (6 in total) | 70,783,333 | 3.0% |
* Less than 1%.
(1) Based on 906,116,4962,367,634,022 shares of common stock outstanding as of December 31, 2015.
2017.
(2) Reflects the shares beneficially owned by Marco Hegyi, including warrants to purchase 25,000,00022,500,000 shares of our common stock.stock at $0.01 per share.
(3) Reflects the shares beneficially owned by Mark E. Scott, including stock option grants totaling 7,833,3335,666,667 shares that Mr. Scott has the right to acquire in sixty days.
(4) Michael Fasci was appointed Director on October 27, 2015 and Chairman ofReflects the Audit Committee on November 11, 2015.
(5) Tara Antal was appointed Director on October 27, 2015 and resigned on March 4, 2016.
(6) Brad Fretti was appointed Director on October 27, 2015 and Chairman of the Compensation Committee on November 11, 2015. Mr. Fretti resigned as Director and Chairman of the Compensation Committee on March 4, 2016.
(7) Reflects 72,222 shares of common shares beneficially owned by Mr. Ciabattoni for board services for Michael E. Fasci.
(5) Reflects the period December 19, 2013 through December 31, 2013. Mr. Ciabattoni’s shares have been issued to the Ciabattoni Living Trust, of which Mr. Ciabattoni is the Trustee. Mr. Ciabattoni resigned as Director on October 27, 2015.
(8) Reflects 72,222 shares of common shares beneficially owned by Mr. Giarraputo for board services for Katherine McLain.
(6) Reflects the period December 19, 2013 through December 31, 2013. Mr. Giarraputo resigned as Director on October 27, 2015.shares beneficially owned by Thom Kozik.
(9) (7) Reflects the shares beneficially owned by Joseph Barnes, including stock option grants totaling 4,500,0009,391,666 shares that Mr. Barnes has the right to acquire in sixty days.
| | | Shares Beneficially Owned | |
| Name and Address of Beneficial Owner | | Number | | | Percentage | |
| Greater Than 5% Ownership - | | | | | | |
| Sterling C. Scott (1) | | | 47,000,518 | | | | 5.2 | % |
| 2315 Georgia Villa Way | | | | | | | | |
| Silver Springs, MD 20902 | | | | | | | | |
| | | | | | | | | |
| CANX USA LLC (2) | | | | | | | | |
| 410 South Rampart Blvd., Suite 350 | | | 540,000,000 | | | | 37.3 | % |
| Las Vegas, NV 89145 | | | | | | (Capped at | |
| | | | | | | | 4.99 | %) |
| | | | | | | | | |
| Logic Works LLC (3) | | | 145,015,714 | | | | 14.3 | % |
| 9616 Emeraude Avenue | | | | | | (Capped at | |
| Las Vegas, NV 89147 | | | | | | | 4.99 | %) |
(1) Reflects 47,000,518 shares beneficially owned by Sterling C. Scott, and which was confirmed in Mr. Scott’s Form 13-D/A that was filed with the SEC on December 29, 2014.| | Shares Beneficially Owned |
| Name and Address of Beneficial Owner | | |
| CANX USA LLC (1) | | |
| 410 South Rampart Blvd., Suite 350 | 540,000,000 | 18.6% |
| Las Vegas, NV 89145 | | |
| | | 4.99%) |
(2)(1) Reflects a warrant to purchase common stock totaling 540,000,000 beneficially owned by CANX USA LLC. CANX does not consider themselves a control group based on the individual ownership and legal structure of CANX. Each owner has a 4.99% ownership limit and the owners cannot act as a control group.
(3)Reflects 35,714,286 shares owned by Logic Works LLC and 109,301,429 shares beneficially owned by Logic Works LLC related to Convertible Notes. Logic Works does not consider themselves a control group because Logic Works has a 4.99% ownership limit.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS, AND DIRECTOR INDEPENDENCE
Agreement and Plan of Merger with SGT Merger Corporation
On March 21, 2012, we entered into an Agreement and Plan of Merger with SGT Merger Corporation, a Nevada corporation and the Company’s wholly-owned subsidiary, SG Technologies Corp, a Nevada corporation (“SGT”), Sterling C. Scott, and W-Net Fund I, L.P., a Delaware limited partnership and current holder of the Company’s common stock. The transaction closed on April 5, 2012. At the Closing, (i) The Merger Corporation was merged with and into SGT; (ii) SGT became the Company’s wholly-owned subsidiary; and (iii) all SGT shares of common stock were exchanged for shares of our common stock and shares of a new series of our preferred stock, which was designated Series A Preferred Stock. At the Closing, the Company issued to SGT’s former stockholders 157,000,000 shares of the Company’s common stock and 3,000,000 shares of Series A Preferred Stock in exchange for the 200 shares of SGT’s common stock outstanding immediately prior to the Merger. Sterling C. Scott was appointed to the then Company’s Board of Directors and Chief Executive Officer.
After the Merger, former holders of SGT’s common stock owned in excess of 50% of our fully-diluted shares of common stock, and as a result of certain other factors, including that all members of our executive management are members of SGT’s management, SGT is deemed to be the acquiring company and the Company was deemed to be the legal acquirer for accounting purposes, and the Merger was accounted for as a reverse merger and a recapitalization in accordance with GAAP. The consolidated financial statements of GrowLife and its subsidiaries reflect the historical activity of SGT, and the historical stockholders’ equity of SGT has been retroactively restated for the equivalent number of shares received in the exchange.
Acquisition of Rocky Mountain Hydroponics, LLC and Evergreen Garden Center, LLC
On June 7, 2013, GrowLife Hydroponics completed the purchase of Rocky Mountain Hydroponics, LLC, a Colorado limited liability company (“RMC”), and Evergreen Garden Center, LLC, a Maine limited liability company (“EGC”). The effective date of the purchase was June 7, 2013. The Company purchased all of the assets and liabilities of the RMH and EGC Companies, and their retail hydroponics stores, which are located in Vail and Boulder, Colorado and Portland, Maine. The Company purchased RMC and EGC from Robert Hunt, who was appointed to the then Company’s Board of Directors and President of GrowLife Hydroponics, Inc.
Agreements with CANX USA, LLC
On July 10, 2014, we closed a Waiver and Modification Agreement, Amended and Restated Joint Venture Agreement, Secured Credit Facility and Secured Convertible Note with CANX, and Logic Works LLC, a lender and shareholder of the Company. The Agreements require the filing of a registration statement on Form S-1 within 10 days of the filing of our Form 10-Q for the period ended June 30, 2014. Due to our grey sheet trading status and other issues, we did not file the registration statement.
Previously, we entered into a Joint Venture Agreement with CANX USA LLC, a Nevada limited liability company. Under the terms of the Joint Venture Agreement, the Company and CANX formed Organic Growth International, LLC (“OGI”), a Nevada limited liability company, for the purpose of expanding the Company’s operations in its current retail hydroponic businesses and in other synergistic business verticals and facilitating additional funding for commercially financeable transactions of up to $40,000,000. In connection with the closing of the Agreement, CANX agreed to provide a commitment for funding in the amount of $1,300,000 for a GrowLife Infrastructure Funding Technology program transaction and provided additional funding under a 7% Convertible Note instrument for $1,000,000, including $500,000 each from Logic Works and China West III Investments LLC, entities that are unaffiliated with CANX and operate as separate legal entities. We initially owned a non-dilutive 45% share of OGI and we may acquire a controlling share of OGI as provided in the Joint Venture Agreement. In accordance with the Joint Venture Agreement, the Company and CANX entered into a Warrant Agreement whereby the Company delivered to CANX a warrant to purchase 140,000,000 shares of the Company common stock at a maximum strike price of $0.033 per share. Also in accordance with the Joint Venture Agreement, we issued an additional warrant to purchase 100,000,000 shares of our common stock at a maximum strike price of $0.033 per share on February 7, 2014.
On April 10, 2014, as a result of the suspension in the trading of our securities, we went into default on our 7% Convertible Notes Payable for $500,000 each from Logic Works and China West III. As a result, we accrued interest on these notes at the default rate of 24% per annum. Furthermore, as a result of being in default on these notes, the Holders could have, at their sole discretion, called these notes.
Waiver and Modification Agreement
We entered into a Waiver and Modification Agreement dated June 25, 2014 with Logic Works LLC whereby the 7% Convertible Note with Logic Works dated December 20, 2013 was modified to provide for (i) a waiver of the default under the 7% Convertible Note; (ii) a conversion price which is the lesser of (A) $0.025 or (B) twenty percent (20%) of the average of the three (3) lowest daily VWAPs occurring during the twenty (20) consecutive Trading Days immediately preceding the applicable Conversion Date on which the Holder elects to convert all or part of this Note; (iii) the filing of a registration statement on Form S-1 within 10 days of the filing of the Company’s Form 10-Q for the period ended June 30, 2014; and (iv) continuing interest of 24% per annum. China West III converted its Note into common stock on June 4, 2014. Due to our grey sheet trading status and other issues, we did not file the registration statement.
Amended and Restated Joint Venture Agreement
We entered into an Amended and Restated Joint Venture Agreement dated July 1, 2014 with CANX whereby the Joint Venture Agreement dated November 19, 2013 was modified to provide for (i) up to $12,000,000 in conditional financing subject to review by GrowLife and approval by OGI for business growth development opportunities in the legal cannabis industry for up to six months, subject to extension; (ii) up to $10,000,000 in working capital loans, with each loaning requiring approval in advance by CANX; (iii) confirmed that the five year warrants, subject to extension, at $0.033 per share for the purchase of 140,000,000 and 100,000,000 were fully earned and were not considered compensation for tax purposes by the Company; (iv) granted CANX five year warrants, subject to extension, to purchase 300,000,000 shares of common stock at the fair market price of $0.033 per share as determined by an independent appraisal; (v) warrants as defined in the Agreement related to the achievement of OGI milestones; (vi) a four year term, subject to adjustment and (vi) the filing of a registration statement on Form S-1 within 10 days of the filing of our Form 10-Q for the period ended June 30, 2014. Due to our grey sheet trading status and other issues, we did not file the registration statement.
Secured Convertible Note and Secured Credit Facility
We entered into a Secured Convertible Note and Secured Credit Facility dated June 25, 2014 with Logic Works whereby Logic Works agreed to provide up to $500,000 in funding. Each funding requires approval in advance by Logic Works, provides for interest at 6% with a default interest of 24% per annum and requires repayment by June 26, 2016. The Note is convertible into our common stock at the lesser of $0.0070 or (B) 20% of the average of the three (3) lowest daily VWAPs occurring during the 20 consecutive Trading Days immediately preceding the applicable conversion date on which Logic Works elects to convert all or part of this 6% Convertible Note, subject to adjustment as provided in the Note. The 6% Convertible Note is collateralized by our assets. We also agreed to file a registration statement on Form S-1 within 10 days of the filing of our Form 10-Q for the three months ended June 30, 2014 and have the registration statement declared effective within ninety days of the filing of our Form 10-Q for the three months ended June 30, 2014. Due to our grey sheet trading status and other issues, we did not file the registration statement.
On July 10, 2014, we closed a Waiver and Modification Agreement, Amended and Restated Joint Venture Agreement, Secured Credit Facility and Secured Convertible Note with CANX, and Logic Works LLC, a lender and shareholder of the Company. As of June 30, 2015, we have borrowed $350,000 under the Secured Convertible Note and Secured Credit Facility dated June 25, 2014 with Logic Works.
Agreements with TCA Global Credit Master Fund, LP (“TCA”)
On July 9, 2015, we closed a Securities Purchase Agreement and related agreements with TCA Global Credit Master Fund LP, an accredited investor, whereby we agreed to sell and TCA agreed to purchase up to $3,000,000 of senior secured convertible, redeemable debentures, of which $700,000 was purchased on July 9, 2015 and up to $2,300,000 may be purchased in additional closings. The closing of the Transaction occurred on July 9, 2015.
On August 6, 2015, we closed a Securities Purchase Agreement and related agreements with TCA Global Credit Master Fund LP, whereby we agreed to sell and TCA agreed to purchase a $100,000 senior secured convertible redeemable debenture and we agreed to issue and sell to TCA, from time to time, and TCA agreed to purchase from us up to $3,000,000 of the Company’s common stock pursuant to a Committed Equity Facility. The closing of the Transaction occurred on August 6, 2015.$254,000 in principal and interest payments
On October 27, 2015, we entered into an Amended and Restated Securities Purchase Agreement and related agreements with TCA Global Credit Master Fund LP whereby we agreed to sell, and TCA agreed to purchase $350,000 of senior secured convertible, redeemable debentures. We previously entered into a Securities Purchase Agreement dated as of April 30, 2015 and effective as of July 9, 2015 to purchase up to $3,000,000 in Debentures. As of October 27, 2015, we sold $1,050,000 in Debentures to TCA and up to $1,950,000 in Debentures remains for sale by us. The closing of the transaction occurred on October 27, 2015. In addition, TCA has advanced us an additional $100,000 for a total of $1,150.000. Also, on October 21, 2015 we issued 150,000 Series B Preferred Stock at a stated value equal to $10.00 per share to TCA that is convertible into our common stock. On October 21, 2015, we also issued 51 shares of Series C Preferred Stock at $0.0001 par value per share to TCA that is not convertible into our common stock. In the event of a default under the Amended and Restated TCA Transaction Documents, TCA can exercise voting control over our common stock with their Series C Preferred Stock voting rights
As of April 14, 2016, we are in default on our repayment obligations in our Agreements with TCA and owe TCA approximately $254,000 in principal and interest payments. We are working to resolve these issues.
Failure to operate in accordance with the Agreements with TCA could result in the cancellation of these agreements, result in foreclosure on our assets in event of default and would have a material adverse effect on our business, results of operations or financial condition.
The Debentures contain a 4.99% beneficial ownership limitation which prevents TCA from being considered a control group under SEC rules. The Company does not consider TCA a control person under SEC rules and this transaction is not a related party transaction.
Review and Approval of Related Person Transactions
We have operated under a Code of Conduct for many years. Our Code of Conduct requires all employees, officers and directors, without exception, to avoid the engagement in activities or relationships that conflict, or would be perceived to conflict, with the Company’s interests or adversely affect its reputation. It is understood, however, that certain relationships or transactions may arise that would be deemed acceptable and appropriate upon full disclosure of the transaction, following review and approval to ensure there is a legitimate business reason for the transaction and that the terms of the transaction are no less favorable to the Company than could be obtained from an unrelated person.
The Audit Committee is responsible for reviewing and approving all transactions with related persons. The Company has not adopted a written policy for reviewing related person transactions. The Company reviews all relationships and transactions in which the Company and our directors and executive officers or their immediate family members are participants to determine whether such persons have a direct or indirect material interest. As required under SEC rules, transactions that are determined to be directly or indirectly material to the Company or a related person are disclosed.
Related Party Transactions
Since January 1, 2014, we have engaged inPlease see the following reportable transactions with our directors, executive officers, holdersCANX, LLC and Logic Works in Note 4 and Chicago Venture Partners, L.P. discussed in Notes 7, 8, 10 and 14.
Transactions with an Entity Controlled by Marco Hegyi
On April 15, 2016, the Company issued 1,000,000 shares of more than 5% of our voting securities, and affiliates or immediately family members of our directors, executive officers and holders of more than 5% of our voting securities.
Transactionits common stock to an entity affiliated with Marco Hegyi, our Chief Executive Officer, pursuant to a conversion of debt for $20,000. The shares were valued at the fair market price of $0.02 per share.
On October 12, 2016, the Company issued 4,000,000 shares of its common stock to an entity affiliated with Marco Hegyi, our Chief Executive Officer, pursuant to a conversion of debt for $40,000. The shares were valued at the fair market price of $0.01 per share.
On October 21, 2016, we entered into Agreement with Marco Hegyi pursuant to which the Company engaged Mr. Hegyi warrantas its Chief Executive Officer through October 20, 2018. Mr. Hegyi’s previous Employment Agreement was dated December 4, 2013 and which is set to expire on December 4, 2016. Mr. Hegyi received a Warrant to purchase up to twenty five million10,000,000 shares of the Company’sour common stock at an exercise price of $0.08$0.01 per share was reducedshare. In addition, Mr. Hegyi received Warrants to purchase up to 10,000,000 shares of our common stock at an exercise price of $0.01 per share which vest on December 18, 2015.October 21, 2017 and 2018. The Warrants are exercisable for 5 years.
TransactionTransactions with an Entity Controlled by Mark E. Scott
An entity controlled by Mr. Scott received an option to purchase sixteen million shares of the Company’sour common stock at an exercise price of $0.07 per share was reduced to $0.01 per share on December 18, 2015. Two million shares vested on August 17, 2015 with the Company’s resolution of the class action lawsuits. An additional two million share stock option vest on April 18, 2016 upon the Company securing a market maker with an approved 15c2-11 resulting in the Company’s relisting on OTCBB.
Loans and Advances from Sterling C.On January 4, 2016, we issued 3,000,000 shares of its common stock to an entity affiliated with Mark E. Scott, Chief Financial Officer, pursuant to a conversion of debt for $30,000. The shares were valued at the fair market price of $0.01 per share.
On October 21, 2016, Mr. Scott advanced various amounts to us. Ascancelled stock option grants totaling 12,000,000 shares of December 31, 2011, the amount due the then CEO was $183,103, and additional advances of $98,897 were made to us through April 5, 2012. our common stock at $0.01 per share. Mr. Scott has 4,000,000 share stock option grants which are fully vested.
On April 5, 2012,October 21, 2016, Mr. Scott converted $282,000$40,000 in deferred compensation into 4,000,000 shares of these advances into a 6% senior convertible note. Mr. Scott made further advances duringour common stock at $0.01 per share. The price per share was based on the year ended December 31, 2012 which were converted into the 6% senior convertible note. As of December 31, 2013, total amount owed tothirty-day trailing average.
On October 21, 2016, Mr. Scott was $453,932, which consisted of $413,680 in principal and $40,252 in accrued interest. As of September 10, 2014, the outstanding principal balance on Mr. Scott’s 6% convertible note was $413,680 and accrued interest were sold to two parties not related to us.
Investment in Vape Holdings, Inc.
In May 2013, we made an investment in the amount of $1,160 in Vape Holdings, Inc., a Nevada corporation, and received 200,428 shares.
Sterling C. Scott, our then Chief Executive Officer, also owned 257,320granted 6,000,000 shares of Vape’sour common stock. Furthermore, the former President of GrowLife, Inc., Kyle Tracey, was the Chief Executive Officer of Vape. As a result, we deemed Vape to be a related party and therefore has recorded its investment in Vape as an “Investment in a related party” on its balance sheet.
stock at $0.01 per share. The value of our investment in Vape as of December 31, 2013 was $5.60price per share or $1,122,397. We sold 200,428was based on the thirty-day trailing average.
On October 15, 2017, an entity controlled by Mr. Scott was granted an option to purchase 12,000,000 shares of Vape’scommon stock at an exercise price of $0.006 per share. The stock option grant vests quarterly over three years and is exercisable for 5 years. The stock option grant was valued at $18,000.
Transactions with Michael E. Fasci
On January 27, 2016, we issued 1,500,000 shares of its common stock during the year ended December 31, 2014 for net proceeds of $186,791 which was recorded as “other income” in the statement of operations. As of December 31, 2014, we recorded a $1,122,397 loss in the value of its investment in Vape by decreasing its “Investment in a related party” balance sheet account while also recording a corresponding decrease to “Unrealized loss on investment in a related party” in the Stockholders’ deficit section of our balance sheet.
Agreement with Jeff Giarraputo
On February 26, 2014, we engaged Jeff Giarraputo,Michael Fasci, a member of the Board of Directors, as an advisorfor director services. The shares were valued at the fair market price of $0.01 per share. On May 25, 2016, we issued 2,500,000 shares of its common stock to us for six months effective asMichael Fasci, a member of February 15, 2014. Mr. Giarraputo agreed to provide marketing, business development, and general management to us related to the cannabis industry. As compensation for these services, and subject to approval by our Board of Directors, for director services. The shares were valued at the fair market price of $0.02 per share. On October 21, 2016, we were expectedentered into a Consulting Agreement with an entity controlled by Michael E. Fasci, a Director. Mr. Fasci is to grantprovide services related to lender management, financing and acquisitions. Mr. Giarraputo a stock option to purchaseFasci’s compensation is 2,000,000 shares of our common stock valued at $0.31$0.01 per share which represents the 30-day trailing averageand to be issued on April 21, 2017 and October 21, 2017.
On February 4, 2017, we issued 1,000,000 shares of our common stock. Allstock to Michael E. Fasci pursuant to a service award for $15,000. The shares subject towere valued at the option vested over a six-month period beginning on the datefair market price of engagement and are subject to the terms and conditions$0.015 per share. On April 27, 2017, we issued 1,000,000 shares of our 2011 Stock Incentive Plan including vesting requirements.common stock to Michael E. Fasci pursuant to a service award for $9,000. The shares were valued at the fair market price of $0.009 per share. On August 19, 2014,April 27, 2017, we issued 2,000,000 shares of our common stock to Michael E. Fasci pursuant to a consulting agreement for $18,000. The shares were valued at the Parties cancelled this Agreementfair market price of $0.009 per share. On November 2, 2017, we issued 2,000,000 shares of our common stock to Michael E. Fasci pursuant to a consulting agreement for $10,000. The shares were valued at the fair market price of $0.005 per share.
Transactions with Katherine McLain
Ms. Katherine McLain was appointed as a director on February 14, 2017. On June 28, 2017, we issued 1,000,000 shares of our common stock to Ms. McLain pursuant to a service award for $9,000. The shares were valued at the fair market price of $0.009 per share. On October 23, 2017, we issued 1,000,000 shares of our common stock to Ms. McLain pursuant to a service award for $5,000. The shares were valued at the fair market price of $0.005 per share.
Transaction with Thom Kozik
Mr. Kozik was appointed as a director on October 5, 2017. On October 23, 2017, we issued 2,000,000 shares of our common stock to Mr. Kozik pursuant to a service award for $10,000. The shares were valued at the fair market price of $0.005 per share.
Transaction with Joseph Barnes
On October 25, 2017, Mr. Barnes was granted an option to purchase 10,000,000 shares of common stock at an exercise price of $0.007 per share. The stock option grant vests quarterly over three years and theis exercisable for 5 years. The stock option grant was not issued.valued at $24,000.
Director Independence
The Board has affirmatively determined that Michael E. Fasci is, Katherine McLain, an Thom Kozik are independent as of December 31, 2015.2017. For purposes of making that determination, the Board used NASDAQ’s Listing Rules even though the Company is not currently listed on NASDAQ. The Board expects to appoint independent directors during 2016. Subsequent to the fiscal year-ended December 31, 2015, Mr. Fasci was appointed as Secretary of the Company and is no longer deemed independent under this standard.
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
Audit Committee Pre-Approval Policy
The Audit Committee has established a pre-approval policy and procedures for audit, audit-related and tax services that can be performed by the independent auditors without specific authorization from the Audit Committee subject to certain restrictions. The policy sets out the specific services pre-approved by the Audit Committee and the applicable limitations, while ensuring the independence of the independent auditors to audit the Company's financial statements is not impaired. The pre-approval policy does not include a delegation to management of the Audit Committee’s responsibilities under the Exchange Act. During the year ended December 31, 2015,2017, the Audit Committee pre-approved all audit and permissible non-audit services provided by our independent auditors.
Service Fees Paid to the Independent Registered Public Accounting Firm
On August 7, 2015,July 13, 2016, we dismissed Anton and Chia,PMB Helin Donovan LLP as our independent registered public accounting firm. Anton and Chia LLP performed an annual audit of our financial statements for the years ended December 31, 2013 and 2012. On August 7, 2015July 13, 2016 we engaged the services of PMB Helin DonovanSD Mayer and Associates, LLP as our new independent registered public accounting firm to audit our consolidated financial statements as of December 31, 20152017 and 20142016 and for the yearyears then ended. The decision to change accountants was approved by our Audit Committee.
The following is the breakdown of aggregate fees paid for the last two fiscal years:
| | | |
| | | |
| Audit fees | $73,371 | $52,500 |
| Audit related fees | 21,000 | 10,000 |
| Tax fees | 12,700 | 20,355 |
| All other fees | 25,570 | 12,500 |
| | $132,641 | $95,355 |
| | | Year Ended | | | Year Ended | |
| | | December 31, 2015 | | | December 31, 2014 | |
| Audit fees | | $ | 67,225 | | | $ | 70,007 | |
| Audit related fees | | | 26,480 | | | | 30,024 | |
| Tax fees | | | - | | | | - | |
| All other fees | | | 6,050 | | | | 17,542 | |
| | | | | | | | | |
| | | $ | 99,755 | | | $ | 117,573 | |
- “Audit“Audit Fees” are fees paid for to Mayer and PMB for professional services for the audit of our financial statements.
- “Audit-Related
–
“Audit-Related fees” are fees paid to Mayer for professional services not included in the first two categories, specifically, SAS 100 reviews, SEC filings and consents, and accounting consultations on matters addressed during the audit or interim reviews, and review work related to quarterly filings.
- “Tax
–
“Tax Fees” are fees primarily for tax compliance paid to Mayer and PMB in connection with filing US income tax returns.
- “All
–
“All other fees for 2015were paid to Mayer and PMB related to the review of registration statements on Form S-1.
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
(a) FINANCIAL STATEMENTS:
The Company’s financial statements, as indicated by the Index to Consolidated Financial Statements set forth below, begin on page F-1 of this Form 10-K, and are hereby incorporated by reference. Financial statement schedules have been omitted because they are not applicable or the required information is included in the financial statements or notes thereto.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
| Title of Document | | Page |
| Report of SD Mayer and Associates, LLP | | |
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| 2016 | | |
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| 2016 | | |
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| 2016 | | |
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| 2016 | | |
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Exhibit No. Description No.
| Description |
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3.1 | Certificate of Incorporation. Filed as an exhibit to the Company’s Form 10-SB General Form for Registration of Securities of Small Business Issuers filed with the SEC on December 7, 2007, and incorporated by reference. |
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3.2 | Second Amended and Restated Bylaws of the Company. Filed as an exhibit to the Company’s Form 8-K filed with the SEC on October 23, 2015, and incorporated by reference. |
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4.1 | GrowLife, Inc. 2011 Stock Incentive Plan filed as an exhibit to the Company’s Registration Statement on Form S-1 filed with the SEC on June 9, 2011, and incorporated by reference. |
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10.1 | Agreement and Plan of Merger dated March 21, 2012, by and between Phototron Holdings, Inc., SGT Merger Corporation, SG Technologies Corp, Sterling C. Scott and W-Net Fund I, L.P. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on March 22, 2012, and hereby incorporated by reference. |
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10.2 | Securities Purchase and Exchange Agreement, dated March 16, 2012, by and between Phototron Holdings, Inc., W-Net Fund I, L.P., and Europa International Inc. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on March 22, 2012, and hereby incorporated by reference. |
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10.3 | Security Agreement, dated March 16, 2012, by and between Phototron Holdings, Inc., W-Net Fund I, L.P., Europa International Inc., GrowLife, Inc., and Phototron, Inc. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on March 22, 2012, and hereby incorporated by reference. |
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10.4 | Intellectual Property Security Agreement, dated March 16, 2012, by and between Phototron Holdings, Inc., W-Net Fund I, L.P., Europa International Inc., GrowLife, Inc., and Phototron, Inc. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on March 22, 2012, and hereby incorporated by reference. |
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10.5 | Form of 6% Senior Secured Convertible Note. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on March 22, 2012, and hereby incorporated by reference. |
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10.6 | Form of 7% Convertible Note. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on October 11, 2013, and hereby incorporated by reference. |
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10.7 | Securities Purchase Agreement dated June 7, 2013, by and between GrowLife, Inc., GrowLife Hydroponics, Inc., Sequoia, LLC, Pressure Drop Holdings, LLC and Sachin Karia. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on June 7, 2013, and hereby incorporated by reference. |
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10.8 | Revolving Promissory Note dated June 7, 2013 issued by GrowLife, Inc. in favor of W-Net Fund I, L.P. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on June 7, 2013, and hereby incorporated by reference. |
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10.9 | Form of 12% Senior Secured Convertible Note. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on June 7, 2013, and hereby incorporated by reference. |
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10.1 | Security Agreement dated June 7, 2013, by and between GrowLife, Inc., Sequoia, LLC, Pressure Drop Holdings, LLC, Sachin Karia and Robert E. Hunt. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on June 7, 2013, and hereby incorporated by reference. |
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10.11 | Joint Venture Agreement dated November 19, 2013 by and between GrowLife, Inc. and CANX USA LLC. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on November 21, 2013, and hereby incorporated by reference. |
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10.12 | Warrant Agreement by and between GrowLife, Inc. and CANX USA LLC. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on November 21, 2013, and hereby incorporated by reference. |
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10.13 | 7% Convertible Note by and between GrowLife, Inc. and CANX USA LLC. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on November 21, 2013, and hereby incorporated by reference.
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10.14 | Registration Rights Agreement by and between GrowLife, Inc. and CANX USA LLC. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on November 21, 2013, and hereby incorporated by reference. |
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10.15 | Commercial Lease Agreement dated March 8, 2013 by and between Evergreen Garden Center LLC and William C. Rowell Family Limited Partnership for our Portland, Maine store. Filed as an exhibit to the Company’s Form 10-K and filed with the SEC on September 30, 2015, and incorporated by reference. |
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10.16 | Lease dated October 21, 2013 by and between GrowLife Hydroponics, Inc. and Stone Creek Business Center Ltd. for our Avon (Vail), Colorado store. Filed as an exhibit to the Company’s Form 10-K and filed with the SEC on September 30, 2015, and incorporated by reference. |
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10.17 | Retail Lease Agreement dated January 23, 2014 by and between GrowLife Hydroponics, Inc. and W-ADP Meadows VII LLC for our Boulder, Colorado store. Filed as an exhibit to the Company’s Form 10-K and filed with the SEC on September 30, 2015, and incorporated by reference. |
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10.18 | Amended and Restated 6% Senior Secured Convertible Note dated September 10, 2014 by and between GrowLife, Inc. and Andrew J. Gentile. Filed as an exhibit to the Company’s Form 10-K and filed with the SEC on September 30, 2015, and incorporated by reference.
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10.19 | Amended and Restated 6% Senior Secured Convertible Note dated September 10, 2014 by and between GrowLife, Inc. and Jordan W. Scott. Filed as an exhibit to the Company’s Form 10-K and filed with the SEC on September 30, 2015, and incorporated by reference.
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10.2 | Warrant related to CANX USA LLC Joint Development Agreement dated November 19, 2013. Filed as an exhibit to the Company’s Form 10-K and filed with the SEC on November 21, 2014, and incorporated by reference.
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10.21 | Executive Services Agreement dated June 7, 2013 by and between GrowLife, Inc. and Robert Hunt. Filed as an exhibit to the Company’s Form 8-K/A2 dated June 7, 2013 and filed with the SEC on June 25, 2014, and hereby incorporated by reference. |
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10.22 | NonCompetition, NonSolicitation and NonDisclosure Agreement dated June 7, 2013 with Robert Hunt. Filed as an exhibit to the Company’s Form 8-K/A2 dated June 7, 2013 and filed with the SEC on June 25, 2014, and hereby incorporated by reference. |
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10.23 | Executive Employment Agreement dated November 3, 2013 by and between GrowLife, Inc. and Sterling Scott. Attached as an exhibit to the Company’s Form 8-K dated November 3, 2013 and filed with the SEC on June 25, 2014, and hereby incorporated by reference. |
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10.24 | Executive Employment Agreement dated November 3, 2013 by and between GrowLife, Inc. and John Genesi. Attached as an exhibit to the Company’s Form 8-K dated November 3, 2013 and filed with the SEC on June 25, 2014, and hereby incorporated by reference. |
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10.25 | Employment Agreement for Marco Hegyi dated December 4, 2013. Attached as an exhibit to the Company’s Form 8-K/A dated December 9, 2013 and filed with the SEC on June 20, 2014, and hereby incorporated by reference. |
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10.26 | Amended Employment Agreement for Marco Hegyi dated June 20, 2014. Attached as an exhibit to the Company’s Form 8-K dated June 20, 2014 and filed with the SEC on June 20, 2014, and hereby incorporated by reference. |
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10.27 | Restricted Stock Cancellation Agreement, dated April 25, 2014, by and between the Company and Eric Shevin. Attached as an exhibit to the Company’s Form 8-K dated April 25, 2014 and filed with the SEC on April 30, 2014, and hereby incorporated by reference. |
| | |
10.28 | Restricted Stock Cancellation Agreement, dated April 25, 2014, by and between the Company and Alan Hammer. Attached as an exhibit to the Company’s Form 8-K dated April 25, 2014 and filed with the SEC on April 30, 2014, and hereby incorporated by reference. |
| | |
10.29 | Restricted Stock Cancellation Agreement, dated April 25, 2014, by and between the Company and Tony Ciabattoni. Attached as an exhibit to the Company’s Form 8-K dated April 25, 2014 and filed with the SEC on April 30, 2014, and hereby incorporated by reference. |
| | |
10.3 | Consulting Letter by and between GrowLife, Inc. and Mark Scott Consulting Letter dated July 31, 2014. Filed as an exhibit to the Company’s Form 8-K filed with the SEC on August 6, 2014, and hereby incorporated by reference. |
| | |
10.31 | Waiver and Modification Agreement dated June 25, 2014 by and between GrowLife, Inc. and Logic Works LLC. Filed as an Exhibit to the Company’s Form 8-K/A and filed with the SEC on August 18, 2014, and hereby incorporated by reference. |
| | |
10.32 | Amended and Restated Joint Venture Agreement dated July 1, 2013 by and between GrowLife, Inc. and CANX USA LLC. Filed as an Exhibit to the Company’s Form 8-K/A and filed with the SEC on August 18, 2014, and hereby incorporated by reference. |
| | |
10.33 | Secured Credit Facility and Secured Convertible Note dated June 25, 2014 by and between GrowLife, Inc. and Logic Works LLC. Filed as an Exhibit to the Company’s Form 8-K/A and filed with the SEC on August 18, 2014, and hereby incorporated by reference. |
| | |
10.34 | Closing Certificate dated July 10, 2014 by and between GrowLife, Inc. and CANX USA LLC and Logic Works LLC. Filed as an Exhibit to the Company’s Form 8-K/A and filed with the SEC on August 18, 2014, and hereby incorporated by reference. |
| | |
10.35 | Form of Warrant by and between GrowLife, Inc. and CANX USA LLC. Filed as an exhibit to the Company’s Form 8-K/A and filed with the SEC on August 18, 2014, and hereby incorporated by reference. |
| | |
10.36 | Settlement Agreement and Waiver of Default dated June 19, 2014 by and between GrowLife, Inc. and Forglen LLC. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on July 18, 2014, and hereby incorporated by reference. |
| | |
10.37 | Severance Agreement dated July 15, 2014 by and between GrowLife, Inc. and John Genesi. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on July 18, 2014, and hereby incorporated by reference. |
| | |
10.38 | Joseph Barnes Promotion Letter dated October 10, 2014. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on October 14, 2014, and hereby incorporated by reference. |
| | |
10.39 | Settlement Agreement and Release dated October 17, 2014 by and between GrowLife, Inc. and Robert Hunt. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on October 21, 2014, and hereby incorporated by reference. |
| | |
10.4 | Notice of Settlement Agreement dated February 9, 2015. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on February 12, 2015, and hereby incorporated by reference. |
| | |
10.41 | Amendment 1 to Amended and Restated 6% Senior Secured Convertible Note with Andrew J. Gentile. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on April 8, 2015, and hereby incorporated by reference. |
| | |
10.42 | Amendment 1 to Amended and Restated 6% Senior Secured Convertible Note with Jordan W. Scott. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on April 8, 2015, and hereby incorporated by reference. |
| |
10.43 | Stipulation and Agreement of Compromise, Settlement and Release of the Derivative Actions dated April 6, 2015. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on June 17, 2015, and hereby incorporated by reference. |
| | |
10.44 | Securities Purchase Agreement, dated July 9, 2015, entered into by and between GrowLife, Inc., its subsidiaries and TCA Global Credit Master Fund LP. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on July 16, 2015, and hereby incorporated by reference. |
| |
10.45 | Senior Secured, Convertible, Redeemable Debenture entered into by and between GrowLife, Inc. and TCA Global Credit Master Fund LP. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on July 16, 2015, and hereby incorporated by reference. |
| | |
10.46 | Form of Security Agreement entered into by and between GrowLife, Inc. and its subsidiaries, respectively, and TCA Global Credit Master Fund LP. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on July 16, 2015, and hereby incorporated by reference. |
|
10.47 | Form of Guaranty Agreement entered into by and between GrowLife, Inc.’s subsidiaries, respectively, and TCA Global Credit Master Fund LP. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on July 16, 2015, and hereby incorporated by reference. |
| | |
10.48 | Form of Pledge Agreement entered into by and between GrowLife, Inc. and TCA Global Credit Master Fund LP. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on July 16, 2015, and hereby incorporated by reference. |
| | |
10.49 | Intercreditor Agreement, dated July 9, 2015, entered into by and between GrowLife, Inc., its subsidiaries, Logic Works LLC and TCA Global Credit Master Fund LP. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on July 16, 2015, and hereby incorporated by reference. |
| |
10.50 | Form of Subordination Agreement, dated July 9, 2015, entered into by and between GrowLife, Inc., its subsidiaries, TCA Global Credit Master Fund LP and Jordan Scott and Andrew Gentile, respectively. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on July 16, 2015, and hereby incorporated by reference. |
| | |
10.51 | Form of Amendment No. 2 to 6% Senior Secured Convertible Note, dated July 9, 2015, entered into by and between GrowLife, Inc. and Jordan Scott and Andrew Gentile, respectively. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on July 16, 2015, and hereby incorporated by reference. |
| | |
10.52 | Investment Banking Letter dated August 27, 2014 by and between GrowLife, Inc. and D. Weckstein & Co. Inc. Filed herewith. |
|
10.53 | Securities Purchase Agreement dated August 6, 2015 and entered into by and between GrowLife, Inc., its subsidiaries and TCA Global Credit Master Fund LP. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on August 12, 2015, and hereby incorporated by reference. |
| | |
10.54 | Senior Secured Convertible Redeemable Debenture dated August 6, 2015 and entered into by and between GrowLife, Inc., its subsidiaries and TCA Global Credit Master Fund LP. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on August 12, 2015, and hereby incorporated by reference. |
| | |
Certificate of Amendment of Certificate of Incorporation of GrowLife, Inc. dated October 23, 2017 to increase the authorized shares of Common Stock from 3,000,000,000 to 6,000,000,000 shares. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on October 25, 2017, and hereby incorporated by reference.
10.55 | Committed Equity Facility dated August 6, 2015 entered into by and between GrowLife, Inc. and TCA Global Credit Master Fund LP. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on August 12, 2015, and hereby incorporated by reference. |
| | |
10.56 | Registration Rights Agreement dated August 6, 2015 entered into by and between GrowLife, Inc. and TCA Global Credit Master Fund LP. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on August 12, 2015, and hereby incorporated by reference. |
| | |
10.57 | Authorization Agreement dated August 6, 2015 entered into by and between GrowLife, Inc., its subsidiaries and TCA Global Credit Master Fund LP. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on August 12, 2015, and hereby incorporated by reference. |
| | |
10.58 | Amendment to Employment Agreement by and between GrowLife Inc. and Marco Hegyi dated January 25, 2016 but effective December 18, 2015. |
| | |
14.1 | Code of Conduct and Ethics dated May 15, 2014. Attached as an exhibit to the Company’s Form 8-K dated June 3, 2014 and filed with the SEC on June 9, 2014, and hereby incorporated by reference. |
| | |
21.1 | Subsidiaries of the Registrant. Filed herewith. |
| | |
99.1 | Amended and Restated Audit Committee Charter dated October 16, 2015. Attached as an exhibit to the Company’s Form 8-K filed with the SEC on October 26, 2015, and hereby incorporated by reference. |
| | |
99.2 | Compensation Committee Charter dated May 15, 2014. Attached as an exhibit to the Company’s Form 8-K dated June 3, 2014 and filed with the SEC on June 9, 2014, and hereby incorporated by reference. |
| | |
99.3 | Amended and Restated Nominations and Governance Charter dated October 16, 2015. Attached as an exhibit to the Company’s Form 8-K filed with the SEC on October 26, 2015, and hereby incorporated by reference. |
| | |
99.4 | Amended and Restated Insider Trading Policy, dated October 16, 2015. Attached as an exhibit to the Company’s Form 8-K filed with the SEC on October 26, 2015, and hereby incorporated by reference. |
| | |
101 | Interactive data files pursuant to Rule 405 of Regulation S-T. Pursuant to Rule 406T of Regulation S-T, these interactive data files are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933 or Section 18 of the Securities Exchange Act of 1934 and otherwise are not subject to liability. |
101.INS* XBRL Instance Document
101.SCH* XBRL Taxonomy Extension Schema Document
101.CAL* XBRL Taxonomy Extension Calculation Linkbase Document
101.LAB* XBRL Taxonomy Extension Labels Linkbase Document
101.PRE* XBRL Taxonomy Extension Presentation Linkbase Document
101.DEF* XBRL Taxonomy Extension Definition Linkbase Document
*Filed Herewith. Pursuant to Regulation S-T, this interactive data file is deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, is deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, and otherwise is not subject to liability under these sections.
Report of Independent Registered Public Accounting Firm
The Board of Directors and Shareholders
GrowLife, Inc.:
We have audited the accompanying consolidated balance sheets of GrowLife, Inc. (the “Company”) as of December 31, 20152017 and 20142016 and the related consolidated statements of operations, stockholders’ deficit, and cash flowflows for the years ended December 31, 20152017 and 2014.2016. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audit.audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the auditaudits to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, 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. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit providesaudits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of GrowLife, Inc. as of December 31, 20152017 and 2014,2016, and the results of its consolidated operations and its cash flows for the years ended December 31, 20152017 and 20142016 in conformity with generally accepted accounting principles in the United States of America.
The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 2 to the consolidated financial statements, the Company has sustained a net loss from operations and has an accumulated deficit since inception. These factors raise substantial doubt about the Company’s ability to continue as a going concern. Management’s plans in this regard are also described in Note 2. The consolidated `financial statements do not include any adjustments that might result from the outcome of this uncertainty.
PMB Helin Donovan, LLP
/s/ PMB Helin Donovan, LLP
April 14, 2016
SD Mayer & Associates, LLP /s/ SD Mayer & Associates, LLP March 28, 2018 Seattle, WA |
GROWLIFE, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS |
| CONSOLIDATED BALANCE SHEETS |
| | | December 31, 2015 | | | December 31, 2014 | |
| ASSETS | | | | | | |
| | | | | | | |
| CURRENT ASSETS: | | | | | | |
| Cash and cash equivalents | | $ | 60,362 | | | $ | 286,238 | |
| Inventory, net | | | 398,439 | | | | 883,350 | |
| Prepaid expenses | | | - | | | | 41,791 | |
| Deposits | | | 16,754 | | | | 33,584 | |
| Total current assets | | | 475,555 | | | | 1,244,963 | |
| | | | | | | | | |
| EQUIPMENT, NET | | | 10,327 | | | | 24,042 | |
| | | | | | | | | |
| OTHER ASSETS | | | | | | | | |
| Intangible assets, net | | | 243,604 | | | | 353,752 | |
| Goodwill | | | 739,000 | | | | 739,000 | |
| | | | | | | | | |
| TOTAL ASSETS | | $ | 1,468,486 | | | $ | 2,361,757 | |
| | | | | | | | | |
| LIABILITIES AND STOCKHOLDERS' (DEFICIT) | | | | | | | | |
| | | | | | | | | |
| CURRENT LIABILITIES: | | | | | | | | |
| Accounts payable - trade | | $ | 1,272,572 | | | $ | 1,129,130 | |
| Accounts payable - related parties | | | 71,920 | | | | - | |
| Accrued expenses | | | 121,765 | | | | 276,225 | |
| Accrued expenses - related parties | | | 53,287 | | | | - | |
| Derivative liability | | | 1,377,175 | | | | 2,100,915 | |
| Current portion of convertible notes payable | | | 2,287,868 | | | | 887,272 | |
| Deferred revenue | | | 25,000 | | | | 108,799 | |
| Total current liabilities | | | 5,209,587 | | | | 4,502,341 | |
| | | | | | | | | |
| LONG TERM LIABILITIES: | | | | | | | | |
| Convertible notes payable | | | - | | | | 98,333 | |
| | | | | | | | | |
| COMMITMENTS AND CONTINGENCIES | | | 2,000,000 | | | | - | |
| | | | | | | | | |
| MEZZANINE EQUITY: | | | | | | | | |
| | | | | | | | | |
Contingently redeemable common stock-15,000,000 shares issued and outstanding at 12/31/15 and 12/31/14, respectively | | | 300,000 | | | | - | |
| | | | | | | | | |
| STOCKHOLDERS' DEFICIT | | | | | | |
| Preferred stock - $0.0001 par value, 10,000,000 shares authorized, no shares | | | | | | |
| issued and outstanding | | | - | | | | - | |
| Series B Convertible Preferred stock - $0.0001 par value, 150,000 shares authorized, | | | | | | | | |
| 150,000 shares issued and outstanding at 12/31/2015 and 12/31/2014, respectively | | | 15 | | | | - | |
| Series C Convertible Preferred stock - $0.0001 par value, 51 shares authorized, | | | | | | | | |
| 51 shares issued and outstanding at 12/31/2015 and 12/31/2014, respectively | | | - | | | | - | |
| Common stock - $0.0001 par value, 3,000,000,000 shares authorized, 891,116,496 | | | | | | | | |
| and 879,343,771 shares issued and outstanding at 12/31/2015 and 12/31/2014, respectively | | | 89,098 | | | | 87,936 | |
| Additional paid in capital | | | 110,585,434 | | | | 108,699,950 | |
| Accumulated deficit | | | (116,715,648 | ) | | | (111,026,803 | ) |
| Total stockholders' deficit | | | (6,041,101 | ) | | | (2,238,917 | ) |
| | | | | | | | | |
| TOTAL LIABILITIES AND STOCKHOLDERS' DEFICIT | | $ | 1,468,486 | | | $ | 2,361,757 | |
| | | |
| ASSETS | | |
| | | |
| CURRENT ASSETS: | | |
| Cash and cash equivalents | $69,191 | $103,070 |
| Inventory, net | 465,678 | 418,453 |
| Deposits | 24,308 | 11,163 |
| Total current assets | 559,177 | 532,686 |
| | | |
| EQUIPMENT, NET | 302,689 | 1,890 |
| | | |
| TOTAL ASSETS | $861,866 | $534,576 |
| | | |
| LIABILITIES AND STOCKHOLDERS' (DEFICIT) | | |
| | | |
| CURRENT LIABILITIES: | | |
| Accounts payable - trade | $821,398 | $1,529,919 |
| Accounts payable - related parties | - | 10,952 |
| Accrued expenses | 133,988 | 132,656 |
| Accrued expenses - related parties | 37,776 | 19,605 |
| Derivative liability | 2,660,167 | 2,701,559 |
| Current portion of convertible notes payable | 3,015,021 | 2,798,800 |
| Deferred revenue | 10,000 | 47,995 |
| Total current liabilities | 6,678,350 | 7,241,486 |
| | | |
| COMMITMENTS AND CONTINGENCIES | - | - |
| | | |
| STOCKHOLDERS' DEFICIT | | |
| Preferred stock - $0.0001 par value, 10,000,000 shares authorized, no shares | | |
| issued and outstanding | - | - |
| Series B Convertible Preferred stock - $0.0001 par value, 150,000 shares authorized, no | | |
| shares issued and outstanding | - | - |
| Series C Convertible Preferred stock - $0.0001 par value, 51 shares authorized, no shares | | |
| and 51 shares issued and outstanding at 12/31/2017 and 12/31/2016, respectively | - | - |
| Common stock - $0.0001 par value, 6,000,000,000 shares authorized, 2,367,634,022 | | |
| and 1,656,120,083 shares issued and outstanding at 12/31/2017 and 12/31/2016, respectively | 236,752 | 165,600 |
| Additional paid in capital | 123,678,069 | 117,537,822 |
| Accumulated deficit | (129,731,305) | (124,410,332) |
| Total stockholders' deficit | (5,816,484) | (6,706,910) |
| | | |
| TOTAL LIABILITIES AND STOCKHOLDERS' DEFICIT | $861,866 | $534,576 |
The accompanying notes are an integral part of these consolidated financial statements.
GROWLIFE, INC. AND SUBSIDIARIES |
| CONSOLIDATED STATEMENTS OF OPERATIONS |
| | |
| | | |
| NET REVENUE | $2,452,104 | $1,231,281 |
| COST OF GOODS SOLD | 2,180,603 | 1,275,580 |
| GROSS PROFIT | 271,501 | (44,299) |
| GENERAL AND ADMINISTRATIVE EXPENSES | 2,320,455 | 1,888,537 |
| IMPAIRMENT OF LONG-LIVED ASSETS | - | 876,056 |
| OPERATING LOSS | (2,048,954) | (2,808,892) |
| | | |
| OTHER INCOME (EXPENSE): | | |
| Change in fair value of derivative | 496,306 | (1,324,384) |
| Interest expense, net | (1,281,083) | (816,750) |
| Other (expense) income | 15,577 | 144,882 |
| Loss on debt conversions | (2,502,819) | (2,889,540) |
| Total other (expense) income | (3,272,019) | (4,885,792) |
| | | |
| (LOSS) BEFORE INCOME TAXES | (5,320,974) | (7,694,684) |
| | | |
| Income taxes - current benefit | - | - |
| | | |
| NET (LOSS) | $(5,320,974) | $(7,694,684) |
| | | |
| Basic and diluted (loss) per share | $(0.00) | $(0.01) |
| | | |
| Weighted average shares of common stock outstanding- basic and diluted | 2,044,521,389 | 1,197,565,907 |
| | | Years Ended, | |
| | | December 31, 2015 | | | December 31, 2014 | |
| | | | | | | |
| NET REVENUE | | $ | 3,499,642 | | | $ | 8,537,676 | |
| COST OF GOODS SOLD | | | 2,980,503 | | | | 7,172,376 | |
| GROSS PROFIT | | | 519,139 | | | | 1,365,300 | |
| GENERAL AND ADMINISTRATIVE EXPENSES | | | 2,684,107 | | | | 7,851,370 | |
| OPERATING LOSS | | | (2,164,968 | ) | | | (6,486,070 | ) |
| | | | | | | | | |
| OTHER INCOME (EXPENSE): | | | | | | | | |
| Change in fair value of derivative | | | 1,678,541 | | | | (16,252,823 | ) |
| Interest expense, net | | | (1,118,635 | ) | | | (64,073,997 | ) |
| Other expense, prrimarily related to TCA Global Credit Master Fund LP funding | | | (2,002,533 | ) | | | - | |
| Loss on class action lawsuit settlements | | | (2,081,250 | ) | | | - | |
| Realized gain on sale of investment | | | - | | | | 186,791 | |
| Total other (expense) | | | (3,523,877 | ) | | | (80,140,029 | ) |
| | | | | | | | | |
| (LOSS) BEFORE INCOME TAXES | | | (5,688,845 | ) | | | (86,626,099 | ) |
| | | | | | | | | |
| Income taxes - current benefit | | | - | | | | - | |
| | | | | | | | | |
| NET (LOSS) | | $ | (5,688,845 | ) | | $ | (86,626,099 | ) |
| | | | | | | | | |
| Basic and diluted (loss) per share | | $ | (0.01 | ) | | $ | (0.10 | ) |
| | | | | | | | | |
| Weighted average shares of common stock outstanding- basic and diluted | | | 884,348,627 | | | | 834,503,868 | |
| | | | | | | | | |
The accompanying notes are an integral part of these consolidated financial statements.
GROWLIFE, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' (DEFICIT) |
| CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' DEFICIT |
| | | | | | | | Unrealized |
| | |
| | | |
| | | Additional
| | |
| | | | | | | | |
| | | | | | | | | | | |
| Balance as of December 31, 2015 | 150,000 | $15 | 51 | $- | 891,116,496 | $89,098 | - | $110,585,434 | $(116,715,648) | $(6,041,101) |
| Stock based compensation for stock options | - | - | - | - | - | - | - | 145,729 | - | 145,729 |
| Shares issued for debt conversion | - | - | - | - | 13,400,000 | 1,340 | - | 142,660 | - | 144,000 |
| Shares issued for services rendered | - | - | - | - | 26,020,000 | 2,602 | - | 282,598 | - | 285,200 |
| Shares issued for convertible note and interest conversion | - | - | - | - | 595,442,539 | 59,546 | - | 5,594,400 | - | 5,653,946 |
| Shares issued for mezzanine equity | | | | | 15,000,000 | 1,500 | - | 298,500 | - | 300,000 |
| Series B Convertible Preferred Stock converted into convertible notes payable | (150,000) | (15) | - | - | - | - | - | (1,499,985) | - | (1,500,000) |
| Shares issued for class action settlements | - | - | - | - | 115,141,048 | 11,514 | - | 1,988,486 | - | 2,000,000 |
| Net loss for the year ended December 31, 2016 | - | - | - | - | - | - | - | - | (7,694,684) | (7,694,684) |
| | | | | | | | | | | |
| Balance as of December 31, 2016 | - | - | 51 | - | 1,656,120,083 | 165,600 | - | 117,537,822 | (124,410,332) | (6,706,910) |
| | | | | | | | | | | |
| Stock based compensation for stock options | - | - | - | - | - | - | - | 29,251 | - | 29,251 |
| Stock based compensation for warrants | - | - | - | - | - | - | - | 187,292 | - | 187,292 |
| Shares issued for debt conversion | - | - | - | - | 64,869,517 | 6,487 | - | 542,052 | - | 548,539 |
| Shares issued for services rendered | - | - | - | - | 10,000,000 | 1,000 | - | 75,000 | - | 76,000 |
| Shares issued for convertible note and interest conversion | - | - | - | - | 636,644,422 | 63,665 | - | 4,768,954 | - | 4,832,619 |
| Cancellation of Series C Convertible Preferred Stock | - | - | (51) | - | - | - | - | - | - | - |
| Write-off of derivative liability to additional paid in capital | - | - | - | - | - | - | - | 537,698 | - | 537,698 |
| Net loss for the year ended December 31, 2017 | - | - | - | - | - | - | - | - | (5,320,974) | (5,320,974) |
| | | | | | | | | | | |
| Balance as of December 31, 2017 | - | $- | - | $- | 2,367,634,022 | $236,752 | $- | $123,678,069 | $(129,731,306) | $(5,816,484) |
| | | Series B Convertible Preferred Stock | | | Series C Convertible Preferred Stock | | | Common Stock | | | | | | Additional Paid in | | | Accumulated | | | | |
| | | Shares | | | Amount | | | Shares | | | Amount | | | Shares | | | Amount | | | Party | | | Capital | | | Deficit | | | (Deficit) | |
| Balance as of December 31, 2013 | | | - | | | $ | - | | | | - | | | $ | - | | | | 755,694,870 | | | $ | 75,571 | | | $ | 1,121,237 | | | $ | 17,359,932 | | | $ | (24,400,704 | ) | | $ | (5,843,964 | ) |
| Options exercised for cash | | | - | | | | - | | | | - | | | | - | | | | 2,351,187 | | | | 235 | | | | - | | | | 44,438 | | | | - | | | | 44,673 | |
| Cashless exercise of options | | | - | | | | - | | | | - | | | | - | | | | 3,570,455 | | | | 357 | | | | - | | | | (357 | ) | | | - | | | | - | |
| Shares issued related to the conversion of principal and interest related to convertible notes payable | | | - | | | | - | | | | - | | | | - | | | | 102,507,839 | | | | 10,251 | | | | - | | | | 1,875,684 | | | | - | | | | 1,885,935 | |
| Shares issued for services rendered | | | - | | | | - | | | | - | | | | - | | | | 15,219,420 | | | | 1,522 | | | | - | | | | 2,720,078 | | | | - | | | | 2,721,600 | |
| Stock based compensation for stock options | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | | | | 724,267 | | | | - | | | | 724,267 | |
| Unrealized loss on investment in related party | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | | | | (1,121,237 | ) | | | - | | | | - | | | | (1,121,237 | ) |
| Change in fair value of derivative liability | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | | | | 23,475,908 | | | | - | | | | 23,475,908 | |
| Value of warrants expensed issued to CANX USA LLC or its assignees | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | | | | 62,500,000 | | | | - | | | | 62,500,000 | |
| Net loss for the year ended December 31, 2014 | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | | | | (86,626,099 | ) | | | (86,626,099 | ) |
| Balance as of December 31, 2014 | | | - | | | | - | | | | - | | | | - | | | | 879,343,771 | | | | 87,936 | | | | - | | | | 108,699,950 | | | | (111,026,803 | ) | | | (2,238,917 | ) |
| Stock based compensation for stock options | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | | | | 175,661 | | | | - | | | | 175,661 | |
| Shares issued for debt conversion | | | - | | | | - | | | | - | | | | - | | | | 7,772,725 | | | | 777 | | | | - | | | | 170,223 | | | | - | | | | 171,000 | |
| Shares issued for services rendered | | | - | | | | - | | | | - | | | | - | | | | 4,000,000 | | | | 400 | | | | | | | | 39,600 | | | | - | | | | 40,000 | |
| Issuance of Series B Convertible Preferred Stock | | | 150,000 | | | | 15 | | | | - | | | | - | | | | - | | | | (15 | ) | | | - | | | | 1,500,000 | | | | - | | | | 1,500,000 | |
| Issuance of Series C Convertible Preferred Stock | | | - | | | | - | | | | 51 | | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | |
| Net loss for the year ended December 31, 2015 | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | | | | - | | | | (5,688,845 | ) | | | (5,688,845 | ) |
| Balance as of December 31, 2015 | | | 150,000 | | | $ | 15 | | | | 51 | | | $ | - | | | | 891,116,496 | | | $ | 89,098 | | | $ | - | | | $ | 110,585,434 | | | $ | (116,715,648 | ) | | $ | (6,041,101 | ) |
The accompanying notes are an integral part of these consolidated financial statements.
GROWLIFE, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS |
| CONSOLIDATED STATEMENTS OF CASH FLOWS |
| | | Years Ended, | | |
| | | December 31, 2015 | | | December 31, 2014 | | |
| | | | | | | | | |
| CASH FLOWS FROM OPERATING ACTIVITIES: | | | | | | | |
| Net loss | | $ | (5,688,845 | ) | | $ | (86,626,099 | ) | $(5,320,974) | $(7,694,684) |
| Adjustments to reconcile net loss to net cash (used in) | | | | | | | | | |
| operating activities | | | | | | | | | |
| Depreciation and amortization | | | 13,715 | | | | 33,641 | | 1,890 | 8,437 |
| Amortization of intangible assets | | | 106,548 | | | | 106,548 | | - | 106,548 |
| Change in inventory reserve | | | - | | | | 12,711 | | |
| Stock based compensation | | | 175,661 | | | | 724,267 | | 216,543 | 145,729 |
| Preferred shares issued for services | | | 300,000 | | | | - | | |
| Common stock issued for services | | | 210,985 | | | | 2,721,600 | | 76,000 | 285,200 |
| Amortization of debt discount | | | (158,237 | ) | | | 1,363,847 | | 419,666 | 514,668 |
| Change in fair value of derivative liability | | | (723,740 | ) | | | 16,252,823 | | (496,306) | 1,324,384 |
| Expense related to warrant | | | - | | | | 62,500,000 | | |
| Accrued interest on convertible notes payable | | | 310,500 | | | | 183,214 | | 203,697 | 120,824 |
| Loss on class action lawsuit settlements | | | 2,000,000 | | | | - | | |
| Issuance of Series B Convertible Preferred Stock | | | 1,500,000 | | | | - | | |
| Write-off of patent expenses | | | 3,600 | | | | - | | |
| Excess and obsolete inventory | | | 20,215 | | | | - | | |
| Realized gain on sale of investment | | | - | | | | (186,791 | ) | |
| Loss on debt conversions | | 2,502,799 | 2,889,540 |
| Write-off of derivative liability to additional paid in capital | | 537,698 | - |
| Impairment of long-lived assets | | - | 876,056 |
| Changes in operating assets and liabilities: | | | | | | | | | |
| Restricted Cash | | | - | | | | 46,400 | | |
| Accounts receivable | | | - | | | | 183,678 | | |
| Inventory | | | 464,696 | | | | 357,660 | | (47,225) | 20,014 |
| Prepaid expenses | | | 41,791 | | | | (24,790 | ) | |
| Other receivable | | | - | | | | 3,666 | | |
| Deposits | | | 16,830 | | | | 12,589 | | 13,145 | (5,591) |
| Accounts payable | | | 215,362 | | | | 33,926 | | (170,934) | 196,379 |
| Accrued expenses | | | (209,972 | ) | | | 209,421 | | 19,503 | (22,791) |
| Deferred revenue | | | 25,000 | | | | (30,888 | ) | (37,995) | 22,995 |
| CASH (USED IN) OPERATING ACTIVITIES | | | (1,375,891 | ) | | | (2,122,577 | ) | (2,082,493) | (1,212,292) |
| | | | | | | | | | |
| CASH FLOWS FROM INVESTING ACTIVITIES: | | | | | | | | | |
| Net cash proceeds from shares in Vape Holdings, Inc. | | | - | | | | 187,951 | | |
| Capital expenditures | | | - | | | | (3,925 | ) | |
| NET CASH PROVIDED BY INVESTING ACTIVITIES: | | | - | | | | 184,026 | | |
| Investment in purchased assets | | |
| | | (302,689) | - |
| NET CASH (USED IN) INVESTING ACTIVITIES: | | (302,689) | - |
| | | | | | | | | | |
| CASH FLOWS FROM FINANCING ACTIVITIES: | | | | | | | | | |
| Proceeds from the issuance of convertible note | | | 1,150,000 | | | | 350,000 | | |
| Series B Convertible Preferred Stock | | | 15 | | | | - | | |
| Proceeds from options exercised | | | - | | | | 44,673 | | |
| Payments of notes payable - related party | | | - | | | | (1,160 | ) | |
| Cash provided from Convertible Promissory Note with Chicago Venture Partners, L.P. | | 3,860,344 | 1,255,000 |
| Cash payoff to TCA Global Credit Master Fund, LP | | (1,509,041) | - |
| NET CASH PROVIDED BY FINANCING ACTIVITIES | | | 1,150,015 | | | | 393,513 | | 2,351,303 | 1,255,000 |
| | | | | | | | | | |
| NET (DECREASE) IN CASH AND CASH EQUIVALENTS | | | (225,876 | ) | | | (1,545,038 | ) | |
| NET INCREASE IN CASH AND CASH EQUIVALENTS | | (33,879) | 42,708 |
| | | | | | | | | | |
| CASH AND CASH EQUIVALENTS, beginning of period | | | 286,238 | | | | 1,831,276 | | 103,070 | 60,362 |
| | | | | | | | | | |
| CASH AND CASH EQUIVALENTS, end of period | | $ | 60,362 | | | $ | 286,238 | | $69,191 | $103,070 |
| | | | | | | | | | |
| Supplemental disclosures of cash flow information: | | | | | | | | | |
| Interest paid | | $ | 10,500 | | | $ | - | | $- |
| Taxes paid | | $ | - | | | $ | - | | $- |
| | | | | | | | | | |
| Non-cash investing and financing activities: | | | | | | | | | |
| 6% Senior secured convertible notes and interest converted into common stock | | $ | - | | | $ | 62,025 | | |
| 7% Convertible notes and interest converted into common stock | | $ | - | | | $ | 1,384,207 | | |
| 12% Senior secured convertible notes and interest converted into common stock | | $ | - | | | $ | 439,688 | | |
| Common stock issued for cashless exercise of options | | $ | - | | | $ | 357 | | |
| Common stock issued for conversion of accounts payable | | $ | 171,000 | | | $ | - | | |
| Shares issued for convertible note and interest conversion | | $2,329,800 | $2,423,729 |
| Shares issued for debt conversion | | $- | $64,000 |
| Shares issued for class action settlements | | $- | $2,000,000 |
| Shares issued for mezzanine equity | | $- | $300,000 |
| Series B Convertible Preferred Stock converted into convertible notes payable | | $- | $(1,500,000) |
| Series B Convertible Preferred Stock converted into convertible notes payable debt discount | | $- | $315,669 |
| Common shares issued for accounts payable | | $548,539 | $- |
The accompanying notes are an integral part of these consolidated financial statements.
GROWLIFE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 – DESCRIPTION OF BUSINESS AND ORGANIZATION
GrowLife, Inc. (“GrowLife” or the “Company”) is incorporated under the laws of the State of Delaware and is headquartered in Seattle,Kirkland, Washington. The Company was founded in 2012 with the Closing of the Agreement and Plan of Merger with SGT Merger Corporation.Corporation.
The Company’s goal of becoming the nation’s largest cultivation facility service provider for the production of organics, herbs and greens and plant-based medicines has not changed. The Company’s mission is to best serve more cultivators in the design, build-out, expansion and maintenance of their facilities with products of high quality, exceptional value and competitive price. Through a nationwide network of knowledgeable representatives, regional centers and its e-commerce website, GrowLife provides essential and hard-to-find goods including media (i.e., farming soil), industry-leading hydroponics equipment, organic plant nutrients, and thousands more products to specialty grow operations across the United States.
The Company primarily sells through its wholly owned subsidiary, GrowLife Hydroponics, Inc. In addition to the promotion and sales of GrowLife owned brands, GrowLife companies distribute and sell over 3,00015,000 products through its e-commerce distribution channel, Greners.com,GrowLifeEco.com, and through our regional retail storefronts. GrowLife and its business units are organized and directed to operate strictly in accordance with all applicable state and federal laws.
Past Merger and Acquisition Transactions
On June 7, 2013, GrowLife Hydroponics completed the purchase of Rocky Mountain Hydroponics, LLC, a Colorado limited liability company (“RMC”), and Evergreen Garden Center, LLC, a Maine limited liability company (“EGC”). The effective date of the purchase was June 7, 2013. The Company purchased all of the assets and liabilities of the RMH and EGC Companies, and their retail hydroponics stores, which are located in Vail and Boulder, Colorado and Portland, Maine. The Company purchased RMC and EGC from Rob Hunt, who was appointed to the then Company’s Board of Directors and President of GrowLife Hydroponics, Inc.
On July 23, 2012, the Company completed the purchase of substantially all of the assets of Donna Klauenburch and Tao Klauenburch related to the online retail business Greners.com.
On October 24, 2012,3, 2017, the Company’s wholly owned subsidiary GrowLife Hydroponics, Inc., a Delaware corporation, completedCompany closed the purchaseacquisition of all51% of the shares of Soja, Inc. dba Urban Garden Supplies (the “Urban Garden”)Purchased Assets from Richard Melograno, Michael Cook,David Reichwein, a Pennsylvania resident, GIP International Ltd, a Hong Kong corporation and Scott Glass (collectively the “UG Sellers”). DPR International LLC, a Pennsylvania limited liability corporation. The Purchased Assets include intellectual property, copy rights and trademarks related to reflective tiles and flooring.
The Company did not acquire business, customer list or employees.
The Company acquired allits 51% interest in the Purchased Assets for $400,000. The Company funded equipment and rent of an office lease. On February 16, 2018, the Company purchased the remaining 49% of the assets and liabilitiesPurchased Assets in exchange for a one-time payment of Urban Garden which included the inventory$250,000. As of the store located at 22516 Ventura Blvd., Woodland Hills, CA 91364.
Agreement and Plan of Merger with SGT Merger Corporation
On March 21, 2012,December 31, 2017, the Company entered intohad recorded investment in purchased assets of $302,689.
On October 17, 2017, the Company informed by Alpine Securities Corporation (“Alpine”) that Alpine has demonstrated compliance with the Financial Industry Regulatory Authority (“FINRA”) Rule 6432 and Rule 15c2-11 under the Securities Exchange Act of 1934. As a result, Alpine may initiate an Agreement and Plan of Merger with SGT Merger Corporation, a Nevada corporation and the Company’s wholly-owned subsidiary, SG Technologies Corp, a Nevada corporation (“SGT”), Sterling C. Scott, and W-Net Fund I, L.P., a Delaware limited partnership and current holder ofunpriced quotation for the Company’s common stock. The transaction closed on April 5, 2012. AtCompany expects to file an amended application with the Closing, (i) The Merger Corporation was merged with and into SGT; (ii) SGT became the Company’s wholly-owned subsidiary; and (iii) all SGT shares of common stock were exchanged for shares of our common stock and shares of a new series of our preferred stock, which was designated Series A Preferred Stock. At the Closing, the Company issuedOTC Markets to SGT’s former stockholders 157,000,000 shares of the Company’s common stock and 3,000,000 shares of Series A Preferred Stock in exchange for the 200 shares of SGT’s common stock outstanding immediately prior to the Merger. Sterling C. Scott was appointed to the then Company’s Board of Directors and Chief Executive Officer.
After the Merger, former holders of SGT’s common stock owned in excess of 50% of our fully-diluted shares of common stock, and as a result of certain other factors, including that all members of our executive management are members of SGT’s management, SGT is deemed to be the acquiring company and the Company was deemed to be the legal acquirer for accounting purposes, and the Merger was accounted for as a reverse merger and a recapitalization in accordance with GAAP. The consolidated financial statements of GrowLife and its subsidiaries reflect the historical activity of SGT, and the historical stockholders’ equity of SGT has been retroactively restated for the equivalent number of shares received in the exchange.
Suspension of Trading of the Company’s Securities
On April 10, 2014, the Company received notice from the SEC that trading oflist the Company’s common stock on the OTCBB was to be suspended from April 10, 2014 through April 24, 2014. The SEC issued its order pursuant to Section 12(k)OTCQB once the minimum share price of the Securities Exchange Act of 1934. According to the notice received by us from the SEC: “It appears to the Securities and Exchange Commission that the public interest and the protection of investors require a suspension of trading in the securities of GrowLife, Inc. because of concerns regarding the accuracy and adequacy of information in the marketplace and potentially manipulative transactions in GrowLife’s common stock.”$0.01 per share is achieved. The Company did not receive notice from the SEC that it was being formally investigated.
The suspension of trading eliminated the Company’s market makers, resulted in our tradingcurrently trades on the grey sheets, resulted in legal proceedings and restricted the Company’s access to capital. On April 25, 2014, shares of the Company’s common stock resumed trading on the “grey sheets” and were not formally quoted or listed on any stock exchange as of December 31, 2015.
SEC Charges of Manipulating Our Securities
On August 5, 2014, the SEC charged four promoters with ties to the Pacific Northwest for manipulating the Company’s open market and conducted pre-arranged, manipulative matched orders and wash trades to create the illusion of an active market in these stocks. The promoters then sold their shares in coordination with aggressive promotional campaigns that urged investors to buy the stocks because the prices were on the verge of rising substantially.
On July 9, 2015, the SEC entered into settlements with two of the promoters. In connection with the settlement of their SEC action, the two men are liable for disgorgement of approximately $2.1 million and $306,000 in illicit profits, respectively. Earlier this year the two men were also sentenced to five and three years in prison, respectively, for their participation in the scheme.
Resumed Trading of our Common Stock
OTC Pink Sheet market. On February 18, 2016, the Company’s common stock resumed unsolicited quotation on the OTC Bulletin Board after receiving clearance from the Financial Industry Regulatory Authority (“FINRA”) on ourthe Company’s Form 15c2-11. The Company is currently taking the appropriate steps to uplist to the OTCQB Exchange and resume priced quotations with market makers as soon as it is able.
NOTE 2 – GOING CONCERN
The accompanying consolidated financial statements have been prepared on a going concern basis, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. The Company incurred net losses of $5,688,845$5,320,974 and $86,626,099$7,694,684 for the years ended December 31, 20152017 and 2014,2016, respectively. Our net cash used in operating activities was $1,375,891$2,082,493 and $2,122,577 and$1,212,192 for the years ended December 31, 20152017 and 2014,2016, respectively.
The Company anticipates that it will record losses from operations for the foreseeable future. As of December 31, 2015,2017, our accumulated deficit was $116,715,648.$129,731,305. The Company has experienced recurring operating losses and negative operating cash flows since inception, and has financed its working capital requirements during this period primarily through the recurring issuance of convertible notes payable and advances from a related party. The audit report prepared by our independent registered public accounting firm relating to our financial statements for the year ended December 31, 20152017 and 2016 filed with the SEC on April 14, 2016March 28, 2018 includes an explanatory paragraph expressing the substantial doubt about our ability to continue as a going concern.
Continuation of the Company as a going concern is dependent upon obtaining additional working capital. The financial statements do not include any adjustments that might be necessary if we are unable to continue as a going concern.
NOTE 3 – SIGNIFICANT ACCOUNTING POLICIES: ADOPTION OF ACCOUNTING STANDARDS
Basis of Presentation -The accompanying unaudited consolidated financial statements include the accounts of the Company. Intercompany accounts and transactions have been eliminated. The preparation of these unaudited consolidated financial statements in conformity with U.S. generally accepted accounting principles (“GAAP”).
Principles of Consolidation- The consolidated financial statements include the accounts of the Company and its wholly owned and majority-owned subsidiaries. Inter-Company items and transactions have been eliminated in consolidation.
Cash and Cash Equivalents - The Company classifies highly liquid temporary investments with an original maturity of threenine months or less when purchased as cash equivalents. The Company maintains cash balances at various financial institutions. Balances at US banks are insured by the Federal Deposit Insurance Corporation up to $250,000. The Company has not experienced any losses in such accounts and believes it is not exposed to any significant risk for cash on deposit.
Accounts Receivable and Revenue -Revenue is recognized on the sale of a product when the product is shipped, which is when the risk of loss transfers to our customers, the fee is fixed and determinable, and collection of the sale is reasonably assured. A product is not shipped without an order from the customer and the completion of credit acceptance procedures. The majority of our sales are cash or credit card; however, we occasionally extend terms to our customers. Accounts receivable are reviewed periodically for collectability.
Inventories -Inventories are recorded on a first in first out basis. Inventory consists of raw materials, purchased finished goods and components held for resale. Inventory is valued at the lower of cost or market. The reserve for inventory was $20,000 and $40,215 as of DecemberDecember 31, 20152017 and 2014, 2016, respectively.
Property and Equipment -Property and equipment are stated at cost. Assets acquired held under capital leases are initially recorded at the lower of the present value of the minimum lease payments discounted at the implicit interest rate (35% for assets currently held under capital lease) or the fair value of the asset. Major improvements and betterments are capitalized. Maintenance and repairs are expensed as incurred. Depreciation is computed using the straight-line method over an estimated useful life of five years. Assets acquired under capital lease are depreciated over the lesser of the useful life or the lease term. At the time of retirement or other disposition of property and equipment, the cost and accumulated depreciation are removed from the accounts and any resulting gain or loss is reflected in the consolidated statements of operations.
Goodwill and Intangible Assets - The Company evaluates the carrying value of goodwill, intangible assets, and long-lived assets during the fourth quarter of each year and between annual evaluations if events occur or circumstances change that would more likely than not reduce the fair value of the reporting unit below its carrying amount. Such circumstances could include, but are not limited to (1) a significant adverse change in legal factors or in business climate, (2) unanticipated competition, (3) an adverse action or assessment by a regulator, (4) continued losses from operations, (5) continued negative cash flows from operations, and (6) the suspension of trading of the Company’s securities. When evaluating whether goodwill is impaired, the Company compares the fair value of the reporting unit to which the goodwill is assigned to the reporting unit’s carrying amount, including goodwill. The fair value of the reporting unit is estimated using a combination of the income, or discounted cash flows, approach and the market approach, which utilizes comparable companies’ data. If the carrying amount of a reporting unit exceeds its fair value, then the amount of the impairment loss must be measured. The impairment loss would be calculated by comparing the implied fair value of reporting unit goodwill to its carrying amount. In calculating the implied fair value of reporting unit goodwill, the fair value of the reporting unit is allocated to all of the other assets and liabilities of that unit based on their fair values. The excess of the fair value of a reporting unit over the amount assigned to its other assets and liabilities is the implied fair value of goodwill.
The Company amortizes the cost of other intangible assets over their estimated useful lives, which range up to ten years, unless such lives are deemed indefinite. Intangible assets with indefinite lives are tested in the fourth quarter of each fiscal year for impairment, or more often if indicators warrant.
Equity Investments – The Company classifies all highly-liquid investments with stated maturities of greater than three months from the date of purchase and remaining maturities of less than one year as short-term investments. Investments with maturities beyond one year may be classified as short-term based on their highly liquid nature and because such investments are viewed as being available to support current operations. The Company classifies and accounts for short-term investments as available-for-sale and reflect realized gains and losses using the specific identification method. Changes in market value, if any, excluding other-than-temporary impairments, are reflected under stockholders’ deficit as unrealized gain/loss on related party investment.
Long Lived Assets – The Company reviews its long-lived assets for impairment annually or when changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Long-lived assets under certain circumstances are reported at the lower of carrying amount or fair value. Assets to be disposed of and assets not expected to provide any future service potential to the Company are recorded at the lower of carrying amount or fair value (less the projected cost associated with selling the asset). To the extent carrying values exceed fair values, an impairment loss is recognized in operating results.
Fair Value Measurements and Financial Instruments -ASC Topic 820 defines fair value, establishes a framework for measuring fair value, establishes a three-levelnine-level valuation hierarchy for disclosure of fair value measurement and enhances disclosure requirements for fair value measurements. The valuation hierarchy is based upon the transparency of inputs to the valuation of an asset or liability as of the measurement date. The threenine levels are defined as follows:
Level 1 - Inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active markets.
Level 2 - Inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument.
Level 3 - Inputs to the valuation methodology are unobservable and significant to the fair value measurement.
The carrying value of cash, accounts receivable, investment in a related party, accounts payables, accrued expenses, due to related party, notes payable, and convertible notes approximates their fair values due to their short-term maturities.
Derivative financial instruments -The Company evaluates all of its financial instruments to determine if such instruments are derivatives or contain features that qualify as embedded derivatives. For derivative financial instruments that are accounted for as liabilities, the derivative instrument is initially recorded at its fair value and is then re-valued at each reporting date, with changes in the fair value reported in the consolidated statements of operations. For stock-based derivative financial instruments, the Company uses a weighted average Black-Scholes-Merton option pricing model to value the derivative instruments at inception and on subsequent valuation dates. The classification of derivative instruments, including whether such instruments should be recorded as liabilities or as equity, is evaluated at the end of each reporting period. Derivative instrument liabilities are classified in the balance sheet as current or non-current based on whether or not net-cash settlement of the derivative instrument could be required within twelve months of the balance sheet date.
As of December 31, 2015 and 2014, the Company had outstanding 7% convertible notes for $500,000 that the Company determined were a derivative liability due to the “reset” clause associated with the note’s conversion price. The Company valued the derivative liability of these notes at $105,515 and $1,278,878, respectively, using the Black-Scholes-Merton option pricing model.
As of December 31, 2015 and 2014, the Company had outstanding 6% convertible notes for $350,000 that the Company determined were a derivative liability due to the “reset” clause associated with the note’s conversion price. The Company valued the derivative liability of these notes at $54,377 and $822,037, respectively using the Black-Scholes-Merton option pricing model.
As of December 31, 2015, the Company had outstanding 18% convertible notes for $1,150,000 that the Company determined were a derivative liability due to the “reset” clause associated with the note’s conversion price. The Company valued the derivative liability of these notes at $1,217,283 using the Black-Scholes-Merton option pricing model.
Sales Returns -We allow customers to return defective products when they meet certain established criteria as outlined in our sales terms and conditions. It is our practice to regularly review and revise, when deemed necessary, our estimates of sales returns, which are based primarily on actual historical return rates. We record estimated sales returns as reductions to sales, cost of goods sold, and accounts receivable and an increase to inventory. Returned products which are recorded as inventory are valued based upon the amount we expect to realize upon its subsequent disposition. As of December 31, 20152017 and 2014,2016, there was no reserve for sales returns, which are minimal based upon our historical experience.
Shipping and Handling Fees and Cost - For the years ended December 31, 2015 and 2014, shipping and handling fees billed to customers totaled $95,455 and $128,351, respectively, and were included in revenue.
Stock Based Compensation - The Company has share-based compensation plans under which employees, consultants, suppliers and directors may be granted restricted stock, as well as options and warrants to purchase shares of Company common stock at the fair market value at the time of grant. Stock-based compensation cost to employees is measured by the Company at the grant date, based on the fair value of the award, over the requisite service period under ASC 718. For options issued to employees, the Company recognizes stock compensation costs utilizing the fair value methodology over the related period of benefit. Grants of stock to non-employees and other parties are accounted for in accordance with the ASC 505.
Advertising Costs - Advertising costs are expensed as incurred and are recorded in general and administrative expenses. For the years ended December 31, 2015 and 2014, advertising costs of $637 and $141,369, respectively, were included in general and administrative expenses.
Net (Loss) Per Share -Under the provisions of ASC 260, “Earnings per Share,” basic loss per common share is computed by dividing net loss available to common shareholders by the weighted average number of shares of common stock outstanding for the periods presented. Diluted net loss per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that would then share in the income of the Company, subject to anti-dilution limitations. The common stock equivalents have not been included as they are anti-dilutive. As of December 31, 2015,2017, there are also (i) stock option grants outstanding for the purchase of 29.0 million56,000,000 common shares at a $0.028$0.007 average strikeexercise price; (ii) warrants for the purchase of 565.0595 million common shares at a $0.032$0.031 average exercise price; and (iii) 243.6241,766,075 million shares related to convertible debt that can be converted at 0.007$0.002535 per share; and (iv) 6.0 million shares that may be issued to a former executive related to a severance agreement. We issued $2 million in common stock or 115,141,048 shares of our common stock pursuant to the settlement of the Consolidated Class Action and Derivative Action lawsuits alleging violations of federal securities laws that were filed against the Company in United States District Court, Central District of California.share. In addition, we have an unknown number of common shares to be issued under the TCA Chicago Venture Partners, L.P. financing agreements. As of December 31 2014,, 2016, there wereare also (i) stock optionsoption grants outstanding for the purchase of 40,720,00012,010,000 common shares at a $0.010 average strike price; (ii) warrants for the purchase of 565,000,000595 million common shares 209,061,571 at a $0.031 average exercise price; and (iii) 207,812,222 shares related to convertible debt and 6,000,000that can be converted at $0.0036 per share. In addition, we have an unknown number of common shares which we may have to issuebe issued under a settlement agreement which could potentially dilute future earnings per share.the TCA Global Credit Master Fund LP and Chicago Venture Partners, L.P. financing agreements.
Dividend Policy - The Company has never paid any cash dividends and intends, for the foreseeable future, to retain any future earnings for the development of our business. Our future dividend policy will be determined by the board of directors on the basis of various factors, including our results of operations, financial condition, capital requirements and investment opportunities.
Use of Estimates -In preparing these unaudited interim consolidated financial statements in conformity with GAAP, management is required to make estimates and assumptions that may affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the consolidated financial statements and the reported amount of revenues and expenses during the reporting periods. Actual results could differ from those estimates. Significant estimates and assumptions included in our consolidated financial statements relate to the valuation of long-lived assets, estimates of sales returns, inventory reserves and accruals for potential liabilities, and valuation assumptions related to derivative liability, equity instruments and share based compensation.
Reclassifications - Certain amounts in the consolidated financial statements for 2014 have been reclassified to conform to the 2015 presentation. These reclassifications have no effect on net income, earnings per share, or stockholders’ equity as previously reported.
Recent Accounting Pronouncements
A variety of proposedRecent accounting pronouncements, other than those below, issued by the FASB, the AICPA and the SEC did not or otherwise potential accounting standards are currently under studynot believed by standard setting organizations and various regulatory agencies. Due to the tentative and preliminary nature of those proposed standards, management has not determined whether implementation of such proposed standards would be material to our consolidated financial statements.
In August 2014, FASB issued ASU 2014-15—Presentation of Financial Statements—Going Concern (ASC Subtopic 205-40): “Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern”. The update requires management to assess a company’s ability to continue as a going concern and to provide related footnote disclosures in certain circumstances. All entities are required to apply the new requirements in annual periods ending after December 15, 2016, and interim periods thereafter. Early application is permitted. As such, GrowLife, Inc. is required to adopt these provisions for the annual period ending December 31, 2016. The Company is currently evaluating the impact of FASB ASU 2014-15 but does not expect the adoption thereof to have a material effect on GrowLife’sthe Company’s present or future financial statements.
Effective January 1, 2017, the Company adopted ASU 2015-11, Inventory: Simplifying the Measurement of Inventory, which affects reporting entities that measure inventory using either the first-in, first-out or average cost method. Specifically, the guidance requires that inventory be measured at the lower of cost and net realizable value. Net realizable value is the estimated selling price in the ordinary course of business, less reasonably predictable cost of completion, disposal, and transportation. This adoption did not have a material impact on the Company’s condensed consolidated financial statements.
In May 2014,January 2017, the FASB issued ASU 2014-09—Revenue from Contracts2017-01, Clarifying the Definition of a Business, to assist with Customers (Topic 606): “Section A—Summary and Amendments That Create Revenue from Contracts with Customers, (Topic 606) and Other Assets and Deferred Costs—Contracts with Customers (Subtopic 340-40), Section B—Conforming Amendments to Other Topics and Subtopics in the Codification and Status Tables, Section C—Background Information and Basisevaluating whether transactions should be accounted for Conclusions”. Theas acquisitions (or disposals) of assets or businesses. This guidance in this update affects any entity that enters into contracts with customers to transfer goods or services and supersedes the revenue recognition requirements in Topic 605, Revenue Recognition. The update is effective for annual reporting periodsfiscal years beginning after December 15, 2016, including2017, and interim periods within those years. Early adoption is permitted for transactions not reported in financial statements that reporting period.have been issued or made available for issuance.
In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows: Classification of Certain Cash Receipts and Cash Payments, which reduces the diversity in practice on how certain transactions are classified in the statement of cash flows. The guidance is effective for fiscal years beginning after December 15, 2018, and interim periods within fiscal years beginning after December 15, 2019. Early applicationadoption is not permitted. As such, GrowLife, Inc. is required to adopt these provisions as of December 31, 2016. The Company is currently evaluating the impacteffect of adopting this pronouncement.
In February 2016, the FASB issued ASU 2014-09 but does not expect2016-02, Leases, which requires a lessee, in most leases, to initially recognize a lease liability for the obligation to make lease payments and a right-of-use asset for the right to use the underlying asset for the lease term. The guidance is effective for fiscal years beginning after December 15, 2018, and interim periods within with those years. Early adoption thereof to have a materialis permitted. The Company is evaluating the effect on GrowLife’s financial statements.of adopting this pronouncement.
In July 2013, FASB2017, the Financial Accounting Standards Board (“FASB”) issued ASU 2013-11—Income Taxes (ASC Topic 740): “Accounting Standards Update (“ASU”) No. 2017-11, PresentationEarnings Per Share (Topic 260), Distinguishing Liabilities from Equity (Topic 480), Derivatives and Hedging (Topic 815). The amendments in Part I of this Update change the classification analysis of certain equity-linked financial instruments (or embedded features) with down round features. When determining whether certain financial instruments should be classified as liabilities or equity instruments, a down round feature no longer precludes equity classification when assessing whether the instrument is indexed to an Unrecognized Tax Benefit Whenentity’s own stock. The amendments also clarify existing disclosure requirements for equity-classified instruments. As a Net Operating Loss Carryforward,result, a Similar Tax Loss, orfreestanding equity-linked financial instrument (or embedded conversion option) no longer would be accounted for as a Tax Credit Carryforward Exists (a consensusderivative liability at fair value as a result of the FASB Emerging Issues Task Force)”existence of a down round feature. For freestanding equity classified financial instruments, the amendments require entities that present earnings per share (EPS) in accordance with Topic 260 to recognize the effect of the down round feature when it is triggered. That effect is treated as a dividend and as a reduction of income available to common shareholders in basic EPS. Convertible instruments with embedded conversion options that have down round features are now subject to the specialized guidance for contingent beneficial conversion features (in Subtopic 470-20, Debt—Debt with Conversion and Other Options), including related EPS guidance (in Topic 260). The amendments in Part II of this update provide explicit guidance onUpdate recharacterize the financial statement presentationindefinite deferral of certain provisions of Topic 480 that now are presented as pending content in the Codification, to a scope exception. Those amendments do not have an unrecognized tax benefit when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists ataccounting effect. For public business entities, the reporting date. The update isamendments in Part I of this Update are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2013. The adoption2018. For all other entities, the amendments in Part I of FASB ASU 2013-11 did not have a material effect on GrowLife’s financial statements.
New Accounting Standards Issued but Not Yet Adopted
In February 2015, the FASB issued ASU No. 2015-02, Consolidation (Topic 810): Amendments to the Consolidation Analysis (“ASU 2015-02”). ASU 2015-02 affects reporting entities thatthis Update are required to evaluate whether they should consolidate certain legal entities. ASU 2015-02 is effective for us on January 1, 2016, withfiscal years beginning after December 15, 2019, and interim periods within fiscal years beginning after December 15, 2020. Early adoption is permitted for all entities, including adoption in an interim period. If an entity early adoption permitted.adopts the amendments in an interim period, any adjustments should be reflected as of the beginning of the fiscal year that includes that interim period. The Company does not believe that this pronouncement will have an impact on the Company’s consolidatedearly adopted ASU 2017-11 and has reclassified its financial statements.instrument with down round features to equity.
In April 2015,May 2017, the FASB issued ASU No. 2015-03,2017-09, Interest - ImputationCompensation-Stock Compensation (Topic 718), Scope of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs (“ASU 2015-03”)Modification Accounting.. The amendments in ASU 2015-03this Update provide guidance about which changes to the terms or conditions of a share-based payment award require that debt issuance costs relatedan entity to a recognized debt liability be presentedapply modification accounting in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts.Topic 718. The recognition and measurement guidance for debt issuance costs are not affected by the amendments in ASU 2015-03. ASU 2015-03 isthis Update are effective for the Company on January 1, 2016, with earlyall entities for annual periods, and interim periods within those annual periods, beginning after December 15, 2017. Early adoption permitted. The Companyis permitted, including adoption in any interim period, for (1) public business entities for reporting periods for which financial statements have not yet been issued and (2) all other entities for reporting periods for which financial statements have not yet been made available for issuance. Management is currently evaluatingassessing the potential changes from thisimpact the adoption of ASU to2017-09 will have on the Company’s future financial reporting and disclosures.Consolidated Financial Statements.
NOTE 4 – PURCHASE – ROCKY MOUNTAIN HYDROPONICSIn March 2016, the FASB issued Accounting Standards Update No. 2016-09 (ASU 2016-09), Compensation—Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting effective for annual periods beginning after December 15, 2016, and EVERGREEN GARDEN CENTER
On June 7, 2013, GrowLife Hydroponics completedinterim periods within those annual periods. Early application is permitted for reporting periods where financial statements have not yet been made available for issuance. The ASU requires different transition methods and disclosures based on the purchasetype of Rocky Mountain Hydroponics, LLC, a Colorado limited liability company (“RMC”), and Evergreen Garden Center, LLC, a Maine limited liability company (“EGC”amendment included in the ASU.). The effective dateManagement is currently assessing the impact the adoption of the purchase was June 7, 2013. The purchase included all of the assets and liabilities of the RMH and EGC Companies, and their retail hydroponics stores, which are located in Vail and Boulder, Colorado and Portland, Maine. The Company purchased RMC and EGC from Rob Hunt, who was appointed toASU 2016-09 will have on the Company’s Board of Directors and was appointed President of GrowLife Hydroponics, Inc.
The Company paid the former owners of the RMH and EGC Companies $550,000 in cash, $800,000 in 12% Secured Convertible Notes, and $275,000 (7,857,141 shares at $0.035/share) in shares of the Company’s common stock.Consolidated Financial Statements.
The purchase price was allocated to specific identifiable tangible and intangible assets at their fair value at the date of the purchase in accordance with Accounting Standards Codification 805, “Business Combinations”, as follows:
| Allocation | | $ | |
| Assets | | $ | 907,614 | |
| Intangible assets | | | 366,000 | |
| Goodwill | | | 739,000 | |
| Total | | | 2,012,614 | |
| Less fair value of liabilities | | | (387,614 | ) |
| Purchase price | | $ | 1,625,000 | |
The Company is amortizing the $366,000 of intangible assets at the rate of $6,100 per month over 5 years, with the Company recording $106,548 of non-cash amortization expense related to these intangible assets during the years ended December 31, 2015 and 2014.
The Company consolidated the results from operations from June 7, 2013.
NOTE 54 – TRANSACTIONS WITH CANX USA, LLC AND LOGIC WORKS LLC
Transactions with CANX, LLC and Logic Works LLC
On July 10, 2014, the Company closed a Waiver and Modification Agreement, Amended and Restated Joint Venture Agreement, Secured Credit Facility and Secured Convertible Note with CANX, and Logic Works LLC, a lender and shareholder of the Company. The Agreements require the filing of a registration statement on Form S-1 within 10 days of the filing of the Company’s Form 10-Q for the period ended June 30, 2014. Due to the Company’s grey sheet trading status and other issues, the Company did not file the registration statement.
Previously,November 19, 2013, the Company entered into a Joint Venture Agreement with CANX, USA LLC, a Nevada limited liability company. Under the terms of the Joint Venture Agreement, the Company and CANX formed Organic Growth International, LLC (“OGI”), a Nevada limited liability company, for the purpose of expanding the Company’s operations in its current retail hydroponic businesses and in other synergistic business verticals and facilitating additional funding for commercially financeable transactions of up to $40,000,000. In connection with the closing of the Agreement, CANX agreed to provide a commitment for funding in the amount of $1,300,000 for a GrowLife Infrastructure Funding Technology program transaction and provided additional funding under a 7% Convertible Note instrument for $1,000,000, including $500,000 each from Logic Works and China West III Investments LLC, entities that are unaffiliated with CANX and operate as separate legal entities.
The Company initially owned a non-dilutive forty five percent (45%)45% share of OGI and the Company maycould acquire a controlling share of OGI as provided in the Joint Venture Agreement. In accordance with the Joint Venture Agreement, the Company and CANX entered into a Warrant Agreement whereby the Company delivered to CANX a warrant to purchase 140,000,000 shares of the Company common stock that is convertible at a maximum strike price of $0.033 per share.share, subject to adjustment as provided in the warrant. The five-year warrant expires November 18, 2018. Also, in accordance with the Joint Venture Agreement, on February 7, 2014 the Company issued an additional warrant to purchase 100,000,000 shares of the Company’sour common stock that is convertible at a maximum strike price of $0.033 per share, subject to adjustment as provided in the warrant. The five-year warrant expires February 6, 2019.
GrowLife received the $1 million as a convertible note in December 2013, received the $1.3 million commitment but not executed and by January 2014 OGI had Letters of Intent with four investment and acquisition transactions valued at $96 million. Before the deals could close, the SEC put a trading halt on February 7, 2014.our stock on April 10, 2014, which resulted in the withdrawal of all transactions. The business disruption from the trading halt and the resulting class action and derivative lawsuits ceased further investments with the OGI joint venture. The Convertible Note was converted into GrowLife, Inc. common stock as of the year ended December 31, 2016.
On AprilJuly 10, 2014, as a result of the suspension in the trading of the Company’s securities, the Company went into default on its 7% Convertible Notes Payable for $500,000 each from Logic Works and China West III. As a result, the Company accrued interest on these notes at the default rate of 24% per annum. Furthermore, as a result of being in default on these notes, the Holders could have, at their sole discretion, called these notes.
Waiver and Modification Agreement
The Company entered intoclosed a Waiver and Modification Agreement, dated June 25, 2014 with Logic Works LLC whereby the 7% Convertible Note with Logic Works dated December 20, 2013 was modified to provide for (i) a waiver of the default under the 7% Convertible Note; (ii) a conversion price which is the lesser of (A) $0.025 or (B) twenty percent (20%) of the average of the three (3) lowest daily VWAPs occurring during the twenty (20) consecutive Trading Days immediately preceding the applicable Conversion Date on which the Holder elects to convert all or part of this Note; (iii) the filing of a registration statement on Form S-1 within 10 days of the filing of the Company’s Form 10-Q for the period ended June 30, 2014; and (iv) continuing interest of 24% per annum. China West III converted its Note into common stock on June 4, 2014. Due to the Company’s grey sheet trading status and other issues, the Company did not file the registration statement. This 20% of the average should be 70% and the Parties are working to resolve this issue.
Amended and Restated Joint Venture Agreement
The Company entered into an Amended and Restated Joint Venture Agreement, dated July 1, 2014Secured Credit Facility and Secured Convertible Note with CANX wherebyand Logic Works LLC, a lender and shareholder of the Company.
The Amended and Restated Joint Venture Agreement with CANX modified the Joint Venture Agreement dated November 19, 2013 was modified to provide for (i) up to $12,000,000 in conditional financing subject to review by GrowLife and approval by OGI for business growth development opportunities in the legal cannabis industry for up to nine months, subject to extension; (ii) up to $10,000,000 in working capital loans, with each loaningloan requiring approval in advance by CANX; (iii) confirmed that the five year warrants, subject to extension,adjustment, at $0.033 per share for the purchase of 140,000,000 and 100,000,000 were fully earned and were not considered compensation for tax purposes by the Company; (iv) granted CANX five year warrants, subject to extension,adjustment, to purchase 300,000,000 shares of common stock at the fair market price of $0.033 per share as determined by an independent appraisal; (v) warrants as defined in the Agreement related to the achievement of OGI milestones; and (vi) a four year term, subject to adjustment and (vi) the filing of a registration statement on Form S-1 within 10 days of the filing of the Company’s Form 10-Q for the period ended June 30, 2014. Due to the Company’s grey sheet trading status and other issues, the Company did not file the registration statement.adjustment.
Secured Convertible Note and Secured Credit Facility
The Company entered into a Secured Convertible Note and Secured Credit Facility dated June 25, 2014 with Logic Works whereby Logic Works agreed to provide up to $500,000 in funding. Each funding requiresrequired approval in advance by Logic Works, provides forprovided interest at 6% with a default interest of 24% per annum and requires repayment by June 26, 2016. The Note is convertible into common stock of the Company at the lesser of $0.0070 or (B) twenty percent (20%) of the average of the threenine (3) lowest daily VWAPs occurring during the twenty (20) consecutive Trading Days immediately preceding the applicable conversion date on which Logic Works elects to convert all or part of this 6% Convertible Note, subject to adjustment as provided in the Note. The 6% Convertible Note is collateralized by the assets of the Company. The Company also has agreed to file a registration statement on Form S-1 within 10 days of the filing of the Company’s Form 10-Q for the three months ended September 30, 2014 and have the registration statement declared effective within ninety days of the filing of the Company’s Form 10-Q for the three months ended June 30, 2014. Due to the Company’s grey sheet trading status and other issues, the Company did not file the registration statement.
On July 10, 2014, the Company closed a Waiver and Modification Agreement, Amended and Restated Joint Venture Agreement, Secured Credit Facility and Secured Convertible Note with CANX, and Logic Works LLC, a lender and shareholder of the Company. As of December 31, 2014,2017, the Company has borrowed $350,000 underoutstanding balance on the Secured Convertible Note and Secured Credit Facility dated June 25, 2014 with Logic Works.was $41,225.
OGI was incorporated on January 7, 2014 in the State of Nevada and had no business activities as of December 31, 2015.2017.
NOTE 65 – INVENTORY
Inventory as of December 31, 20152017 and December 31, 2014 consists2016 consisted of the following:
| | | |
| | | |
| Raw materials | $110,000 | $- |
| Finished goods | 375,678 | 438,453 |
| Inventory reserve | (20,000) | (20,000) |
| Total | $465,678 | $418,453 |
| | | December 31, 2015 | | | December 31, 2014 | |
| | | (Audited) | | | (Audited) | |
| | | | | | | |
| Finished goods | | $ | 418,439 | | | $ | 923,565 | |
| Inventory reserve | | | (20,000 | ) | | | (40,215 | ) |
| Total | | $ | 398,439 | | | $ | 8 |
Raw materials consist of supplies for the flooring product line.
Finished goods inventory relates to product at the Company’s retail stores, which is product purchased from distributors, and in some cases directly from the manufacturer, and resold at our stores.
The Company reviews its inventory on a periodic basis to identify products that are slow moving and/or obsolete, and if such products are identified, the Company records the appropriate inventory impairment charge at such time.
NOTE 6 – PROPERTY AND EQUIPMENT
Property and equipment as of December 31, 2017 and 2016 consists of the following:
| | | |
| | | |
| Machines and equipment | $365,861 | $63,172 |
| Furniture and fixtures | 49,787 | 49,787 |
| Computer equipment | 52,304 | 52,304 |
| Leasehold improvements | 56,965 | 56,965 |
| Total property and equipment | 524,917 | 222,228 |
| Less accumulated depreciation and amortization | (222,228) | (220,338) |
| Net property and equipment | $302,689 | $1,890 |
Fixed assets, net of accumulated depreciation, were $302,689 and $1,890 as of December 31, 2017 and 2016, respectively. Accumulated depreciation was $222,228 and $220,338 as of December 31, 2017 and 2016, respectively. Total depreciation expense was $1,890 and $8,437 for the years ended December 31, 2017 and 2016, respectively. All equipment is used for manufacturing, selling, general and administrative purposes and accordingly all depreciation is classified in cost of goods sold, selling, general and administrative expenses. The Company will begin depreciation on the purchased machine January 1, 2018 when significant operations begin.
On October 3, 2017, the Company closed the acquisition of 51% of the Purchased Assets from David Reichwein, a Pennsylvania resident, GIP International Ltd, a Hong Kong corporation and DPR International LLC, a Pennsylvania limited liability corporation. The Purchased Assets include intellectual property, copy rights and trademarks related to reflective tiles and flooring.
The Company did not acquire business, customer list or employees.
The Company acquired its 51% interest in the Purchased Assets for $400,000. The Company funded equipment and rent of an office lease. On February 16, 2018, the Company purchased the remaining 49% of the Purchased Assets in exchange for a one-time payment of $250,000. As of December 31, 2017, the Company had recorded investment in purchased assets of $302,689.
NOTE 7 – INVESTMENT IN VAPE HOLDINGS, INC.CONVERTIBLE NOTES PAYABLE, NET
In May 2013,Convertible notes payable as of December 31, 2017 consisted of the Company made an investment infollowing:
| | | | | |
| | | | | |
| | | | | |
| 6% Secured convertible note (2014) | $39,251 | $1,974 | $- | $41,225 |
| 7% Convertible note ($850,000) | 250,000 | 321,652 | - | 571,652 |
| 10% OID Convertible Promissory Note with Chicago Venture Partners, L.P. | 2,980,199 | 120,492 | (698,547) | 2,402,144 |
| | $3,269,450 | $444,118 | $(698,547) | $3,015,021 |
Convertible notes payable as of December 31, 2016 consisted of the amountfollowing:
| | | | | |
| | | | | |
| | | | | |
| 6% Secured convertible note (2014) | $330,295 | $3,692 | $- | $333,987 |
| 7% Convertible note ($850,000) | 250,000 | 164,137 | - | 414,137 |
| Replacement debenture with TCA ($2,830,210) | 1,468,009 | 18,350 | - | 1,486,359 |
| 10% OID Convertible Promissory Note with Chicago Venture Partners, L.P. | 683,042 | 2,670 | (121,395) | 564,317 |
| | $2,731,346 | $188,849 | $(121,395) | $2,798,800 |
Several of $1,160 in Vape Holdings, Inc., a Nevada corporation, and received 200,428 shares.
Sterling C. Scott, the Company’s then Chief Executive Officer, also owned 257,320 sharesconvertible promissory notes remain outstanding beyond their respective maturity dates. This may trigger an event of Vape’sdefault under the respective agreements. The Company is working with these noteholders to convert their notes into common stock. Furthermore, the former President of GrowLife, Inc., Kyle Tracey, was the Chief Executive Officer of Vape.stock and intends to resolve these outstanding issues as soon as practicable. As a result, the Company deemed Vape to beaccrued interest on these notes at the default rates. Furthermore, as a related party and thereforeresult of being in default on these notes, the Holders could, at their sole discretion, have called these notes. Although no such action has recordedbeen taken by the Company’s investment in VapeHolders, the Company classified these notes as an “Investment in a related party” on its balance sheet.
The value of the Company’s investment in Vapecurrent liability as of December 31, 2013 was $5.602017 and 2016.
6% Secured Convertible Note and Secured Credit Facility (2014)
The Company entered into a Secured Convertible Note and Secured Credit Facility dated June 25, 2014 with Logic Works whereby Logic Works agreed to provide up to $500,000 in funding. Logic Works funded $350,000. The funding provided for interest at 6% with a default interest of 24% per annum and required repayment by June 26, 2016. The Note is convertible into common stock of the Company at the lesser of $0.007 or (B) twenty percent (20%) of the average of the nine (3) lowest daily VWAPs occurring during the twenty (20) consecutive Trading Days immediately preceding the applicable conversion date on which Logic Works elects to convert all or part of this 6% Convertible Note, subject to adjustment as provided in the Note. On February 28, 2017, Logic Works converted principal and interest of $297,939 into 82,640,392 shares of our common stock at a per share or $1,122,397. conversion price of $0.004. As of December 31, 2017, the outstanding principal on this 6% convertible note was $39,251 and accrued interest was $1,974, which results in a total liability of $41,225. On February 28, 2017, Logic Works converted principal and interest of $291,044 into 82,640,392 shares of the Company’s common stock at a per share conversion price of $0.004.
During the year ended December 31, 2016, the Company recorded interest expense of $20,837 and $83,924 of non-cash interest expense related to the amortization of the debt discount associated with this 6% convertible note, respectively. Logic Works converted interest of $47,386 into shares of the Company’s common stock at a per share conversion price of $0.0036.
As of December 31, 2016, the Company has borrowed $330,295 under the Secured Convertible Note and Secured Credit Facility, accrued interest was $3,692 and the unamortized debt discount was $0, which results in a net amount of $333,987.
As of December 31, 2016, the outstanding principal on these 7% convertible notes was $250,000, accrued interest was $164,137, and unamortized debt discount was $0, which results in a net amount of $414,137. Logic Works converted principal of $250,000 and interest of $75,149 and interest of into shares of the Company’s common stock at a per share conversion price of $0.004 to $0.007.
7% Convertible Notes Payable
On October 11, 2013, the Company issued 7% Convertible Notes in the aggregate amount of $850,000 to investors, including $250,000 to Forglen LLC. The Note was due September 30, 2015. All other Notes were converted in 2014. On July 14, 2014, the Board of Directors approved a Settlement Agreement and Waiver of Default dated June 19, 2014 with Forglen related to the 7% Convertible Note. The rate of interest was increased to 24% per annum. On October 1, 2015, the rate of interest increased to 24% compounded. The conversion price was $0.007 per share, subject to adjustment as provided in the Note. As of December 31, 2017, the outstanding principal on this 7% convertible note was $250,000 and accrued interest was $321,652, which results in a total liability of $571,652. Since the note is in default and the terms of settlement are no longer acceptable to the holder the Company has recognized the loss of $571,652 and reclassified the derivative liability related to the beneficial conversion to equity.
As of December 31, 2016, the outstanding principal on these 7% convertible notes was $250,000, accrued interest was $164,137, and unamortized debt discount was $0, which results in a net amount of $414,137.
Funding from TCA Global Credit Master Fund, LP (“TCA”)
As of December 31, 2016, the Company was indebted to TCA under the First and Second Replacement Debentures in the amount of $1,468,009, accrued interest was $18,350 and the unamortized debt discount was $0, which results in a net amount of $1,486,359.
During the year ended December 31, 2016, Old Main LLC converted TCA principal and accrued interest of $757,208 into 144,650,951 shares of our common stock at a per share conversion price of $0.0052.
During the year ended December 31, 2016, the Company recorded the unamortized debt discount reversal of $750,339 related to the TCA financing as a reduction in additional paid in capital because TCA did not convert its debt but assigned its debentures to others.
The Company sold 200,428 shareshas recorded a loss on these transactions in the amount of Vape’s common stock$2,889,540 during the year ended December 31, 20142016. The loss on debt conversions related to the conversion of our notes payable at prices below the market price.
On January 10, 2017, Chicago Venture, at the Company’s instruction, remitted funds of $1,495,901 to TCA in order to satisfy all debts to TCA. On or around January 11, 2017, the Company was notified by TCA that $13,540 were due to TCA in order for net proceeds of $186,791 which was recorded as “other income”TCA to release its security interest in the statement of operations. As of December 31, 2014,Company’s assets. On February 1, 2017, TCA notified the Company recorded a $1,122,397 lossthat all funds were received and TCA would release its security interest in Company’s assets. TCA has confirmed that it is paid in full and the valueCompany is not aware of its investment in Vape by decreasing its “Investment in a related party” balance sheet account while also recording a corresponding decreaseany other obligations that the Company has as to “Unrealized loss on investment in a related party” inTCA. The funds received under the Stockholders’ deficit section of the Company’s balance sheet.Chicago Venture Agreements and previous Chicago Venture Agreements were used to pay-off TCA.
NOTE 8 – INTANGIBLE ASSETS
Intangible assets as of December 31, 2015 consisted of the following:
| Intangible Assets: | | | | Cost | | | Accumulated Amortization | | | Net Book Value | |
| RMH/EGC acquisition- customer contracts | | 5 years | | $ | 366,000 | | | $ | (189,100 | ) | | $ | 176,900 | |
| Greners acquisition- customer contracts | | 5 years | | | 230,000 | | | | (163,296 | ) | | | 66,704 | |
| Phototron acquisition- customer contracts | | 5 years | | | 215,000 | | | | (215,000 | ) | | | - | |
| Soja, Inc. (Urban Garden Supply) acquisition- customer contracts | | 5 years | | | 60,000 | | | | (60,000 | ) | | | - | |
| Total intangible assets | | | | $ | 871,000 | | | $ | (627,396 | ) | | $ | 243,604 | |
Total amortization expense was $106,548 for the years ended December 31, 2015 and 2014, respectively.Funding from Chicago Venture Partners, L.P. (“Chicago Venture”)
The fair valueCompany has the following funding transactions with Chicago Venture:
Securities Purchase Agreement with Chicago Venture Partners, L.P. As of April 4, 2016, the assets acquired detailed above, estimated by usingCompany entered into a discounted cash flow approach based on future economic benefits associatedSecurities Purchase Agreement and Convertible Promissory Note (the “Chicago Venture Note”) with agreements with customers, or through expected continued business activities with its customers. In summary, the estimate was based on a projected income approachChicago Venture, whereby we agreed to sell, and related discounted cash flows over five years, with applicable risk factors assignedChicago Venture agreed to assumptionspurchase an unsecured convertible promissory note in the forecasted results.
NOTE 9 – DERIVATIVE LIABILITY
original principal amount of $2,755,000. In April 2008,connection with the FASB issuedtransaction, the Company received $350,000 in cash as well as a pronouncement that provides guidance on determining what typesseries of instruments or embedded features in an instrument held by a reporting entity can be considered indexed to its own stock for the purpose of evaluating the first criteria of the scope exception in the pronouncement on accounting for derivatives. This pronouncement was effective for financial statements issued for fiscal years beginning after December 15, 2008. The adoption of these requirements can affect the accounting for warrants and many convertible instruments with provisions that protect holders from a decline in the stock price (or “down-round” provisions). For example, warrants or conversion features with such provisions are no longer recorded in equity. Down-round provisions reduce the exercise price of a warrant or convertible instrument if a company either issues equity sharestwelve Secured Investor Notes for a price that is lower than the exercise pricetotal Purchase Price of those instruments or issues new warrants or convertible instruments that have a lower exercise price.
7% Convertible Notes
As$2,500,000. The Note carries an Original Issue Discount (“OID”) of December 31, 2013, the Company had outstanding 7% convertible notes for $1,850,000 that the Company determined were a derivative liability due$250,000 and we agreed to the “reset” clause associated with the note’s conversion price. The Company had valued the derivative liability of these notes at $9,324,000 using the Black-Scholes-Merton option pricing model. As of December 31, 2014, the Company had outstanding 7% convertible notes for $500,000 that the Company determined were a derivative liability duepay $5,000 to the “reset” clause associated with the note’s conversion price. The Company valued the derivative liability of these notes at $1,278,878 using the Black-Scholes-Merton option pricing model, which approximates the Monte Carlocover Purchaser’s legal fees, accounting costs and other binomial valuation techniques. As of December 31, 2015, the Company had outstanding 7% convertible notes for $500,000 that the Company determined were a derivative liability duetransaction expenses.
Debt Purchase Agreement and First Amendment to the “reset” clause associated with the note’s conversion price. The Company valued the derivative liability of these notes at $105,515 using the Black-Scholes-Merton option pricing model, which approximates the Monte CarloDebt Purchase Agreement and other binomial valuation techniques, with the following assumptions (i) dividend yield of 0%; (ii) expected volatility of 133.2%; (iii) risk free rate of .001%, (iv) stock price of $.005, (v) per share conversion price of $0.007, and (vi) expected term of .25 years, as the Company estimates that these notes will be converted by March 31, 2016.
6% Convertible Notes
As of December 31, 2014, the Company had outstanding 6% convertible notes for $350,000 that the Company determined were a derivative liability due to the “reset” clause associated with the note’s conversion price. The Company valued the derivative liability of these notes at $822,037 using the Black-Scholes-Merton option pricing model, which approximates the Monte Carlo and other binomial valuation techniques. As of December 31, 2015, the Company had outstanding unsecured 6% convertible notes for $350,000 that the Company determined were a derivative liability due to the “reset” clause associated with the note’s conversion price. The Company valued the derivative liability of these notes at $54,377 using the Black-Scholes-Merton option pricing model. which approximates the Monte Carlo and other binomial valuation techniques, with the following assumptions (i) dividend yield of 0%; (ii) expected volatility of 133.2%; (iii) risk free rate of 0.34%, (iv) stock price of $.005, (v) per share conversion price of $0.007, and (vi) expected term of .56 years.
Secured Convertible Debenture Transaction with TCA Global Credit Master Fund LP
Note Assignment Agreement.On July 9, 2015,August 24, 2016, the Company closed a SecuritiesDebt Purchase Agreement and a First Amendment to Debt Purchase Agreement and related agreements with Chicago Venture and TCA.
On August 24, 2016, TCA closed an Assignment of Note Agreement and related agreements with Chicago Venture. The referenced agreements relate to the assignment of Company debt, in the form of debentures, by TCA to Chicago Venture. The Company was a party to the agreements between TCA and Chicago Venture because the Company is the “borrower” under the TCA held debentures.
Exchange Agreement, Convertible Promissory Note and related Agreements with Chicago Venture.On August 17, 2016, the Company closed an Exchange Agreement and a Convertible Promissory Note and related agreements with Chicago Venture whereby the Company agreed to the assignment of debentures representing debt between the Company, on the one hand, and with TCA, on the other hand. Specifically, the Company agreed that TCA could assign a portion of the Company’s debt held by TCA to Chicago Venture.
On January 10, 2017, Chicago Venture, at the Company’s instruction, remitted funds of $1,495,901 to TCA in order to satisfy all debts to TCA. On or around January 11, 2017, the Company was notified by TCA that $13,540 were due to TCA in order for TCA to release its security interest in the Company’s assets. On February 1, 2017, TCA notified the Company that all funds were received and TCA would release its security interest in Company’s assets. TCA has confirmed that it is paid in full and the Company is not aware of any other obligations that the Company has as to TCA. The funds received under the Chicago Venture Agreements and previous Chicago Venture Agreements were used to pay-off TCA.
Debt Purchase Agreement and First Amendment to Debt Purchase Agreement and Note Assignment Agreement.On August 24, 2016, the Company closed a Debt Purchase Agreement and a First Amendment to Debt Purchase Agreement and related agreements with Chicago Venture and TCA.
On February 1, 2017, the Company closed the transactions described below with Chicago Venture:
Securities Purchase Agreement, Secured Promissory Notes, Membership Interest Pledge Agreement and Security Agreement
On January 9, 2017, the Company executed the following agreements with Chicago Venture: (i) Securities Purchase Agreement; (ii) Secured Promissory Notes; (iii) Membership Interest Pledge Agreement; and (iv) Security Agreement (collectively the “Chicago Venture Agreements”). The Company entered into the Chicago Venture Agreements with the intent of paying its debt, in full, to TCA Global Credit Master Fund, LP (“TCA”).
The total amount of funding under the Chicago Venture Agreements is $1,105,000. Each Convertible Promissory Note carries an accredited investor, whereby theoriginal issue discount of $100,000 and a transaction expense amount of $5,000, for total debt of $1,105,000. The Company agreed to sellreserve 500,000,000 of its shares of common stock for issuance upon conversion of the Debt, if that occurs in the future. If not converted sooner, the Debt is due on or before January 9, 2018. The Debt carries an interest rate of 10%. The Debt is convertible, at Chicago Venture’s option, into the Company’s common stock at $0.009 per share subject to adjustment as provided for in the Secured Promissory Notes attached hereto and TCAincorporated herein by this reference.
Chicago Venture’s obligation to fund the Debt was secured by Chicago Venture’s 60% interest in Typenex Medical, LLC, an Illinois corporation, as provided for in the Membership Pledge Agreement.
Securities Purchase Agreement, Secured Promissory Notes and Security Agreement
On August 11, 2017, the Company executed the following agreements with Chicago Venture: (i) Securities Purchase Agreement; (ii) Secured Promissory Notes; and (iii) Security Agreement (collectively the “Chicago Venture Agreements”). The Company entered into the Chicago Venture Agreements with the intent to acquire working capital to grow the Company’s business.
The total amount of funding under the Chicago Venture Agreements is $1,105,000.00 (the “Debt”). Each Convertible Promissory Note carries an original issue discount of $100,000 and a transaction expense amount of $5,000, for total debt of $1,105,000. We agreed to purchase up to $3,000,000reserve 200,000,000 of senior secured convertible redeemable debentures,its shares of which $700,000 was purchased on July 9, 2015 and up to $2,300,000 may be purchased in additional closings. The closingcommon stock for issuance upon conversion of the Transaction occurredDebt, if that occurs in the future. If not converted sooner, the Debt is due on July 9, 2015.or before August 11, 2018. The Debt carries an interest rate of ten percent (10%). The Debt is convertible, at Chicago Venture’s option, into our common stock at $0.009 per share subject to adjustment as provided for in the Secured Promissory Notes attached hereto and incorporated herein by this reference.
Securities Purchase Agreement, Secured Promissory Notes and Security Agreement
On December 22, 2017, the Company executed the following agreements with Chicago Venture: (i) Securities Purchase Agreement; (ii) Secured Promissory Notes; and (iii) Security Agreement (collectively the “Chicago Venture Agreements”). The Company entered into the Chicago Venture Agreements with the intent to acquire working capital to grow the Company’s businesses.
On July 9, 2015,
The total amount of funding under the Chicago Venture Agreements is $1,105,000. Each Convertible Promissory Note carries an original issue discount of $100,000 and a transaction expense amount of $5,000, for total debt of $1,105,000. The Company valuedagreed to reserve three times the number of shares based on the redemption value with a minimum of 50 million shares of its common stock for issuance upon conversion featureof the Debt, if that occurs in the future. If not converted sooner, the Debt is due on or before December 21, 2018. The Debt carries an interest rate of ten percent (10%). The Debt is convertible, at Chicago Venture’s option, into the Company’s common stock at $0.015 per share subject to adjustment as provided for in the Secured Promissory Notes.
The Company’s obligation to pay the Debt, or any portion thereof, is secured by all of the Company’s assets
As of December 31, 2017, the outstanding principal balance due to Chicago Venture is $2,980,199, accrued interest was $120,492, net of the OID of $698,547, which results in a total amount of $2,402,144. The OID has been recorded as a derivative liability of this senior secured convertible redeemable debenture at $888,134discount to debt and discounted debt by $700,000 and recorded$419,666 was amortized to interest expense during the nine months ended September 30, 2017.
During the year ended December 31, 2017, Chicago Venture converted principal and accrued interest of $188,134. The Company valued$2,688,000 into 554,044,030 shares of the derivative liability of this debentureCompany’s common stock at $888,134 using the Black-Scholes-Merton option pricing model. which approximates the Monte Carlo and other binomial valuation techniques, with the following assumptions (i) dividend yield of 0%; (ii) expected volatility of 160.0%; (iii) risk free rate of 0.25%, (iv) stock price of $0.02, (v)a per share conversion price of $0.011,$0.0049. During the year ended December 31, 2016, Chicago Venture converted principal and (vi) expected termaccrued interest of 1.0 years.
Committed Equity Facility Transaction with TCA Global Credit Master Fund LP
On August 6, 2015, the Company closed a Securities Purchase Agreement and related agreements with TCA Global Credit Master Fund LP, whereby the Company agreed to sell and TCA agreed to purchase a $100,000 senior secured convertible redeemable debenture and the Company agreed to issue and sell to TCA, from time to time, and TCA agreed to purchase from the Company up to $3,000,000$1,403,599 into 264,672,323 shares of the Company’sour common stock pursuant toat a Committed Equity Facility. The closing of the Transaction occurred on August 6, 2015.
On August 6 2015, the Company valued the conversion feature as a derivative liability of this senior secured convertible redeemable debenture at $66,668 and discounted debt by $66,668. The Company valued the derivative liability of this debenture at $66,668 using the Black-Scholes-Merton option pricing model. which approximates the Monte Carlo and other binomial valuation techniques, with the following assumptions (i) dividend yield of 0%; (ii) expected volatility of 160.0%; (iii) risk free rate of 0.25%, (iv) stock price of $0.02, (v) per share conversion price of $0.018, and (vi) expected term of 1.0 years.$0.0053.
Amended and Restated Securities Purchase Agreement with TCA Global Credit Master Fund LP
On October 27, 2015, the Company entered into an Amended and Restated Securities Purchase Agreement and related agreements with TCA Global Credit Master Fund LP whereby we agreed to sell, and TCA agreed to purchase $350,000 of senior secured convertible, redeemable debentures. The Company and TCA previously entered into a Securities Purchase Agreement dated as of April 30, 2015 and effective as of July 9, 2015 to purchase up to $3,000,000 in Debentures. To date, the Company has sold $1,050,000 in Debentures to TCA and up to $1,950,000 in Debentures remains for sale by the Company. The closing of the transaction occurred on October 27, 2015.
The Company valuedrecognized $2,384,678 and $0 of loss on debt conversions during the conversion feature asyears ended December 31, 2017 and 2016, respectively. During the year ended December 31, 2016, Chicago Venture converted principal and accrued interest of $1,403,599 into 264,672,323 shares of our common stock at a derivative liability at $340,924 and discounted debt by $340,924. The company value the derivative liability of this debenture using the Black-Scholes-Merton option pricing model which approximates the Monte Carlo and other binomial valuation techniques, with the following assumption (i) dividend yield of 0%, (ii) expected volatility of 160.0%; (iii) risk free rate of 0.25%, (iv) stock price of $0.007, (v) per share conversion price of $0.0065, and (vi) expected term of 1.0 years.
The risk-free rate of return reflects the interest rate for the United States Treasury Note with similar time-to-maturity to that of the warrants.
| | | Fair Value Measurements Using Inputs | | | Carrying Amount at September 30, | |
| Financial Instruments | | Level 1 | | | Level 2 | | | Level 3 | | | 2015 | |
| | | | | | | | | | | | | |
| Liabilities: | | | | | | | | | | | | |
| Derivative Instruments - Warrants | | $ | - | | | $ | 1,377,175 | | | $ | - | | | $ | 1,377,175 | |
| | | | | | | | | | | | | | | | | |
| Total | | $ | - | | | $ | 1,377,175 | | | $ | - | | | $ | 1,377,175 | |
For the year ended December 31, 2015, the Company recorded non-cash income of $723,740 related to the “change in fair value of derivative” expense related to its 6%, 7% and 18% convertible notes.
| | | Fair Value Measurements Using Inputs | | | December 31, | |
| Financial Instruments | | Level 1 | | | Level 2 | | | Level 3 | | | 2014 | |
| | | | | | | | | | | | | |
| Liabilities: | | | | | | | | | | | | |
| Derivative Instruments - Warrants | | $ | - | | | $ | 2,100,915 | | | $ | - | | | $ | 2,100,915 | |
| | | | | | | | | | | | | | | | | |
| Total | | $ | - | | | $ | 2,100,915 | | | $ | - | | | $ | 2,100,915 | |
For the year ended December 31, 2015, the Company recorded non-cash income of $16,252,823 related to the “change in fair value of derivative” expense related to its 6%, 7% and 12% convertible notes.
NOTE 108 – RELATED PARTY TRANSACTIONS AND CERTAIN RELATIONSHIPSDERIVATIVE LIABILITY
Since January 1, 2014,In April 2008, the FASB issued a pronouncement that provides guidance on determining what types of instruments or embedded features in an instrument held by a reporting entity can be considered indexed to its own stock for the purpose of evaluating the first criteria of the scope exception in the pronouncement on accounting for derivatives. This pronouncement was effective for financial statements issued for fiscal years beginning after December 15, 2008.
If the conversion features of conventional convertible debt provide for a rate of conversion that is below market value, this feature is characterized as a beneficial conversion feature (BCF). A BCF is recorded by the Company engagedas a debt discount pursuant to ASC Topic 470-20. Debt with Conversion and Other Options. In those circumstances, the convertible debt is recorded net of the discount related to the BCF and the Company amortizes the discount to interest expense over the life of the debt using the effective interest method. The debt is convertible at the lesser of 65% of the fair value of the Company’s common stock or $0.009 requiring the conversion feature to be bifurcated from the host debt contract and accounting for separately as a derivative, resulting in periodic revaluations.
Derivative liability as of December 31, 2017 is as follows:
| | | | | |
| | Fair Value Measurements Using Inputs | |
| Financial Instruments | | | | |
| Liabilities: | | | | |
| Derivative Instruments | $- | $2,660,167 | $- | $2,660,167 |
| | | | | |
| Total | $- | $2,660,167 | $- | $2,660,167 |
For the following reportable transactionsyear ended December 31, 2017, the Company recorded non-cash income of $496,036 related to the “change in fair value of derivative” expense related to its 6%, 7% and 10% convertible notes.
Derivative liability as of December 31, 2016 is as follows:
| | | | | |
| | Fair Value Measurements Using Inputs | |
| Financial Instruments | | | | |
| Liabilities: | | | | |
| Derivative Instruments | $- | $2,701,559 | $- | $2,701,559 |
| | | | | |
| Total | $- | $2,701,559 | $- | $2,701,559 |
For the year ended December 31, 2016, the Company recorded non-cash income of $1,324,384 related to the “change in fair value of derivative” expense related to its 6%, 7% and 18% convertible notes.
7% Convertible Notes
As of December 31, 2016, the Company had outstanding 7% convertible notes with our directors, executive officers, holdersa remaining balance of more than 5%$250,000 that the Company determined had an embedded derivative liability due to the “reset” clause associated with the note’s conversion price. The Company valued the derivative liability of our voting securities, and affiliates or immediately family membersthese notes at $1,495,495.
6% Convertible Notes
As of our directors, executive officers and holdersDecember 31, 2016, the Company had outstanding unsecured 6% convertible notes for $330,295 that the Company determined had an embedded derivative liability due to the “reset” clause associated with the note’s conversion price. The Company valued the derivative liability of more than 5% of our voting securities.these notes at $1,206,064.
Certain Relationships
Please see the transactions with CANX, LLC and Logic Works LLC in Note 5 andFunding from TCA Global Credit Master Fund, LP as discussed in Note 11 and 12.
Transaction with Marco Hegyi
Mr. Hegyi warrant to purchase up to twenty five million shares of the Company’s common stock at an exercise price of $0.08 per share was reduced to $0.01 per share on December 18, 2015. The reduction in exercise price resulted in no additional compensation expense at December 31, 2015.
Transaction with an Entity Controlled by Mark E. Scott
An entity controlled by Mr. Scott received an option to purchase sixteen million shares of the Company’s common stock at an exercise price of $0.07 per share was reduced to $0.01 per share on December 18, 2015. The reduction in exercise price resulted in no additional compensation expense at December 31, 2015. Two million shares vested on August 17, 2015 with the Company’s resolution of the class action lawsuits.(“TCA”).
Loans and Advances from Sterling C. Scott
Sterling Scott, our former CEO, advanced various amounts to us. As of December 31, 2011, the amount due the former CEO was $183,103, and additional advances of $98,897 were made to us through April 5, 2012. On April 5, 2012, Mr. Scott converted $282,000 of these advances into a 6% senior convertible note. Mr. Scott made further advances during the year ended December 31, 2012 which were converted into the 6% senior convertible note. As of December 31, 2013, total amount owed to Mr. Scott was $453,932, which consisted of $413,680 in principal and $40,252 in accrued interest. As of September 10, 2014, the outstanding principal balance on Mr. Scott’s 6% convertible note was $413,680 and accrued interest were sold to two parties not related to us.
Investment in Vape Holdings, Inc.
Please see the transactions with Vape Holding, Inc. as discussed in Note 7.
NOTE 11– CONVERTIBLE NOTES PAYABLE, NET
Convertible notes payable as of December 31, 2015 consists of the following:
| | | | | | Accrued | | | Debt | | | December 31, | |
| | | Principal | | | Interest | | | Discount | | | 2015 | |
| 6% Senior secured convertible notes (2012) | | $ | 413,680 | | | $ | 172,494 | | | $ | - | | | $ | 586,174 | |
| 6% Secured convertible note (2014) | | | 350,000 | | | | 30,641 | | | | (83,924 | ) | | | 296,717 | |
| 7% Convertible note ($850,000) | | | 250,000 | | | | 104,137 | | | | - | | | | 354,137 | |
| 7% Convertible note ($1,000,000) | | | 250,000 | | | | 134,469 | | | | - | | | | 384,469 | |
| 18% Senior secured redeemable convertible debenture ($1,050,000) | | | 1,150,000 | | | | 68,510 | | | | (552,139 | ) | | | 666,371 | |
| | | | | | | | | | | | | | | | | |
| | | $ | 2,413,680 | | | $ | 510,251 | | | $ | (636,063 | ) | | $ | 2,287,868 | |
On April 10, 2014, as a result of the SEC suspension in the trading of our securities, the Company went into default on its 6% Senior Secured Convertible Notes Payable and 7% Convertible Notes Payable. As a result, the Company accrued interest on these notes at the default rate of 12% and 24% per annum, respectively. Furthermore, as a result of being in default on these notes, the Holders could, at their sole discretion, call these notes. Although no such action has been taken by the Holders, the Company classified these notes as a current liability rather than long-term debt as of June 30, 2014.
6% Senior Secured Convertible Notes Payable (2012)
On September 28, 2012, the Company entered into an Amendment and Exchange Agreement (“Exchange Agreement”) with investors, including Sterling Scott, our then CEO. The Exchange Agreement provided for the issuance of new 6% Senior Secured Convertible Notes that replaced the 6% Senior Secured Convertible Notes that were previously issued during 2012. The 6% Notes accrued interest at the rate of 6% per annum and had a maturity date of April 15, 2015. No cash payments were required; however, accrued interest is due at maturity. In the event of a default the investors may declare the entire principal and accrued interest to be due and payable. Default interest accrued at the rate of 12% per annum. The 6% Notes were secured by substantially all of the assets of the Company and are convertible into common stock at the rate of $0.007 per share. The Company determined that the conversion feature was a beneficial conversion feature.
As of September 10, 2014, the outstanding principal balance on Mr. Scott’s 6% convertible note was $413,680 and accrued interest were sold to two parties not related to us. On April 27, 2015, the Company entered into Amendment One of the Amended and Restated 6% Senior Secured Convertible Note, which increased the interest rate to 12% effective April 8, 2014 and extended the maturity to September 15, 2015.
On July 9, 2015, the two investors each entered into Amendment Two of the Amended and Restated 6% Senior Secured Convertible Note which provide for an increase in the interest rate from 6% to 10% and the default interest rate from 12% to 20% on the 6% Senior Secured Convertible Notes for so long as the Company remains in technical default on said notes due to its delisting from its Primary Trading Market April 2014. The Company further agreed that said 20% default interest will be applied to the date of default on April 10, 2014 and continuing through the present.
During the year ended December 31, 2014, the Company recorded interest expense of $66,568 and $81,609 of non-cash interest expense related to the amortization of the debt discount associated with these 6% convertible notes, respectively. As of December 31, 2014, the outstanding principal on these 6% convertible notes was $413,680, accrued interest was $71,669, and unamortized debt discount was $20,486, which results in a net amount of $464,683. The Company accrued interest on these notes at the default rate of 12% from April 10, 2014 to July 10, 2014.
During the year ended December 31, 2015, the Company recorded interest expense of $100,825 and $20,486 of non-cash interest expense related to the amortization of the debt discount associated with these 6% convertible notes, respectively. As of December 31, 2015, the outstanding principal on these 6% convertible notes was $413,680, accrued interest was $172,494, and unamortized debt discount was $0, which results in a net amount of $586,174.
6% Secured Convertible Note and Secured Credit Facility (2014)
The Company entered into a Secured Convertible Note and Secured Credit Facility dated June 25, 2014 with Logic Works whereby Logic Works agreed to provide up to $500,000 in funding. Each funding requires approval in advance by Logic Works, provides for interest at 6% with a default interest of 24% per annum and requires repayment by June 26, 2016. The Note is convertible into common stock of the Company at the lesser of $0.0070 or (B) twenty percent (20%) of the average of the three (3) lowest daily VWAPs occurring during the twenty (20) consecutive Trading Days immediately preceding the applicable conversion date on which Logic Works elects to convert all or part of this 6% Convertible Note, subject to adjustment as provided in the Note. The 6% Convertible Note is collateralized by the assets of the Company. The Company also has agreed to file a registration statement on Form S-1 within 10 days of the filing of the Company’s Form 10-Q for the three months ended June 30, 2014 and have the registration statement declared effective within ninety days of the filing of the Company’s Form 10-Q for the three months ended June 30, 2014. Due to the Company’s grey sheet trading status and other issues, the Company did not file the registration statement.
On July 10, 2014, the Company closed a Waiver and Modification Agreement, Amended and Restated Joint Venture Agreement, Secured Credit Facility and Secured Convertible Note with CANX, and Logic Works LLC, a lender and shareholder of the Company. As of December 31, 2014, the Company has borrowed $350,000 under the Secured Convertible Note and Secured Credit Facility, accrued interest was $9,641 and the unamortized debt discount was $261,308, which results in a net amount of $98,333.
During the year ended December 31, 2015, the Company recorded interest expense of $21,000 and $177,384 of non-cash interest expense related to the amortization of the debt discount associated with these 6% convertible notes, respectively. As of December 31, 2015, the Company has borrowed $350,000 under the Secured Convertible Note and Secured Credit Facility, accrued interest was $30,641 and the unamortized debt discount was $83,924, which results in a net amount of $296,717.
7% Convertible Notes Payable
On October 11, 2013, the Company issued 7% Convertible Notes in the aggregate amount of $850,000 to investors, including Forglen LLC. The principal balance due to Forglen as of December 31, 2014 and 2015 is $250,000 was due September 30, 2015. The current annual rate of interest is 24% per annum. The conversion price is $0.007 per share. The Company determined that the conversion feature was a beneficial conversion feature.
On July 14, 2014, the Board of Directors approved a Settlement Agreement and Waiver of Default dated June 19, 2014 with Forglen related to the 7% Convertible Note. The Company cancelled the April 9, 2014 conversion as a result of the SEC suspension in the trading of the Company’s securities and Forglen has $250,000 of principal and interest outstanding on its note payable.
On December 20, 2013, the Company issued 7% Convertible Notes for $1,000,000, including $500,000 from Logic Works LLC. The principal balance due to Logic Works as of December 31, 2014 and 2015 is $250,000 was due September 30, 2015. The current annual rate of interest is 24% per annum. The conversion price is $0.007 per share. The Company determined that the conversion feature was a beneficial conversion feature.
During the year ended December 31, 2014, the Company recorded interest expense of $136,980 and $1,502,260 of non-cash interest expense related to the amortization of the debt discount associated with these 7% convertible notes, respectively. As of December 31, 2014, the outstanding principal on these 7% convertible notes was $500,000, accrued interest was $118,441, and unamortized debt discount was $196,032, which results in a net amount of $422,409.
During the year ended December 31, 2015, the Company recorded interest expense of $120,165 and $196,032 of non-cash interest expense related to the amortization of the debt discount associated with these 7% convertible notes, respectively. As of December 31, 2015, the outstanding principal on these 7% convertible notes was $500,000, accrued interest was $238,606, and unamortized debt discount was $0, which results in a net amount of $738,606.
Secured Convertible Debenture Transaction withFirst TCA Global Credit Master Fund LP
SPA. On July 9, 2015, the Company closed a Securities Purchase Agreement and related agreements with TCA Global Credit Master Fund LP (“TCA”), an accredited investor, whereby the Company agreed to sell and TCA agreed to purchase up to $3,000,000 of senior secured convertible, redeemable debentures, of which $700,000 was purchased on July 9, 2015 and up to $2,300,000 may be purchased in additional closings. The closing of the Transactiontransaction (the “First TCA SPA”) occurred on July 9, 2015.
Securities Purchase Agreement
As set forth above, Effective as of May 4, 2016, the Company and TCA entered into a First Amendment to the Securities Purchase Agreement on July 9, 2015 with the PurchaserFirst TCA SPA whereby the Purchaserparties agreed to purchase up to $3,000,000amend the terms of the Debentures of which $700,000 was purchased at Closing. In connection with the Securities Purchase Agreement, the Company, at the discretion of Purchaser, may request in writing at any time after the Closing that Purchaser purchase additional Debentures at agreed upon time periods and amounts.
The Securities Purchase Agreement also provides that the Company shall, within ninety days of Closing, file any and all periodic reports with the SEC required under the Exchange Act to become current with the Company’s reporting requirements under the Securities Exchange Act of 1934 and shall use its best efforts to obtain approval for the listing and quotation of the Company’s common stock on the OTC Bulletin Board, or another Principal Trading Market more senior and established than the OTC Pink Sheets and approved by Purchaser, and to have such Common Stock trading in such Principal Trading Market.
In consideration for advisory services provided by Purchaser to the Company prior to the Closing, the Company paid to Purchaser a fee by issuing to Purchaser 10,000,000 shares of Common Stock at $0.02 per share equal to $200,000. The Advisory Fee Shares were valued at a price equal to the lowest volume weighted average price for the Common Stock for the five (5) Business Days immediately prior to the Effective Date, as reported by Bloomberg (the “VWAP”). The Advisory Fee Shares are subject to adjustment as provided in the Securities Purchase Agreement. If the Advisory Fee Shares are still in possession of the holder at twelve months the holder may require the Company to redeem that number of shares for cash, not to exceed $200,000. As the common stock is conditionally redeemable, the Company has recorded the common stock as mezzanine equity in the accompanying consolidated balance sheet.
The Company also paid certain transaction, due diligence and document review and legal fees to the Purchaser in connection with the Transaction.
Senior Secured, Convertible, Redeemable Debenture
The Company entered into an initial Debenture dated July 9, 2015 with the Purchaser whereby the Purchaser purchased $700,000 in senior secured, convertible, redeemable debenturesFirst TCA SPA in exchange for $700,000 in immediately available and lawful moneyTCA’s forbearance of the United States of America. The Company promised to pay Purchaser, by no later than October 9, 2016 the outstanding principal together with interest on the outstanding principal amount under the Debenture, at the rate of 18% per annum simple interest. The Company shall make monthly payments of principal and interest on the Debenture to Purchaser, while this Debenture is outstanding, until the Maturity Date, based on the payment, amortization and redemption premium schedule attached as Schedule A to the Debenture.
The indebtedness evidenced by this Debenture is also secured by a first priority lien and security interest in all of the assets and property of the Company and various other instruments as set forth in the Transaction Documents, subject to the terms and conditions of the Intercreditor Agreement described below.
At any time while the Debenture is outstanding on or after the Closing, (i) if mutually agreed uponexisting defaults by the parties or (ii) at the sole option of the Purchaser upon the occurrence of an Event of Default, the Purchaser may convert all or any portion of the outstanding principal, accrued and unpaid interest redemption premium and any other sums due and payable hereunder or under any of the other Transaction Documents into shares of Common Stock of the Company at a price equal to: (i) the Conversion Amount (the numerator); divided by (ii) 90% of the lowest of the average daily volume weighted average price of the Company’s Common Stock during the 5 trading days immediately prior to the Conversion Date (the denominator).
Security Agreement(s)
In connection with the Securities Purchase Agreement and Debenture, the Company entered into a Security Agreement dated July 9, 2015 with the Purchaser whereby the Company agreed to grant to Purchaser an unconditional and continuing, first priority security interest in all of the assets and property of the Company to secure the prompt payment, performance and discharge in full of all of Company’s obligations under the Debentures, the Purchase Agreement and the other Transaction Documents, subject to the terms and conditions of the Intercreditor Agreement set forth below.
In addition, each of the Company’s operating subsidiaries also agreed to grant to Purchaser an unconditional and continuing, first priority security interest in all of the assets and property of each of the subsidiaries to further secure the prompt payment, performance and discharge in full of all of Company’s obligations under the Debentures, the Purchase Agreement and the other Transaction Documents.
Guaranty Agreement(s)
In connection with the Securities Purchase Agreement and Debenture, each of the Company’s operating subsidiaries entered into Guaranty Agreements dated July 9, 2015 with the Purchaser whereby the subsidiaries agreed to guarantee and become surety to Purchaser for the full, prompt and unconditional payment of the Liabilities and payment and performance of the Company’s obligations and the full, prompt and unconditional performance of each term and condition to be performed by Company under the Debentures and the other Transaction Documents.
Pledge Agreement(s)
In connection with the Securities Purchase Agreement and Debenture, the Company entered into Pledge Agreements dated July 9, 2015 with the Purchaser whereby the Company agreed to pledge to Purchaser its shares in each of its operating subsidiaries as further security for the payment and performance of the Company’s obligations and the full, prompt and unconditional performance of each term and condition to be performed by Company under the Debentures and the other Transaction Documents.
Intercreditor Agreement and Related Creditor Documentation
On July 9, 2015, the Company, each of its subsidiaries, Purchaser and Logic Works LLC (an existing senior secured creditor) entered into an Intercreditor Agreement whereby Purchaser and Logic Works agreed that their outstanding senior secured loans to the Company be secured on a pari passu basis with respect to all assets and property of the Company and its subsidiaries. As a result of the Intercreditor Agreement, all sums secured or owing to Purchaser and Logic Works shall be held by them on a pari passu and pro-rata basis between them, in proportion to such party’s outstanding principal amount owing under their respective loan documents.Company.
In addition, the Company, each of its subsidiaries, Purchaser and Jordan Scott and Andrew Gentile, respectively, each entered into Subordination Agreements dated July 9, 2015 whereby Scott and Gentile agreed to subordinate their existing 6% Senior Secured Convertible Notes, dated March 16, 2012, as amended, all of their indebtedness, obligations and security interests to the Purchaser’s security interests as more fully set forth in the Transaction Documents.
On July 9, 2015, Jordan Scott and Andrew Gentile each entered into Amendment Two of the Amended and Restated 6% Senior Secured Convertible Note which provide for an increase in the interest rate from 6% to 10% and the default interest rate from 12% to 20% on the 6% Senior Secured Convertible Notes for so long as the Company remains in technical default on said notes due to its delisting from its Primary Trading Market April 2014. The Company further agreed that said 20% default interest will be applied to the date of default on April 10, 2014 and continuing through the present.
On July 9, 2015, the Company valued the derivative liability of this senior secured convertible redeemable debenture at $888,134 and reduced debt by $700,000 and recorded interest expense of $188,134.
Committed Equity Facility Transaction withSecond TCA Global Credit Master Fund LP
SPA. On August 6, 2015, the Company closed a second Securities Purchase Agreement and related agreements with TCA Global Credit Master Fund LP, whereby the Company agreed to sell and TCA agreed to purchase a $100,000 senior secured convertible redeemable debenture and the Company agreed to issue and sell to TCA, from time to time, and TCA agreed to purchase from the Company up to $3,000,000 of the Company’s common stock pursuant to a Committed Equity Facility.committed equity facility. The closing of the Transactiontransaction (the “Second TCA SPA”) occurred on August 6, 2015.
In consideration for advisory services provided by Purchaser to the Company prior to the, the Company paid to Purchaser a fee by issuing to Purchaser 5,000,000 shares of Common Stock at $0.02 per share equal to $100,000. The Advisory Fee Shares were valued at price equal to the lowest volume weighted average price for the Common Stock for the five (5) Business Days immediately prior to the issuance. The Advisory Fee Shares are subject to adjustment as provided in the Securities Purchase Agreement. If the Advisory Fee Shares are still in possession of the holder at twelve months, the holder may require the Company to redeem that number of shares for cash, not to exceed $100,000. As the common stock is conditionally redeemable, the Company has recorded the common stock as mezzanine equity in the accompanying consolidated balance sheet. The Company also paid certain transaction, due diligence and document review and legal fees in connection with the Transaction.
The Company entered into a Debenture dated August 6, 2015 with the Purchaser whereby the Purchaser purchased $100,000 in a senior secured, convertible, redeemable debenture from the Company in exchange for $100,000. The Company promised to pay Purchaser, by no later than August 6, On April 11, 2016, the outstanding principal together with interest on the outstanding principal amount under the Debenture, at the rate of 18% per annum simple interest. The Debenture is convertible only at the option of Purchaser upon an event of default at a conversion price of 90% of the lowest of the average daily volume weighted average price of the Company’s Common Stock during the 5 trading days immediately prior to the conversion date.
In addition, the Company entered into a Committed Equity Facility, dated August 6, 2015, with the Purchaser in which the Company agreed with TCA to issue and sellmutually terminate the Second TCA SPA.
Amendment to the Purchaser, from time to time, and the Purchaser agreed to purchase from the Company up to $3,000,000 of the Company’s common stock. At any time during the duration of the agreement and after the Company has an effective registration statement outstanding, the Company can require the Purchaser to purchase shares of its common stock which will be sold by Purchaser with the net proceeds provided to the Company, subject to the terms and conditions set forth in the Committed Equity Facility.
To facilitate the Committed Equity Facility, the Company has granted the Purchaser certain registration rights pursuant to a Registration Rights Agreement dated August 6, 2015 whereby the Company filed a registration statement to facilitate the purchase and sale of the common stock under the Committed Equity Facility.
The Company’s obligation to repay the Debenture disclosed herein as well as the Debenture entered into by and between the Company and Purchaser on July 9, 2015, are secured by security agreements, guaranty agreements and pledge agreements previously disclosed on the Company’s Current Report on Form 8-K filed July 16, 2015 and incorporated herein by reference. The Company has additionally entered into an Authorization Agreement, dated August 6, 2015, with Purchaser whereby scheduled re-payments to the Purchaser will be debited from the Company’s account according to the payment schedule of both the Debenture disclosed herein and the Debenture previously entered into on July 9, 2015.
On August 6, 2015, the Company valued the derivative liability of this senior secured convertible redeemable debenture at $66,668 and reduced debt by $66,668.
Amended and Restated Securities Purchase Agreement withFirst TCA Global Credit Master Fund LP
SPA. On October 27, 2015, the Company entered into an Amended and Restated Securities Purchase Agreement and related agreements with TCA Global Credit Master Fund LP whereby wethe Company agreed to sell, and TCA agreed to purchase $350,000 of senior secured convertible, redeemable debentures. The Company previously entered into a Securities Purchase Agreement dated as of April 30, 2015 and effective as of July 9, 2015This was an amendment to purchase upthe First TCA SPA (the “Amendment to $3,000,000 in Debentures.the First TCA SPA”.) As of October 27, 2015, the Company sold $1,050,000 in Debentures to TCA and up to $1,950,000 in Debentures remainsremain for sale by us.the Company. The closing of the transactionAmendment to the First TCA SPA occurred on October 27, 2015. In addition, TCA has advanced the Company an additional $100,000 for a total of $1,150.000.
Issuance of Preferred Stock to TCA. Also, on October 21, 2015 the Company issued 150,000 Series B Preferred Stock at a stated value equal to $10.00 per share to TCA that is convertible into the Company’s common stock. On October 21, 2015, the Company also issued 51 shares of Series C Preferred Stock at $0.0001 par value per share to TCA that is not convertible into the Company’s common stock. In the event of a default under the Amended and Restated TCA Transaction Documents, TCA can exercise voting control over the Company’s common stock with their Series C Preferred Stock voting rights
Amended and Restated Securities Purchase Agreement
As set forth above, the Company entered into the Amended and Restated Securities Purchase Agreement on October 27, 2015 with the Purchaser whereby the Purchaser agreed to purchase $350,000 of the Debentures.
In addition, in consideration for advisory services provided by Purchaser to the Company prior to the closing (the “Second Closing Advisory Fee”), the Company paid to Purchaser a fee by issuing to Purchaser 150,000 Series B Preferred Stock valued at $1,500,000 and convertible into common stock of the Company.
Purchaser was also granted 51 shares of Series C Preferred Stock as further security for the Company’s completion of post-closing obligations under the Amended and Restated Transaction Documents as further discussed below.
Series B Preferred Stock Designation
In connection with the Amended and Restated Securities Purchase Agreement, the Board of Directors, on October 21, 2015, approved the authorization of a Series B Preferred Stock as provided in the Company’s Certificate of Incorporation, as amended.
TCA. The Series B Preferred Stock has authorized 150,000 shares with a stated value equal to $10.00 per share. Dividends payable to other classes of stock are restricted until repayment of the aggregate value of Series B Preferred Stock. Upon liquidation or dissolution of the Company, Series B Preferred Stock has no priority or preference with respect to distributions of any assets of the Company. The Series B Preferred Stock iswas convertible into common stock by dividing the stated value of the shares being converted by 100% of the average of the five (5) lowest closing bid prices for the common stock during the ten (10) consecutive trading days immediately preceding the conversion date as quoted by Bloomberg, LP.
The Purchaser was issued 150,000 shares of Series B Preferred Stock. However, in no event will Purchaser be entitled to hold in excess of 4.99% of the outstanding shares of common stock of the Company.
Series C Preferred Stock Designation
In connection with the Amended and Restated Securities Purchase Agreement, the Board of Directors, on October 21, 2015, approved the authorization of a Series C Preferred Stock as provided in the Company’s Certificate of Incorporation, as amended, and the issuance of 51 shares of Series C Preferred Stock. These shares only have voting rights in the event of a default by the Company under the Amended and Restated Transaction Documents.
The Series C Preferred Stock Designation authorizes 51 shares of Series C Preferred Stock. Series C Preferred Stock is not entitled to dividend or liquidation rights and is not convertible into common stock of the Company.
In the event of a default under the Amended and Restated Transaction Documents, each share of Series C Preferred Stock shall have voting votes equal to 0.019607 multiplied by the total issued and outstanding common stock and preferred stock eligible to vote divided by .49 minus the numerator. For example, if the total issued and outstanding common stock eligible to vote is 5,000,000, the voting rights of one share of Series C Preferred Stock shall be equal to 102,036 (e.g. ((0.019607 x 5,000,000/0.49) – (0.019607 x 5,000,000) = 102,036).
Amended and Restated Senior Secured, Convertible, Redeemable Debenture
In connection with the Amended and Restated Securities Purchase Agreement, the Company, on October 27, 2015, also entered into the Amended and Restated Debenture which was amended to increase the balance of the original Debenture from $700,000 to $1,050,000 as a result of the additional $350,000 advanced.
As of April 14, 2016, the Company is in default on our repayment obligations in its Agreements with TCA and owes TCA approximately $254,000 in principal and interest payments. The Company is working to resolve these issues.
During the year ended December 31, 2015, the Company recorded interest expense of $68,510 and $552,139 of non-cash interest expense related to the amortization of the debt discount associated with the senior secured convertible redeemable debentures, respectively. As of December 31, 2015, the Company has borrowed $1,150,000 under the senior secured convertible redeemable debentures, accrued interest was $68,510 and the unamortized debt credit was $552,139, which results in a net amount of $666,371.
NOTE 12 – EQUITY
Authorized Capital Stock
The Company has voting common stock of 3,000,000,000 shares at $0.0001 par value and 10,000,000 shares of non-voting preferred stock with a par value of $0.0001 as authorized by the shareholders.
In addition, on October 21, 2015 the Company issued 150,000 Series B Preferred Stock at a stated value equal to $10.00 per share and convertible into our common stock. On October 21, 2015, the Company also issued 51 shares of Series C Preferred Stock at $0.0001 par value per share that have certain voting rights but areto TCA. The Series C Preferred Stock was not convertible into common stock. In the event of a default under the Amended and Restated TCA Transaction Documents, TCA could exercise voting control over our common stock with their Series C Preferred Stock voting rights.
TCA’s Forbearance. Due to the Company’s default on its repayment obligations under the TCA SPA’s and related documents, the parties agreed to restructure the SPA’s whereby TCA agreed to forbear from enforcement of our defaults and to restructure a payment schedule for repayment of debt under the SPAs. The Company defaulted because operating results were not as expected and the Company was unable to generate sufficient revenue through its business operations to serve the TCA debt.
In furtherance of TCA’s forbearance, effective as of May 4, 2016, the Company issued Second Replacement Debenture A in the principal amount of $150,000 and Second Replacement Debenture B in the principal amount of $2,681,210 (collectively, the “Second Replacement Debentures”).
Per the First Amendment to Amended and Restated Securities Purchase Agreement, the Second Replacement Debentures were combined, and apportioned into two separate replacement debentures. The Second Replacement Debentures were intended to act in substitution for and to supersede the debentures in their entirety. It was the intent of the Company and TCA that while the Second Replacement Debentures replace and supersede the debentures, in their entirety, they were not in payment or satisfaction of the debentures, but rather were the substitute of one evidence of debt for another without any intent to extinguish the old debt. As of September 30, 2016, the maximum number of shares subject to conversion under the Second Replacement Debentures was 19,401,389. This is an approximation. The estimation of the maximum number of shares issuable upon the conversion of the Second Replacement Debentures was calculated using an estimated average price of $.0036 per share.
The Second Replacement Debentures contemplate TCA entering into debt purchase agreement(s) with third parties whereby TCA may, at its election, sever, split, divide or apportion the Second Replacement Debentures to accomplish the repayment of the balance owed to TCA by Company. The Second Replacement Debentures are convertible at 85% of the lowest daily volume weighted average price (“VWAP”) of the Company’s common stock during the five (5) business days immediately prior to a conversion date.
In connection with the above agreements, the parties acknowledged and agreed that certain advisory fees previously paid to TCA as provided in the SPAs in the amount of $1,500,000 were added and included within the principal balance of the Second Replacement Debentures. The advisory fees related to financial, merger and acquisition and regulatory services provided to the Company. The conversion price discount on the Second Replacement Debentures did not apply to the advisory fees added to the Second Replacement Debentures. TCA also agreed to surrender its Series B Preferred Stock in exchange for the $1,500,000 being added to the Second Replacement Debenture.
As more particularly described below, the Company remained in debt to TCA for the principal amount of $1,500,000. The remaining $1,400,000 of principal debt was assigned to Old Main Capital, LLC The Company intends to use the funds generated from the Chicago Venture transaction to fuel its business operations and business plans which, in turn, will presumably generate revenues sufficient to avoid another default in the remaining TCA obligations. If the Company is unable to raise sufficient funds through the Chicago Venture transaction and/or generate sales sufficient to service the remaining TCA debt then the Company will be unable to avoid another default. Failure to operate in accordance with the various agreements with TCA could result in the cancellation of these agreements, result in foreclosure on the Company’s assets in an event of default which would have a material adverse effect on our business, results of operations or financial condition.
On July 9, 2015, the Company valued the conversion feature as a derivative liability of this senior secured convertible redeemable debenture at $888,134 and discounted debt by $700,000 and recorded interest expense of $188,134. The Company valued the derivative liability of this debenture at $888,134.
At the inception of the Replacement Debentures, the embedded derivative liability was remeasured at fair value and the Company recorded a net gain of $420,822.
At inception, the Company valued the conversion feature of the Replacement Debentures as a derivative liability in the amount of $979,716 The amount was recorded as a discount to debt and will be amortized over the life of the debentures.
As of December 31, 2016, the Company remaining debt was below $1,500,000 and does not include a derivative liability.
NOTE 9 – RELATED PARTY TRANSACTIONS AND CERTAIN RELATIONSHIPS
Since January 1, 2016, the Company engaged in the following reportable transactions with our directors, executive officers, holders of more than 5% of our voting securities, and affiliates or immediately family members of our directors, executive officers and holders of more than 5% of our voting securities.
Certain Relationships
Please see the transactions with CANX, LLC and Logic Works in Note 4, and Chicago Venture Partners, L.P. discussed in Note 7, 8, 10 and 14.
Transactions with an Entity Controlled by Marco Hegyi
On April 15, 2016, the Company issued 1,000,000 shares of its common stock to an entity affiliated with Marco Hegyi, our Chief Executive Officer, pursuant to a conversion of debt for $20,000. The shares were valued at the fair market price of $0.02 per share.
On October 12, 2016, the Company issued 4,000,000 shares of its common stock to an entity affiliated with Marco Hegyi, our Chief Executive Officer, pursuant to a conversion of debt for $40,000. The shares were valued at the fair market price of $0.01 per share.
On October 21, 2016, we entered into Agreement with Marco Hegyi pursuant to which the Company engaged Mr. Hegyi as its Chief Executive Officer through October 20, 2018. Mr. Hegyi’s previous Employment Agreement was dated December 4, 2013 and which is set to expire on December 4, 2016. Mr. Hegyi received a Warrant to purchase up to 10,000,000 shares of our common stock at an exercise price of $0.01 per share. In addition, Mr. Hegyi received Warrants to purchase up to 10,000,000 shares of our common stock at an exercise price of $0.01 per share which vest on October 21, 2017 and 2018. The Warrants are exercisable for 5 years.
Transactions with an Entity Controlled by Mark E. Scott
An entity controlled by Mr. Scott received an option to purchase sixteen million shares of our common stock at an exercise price of $0.07 per share was reduced to $0.01 per share on December 18, 2015. Two million shares vested on August 17, 2015 with the Company’s resolution of the class action lawsuits. An additional two million share stock option vest on April 18, 2016 upon the Company securing a market maker with an approved 15c2-11 resulting in the Company’s relisting on OTCBB.
On January 4, 2016, we issued 3,000,000 shares of its common stock to an entity affiliated with Mark E. Scott, Chief Financial Officer, pursuant to a conversion of debt for $30,000. The shares were valued at the fair market price of $0.01 per share.
On October 21, 2016, Mr. Scott cancelled stock option grants totaling 12,000,000 shares of our common stock at $0.01 per share. Mr. Scott has 4,000,000 share stock option grants which are fully vested.
On October 21, 2016, Mr. Scott converted $40,000 in deferred compensation into 4,000,000 shares of our common stock at $0.01 per share. The price per share was based on the thirty-day trailing average.
On October 21, 2016, Mr. Scott was granted 6,000,000 shares of our common stock at $0.01 per share. The price per share was based on the thirty-day trailing average.
On October 15, 2017, an entity controlled by Mr. Scott was granted an option to purchase 12,000,000 shares of common stock at an exercise price of $0.006 per share. The stock option grant vests quarterly over three years and is exercisable for 5 years. The stock option grant was valued at $18,000.
Transactions with Michael E. Fasci
On January 27, 2016, we issued 1,500,000 shares of its common stock to Michael Fasci, a member of the Board of Directors, for director services. The shares were valued at the fair market price of $0.01 per share. On May 25, 2016, we issued 2,500,000 shares of its common stock to Michael Fasci, a member of the Board of Directors, for director services. The shares were valued at the fair market price of $0.02 per share. On October 21, 2016, we entered into a Consulting Agreement with an entity controlled by Michael E. Fasci, a Director. Mr. Fasci is to provide services related to lender management, financing and acquisitions. Mr. Fasci’s compensation is 2,000,000 shares of our common stock valued at $0.01 per share and to be issued on April 21, 2017 and October 21, 2017.
On February 4, 2017, we issued 1,000,000 shares of our common stock to Michael E. Fasci pursuant to a service award for $15,000. The shares were valued at the fair market price of $0.015 per share. On April 27, 2017, we issued 1,000,000 shares of our common stock to Michael E. Fasci pursuant to a service award for $9,000. The shares were valued at the fair market price of $0.009 per share. On April 27, 2017, we issued 2,000,000 shares of our common stock to Michael E. Fasci pursuant to a consulting agreement for $18,000. The shares were valued at the fair market price of $0.009 per share. On November 2, 2017, we issued 2,000,000 shares of our common stock to Michael E. Fasci pursuant to a consulting agreement for $10,000. The shares were valued at the fair market price of $0.005 per share.
Transactions with Katherine McLain
Ms. Katherine McLain was appointed as a director on February 14, 2017. On June 28, 2017, we issued 1,000,000 shares of our common stock to Ms. McLain pursuant to a service award for $9,000. The shares were valued at the fair market price of $0.009 per share. On October 23, 2017, we issued 1,000,000 shares of our common stock to Ms. McLain pursuant to a service award for $5,000. The shares were valued at the fair market price of $0.005 per share.
Transaction with Thom Kozik
Mr. Kozik was appointed as a director on October 5, 2017. On October 23, 2017, we issued 2,000,000 shares of our common stock to Mr. Kozik pursuant to a service award for $10,000. The shares were valued at the fair market price of $0.005 per share.
Transaction with Joseph Barnes
On October 25, 2017, Mr. Barnes was granted an option to purchase 10,000,000 shares of common stock at an exercise price of $0.007 per share. The stock option grant vests quarterly over three years and is exercisable for 5 years. The stock option grant was valued at $24,000.
NOTE 10 – EQUITY
Authorized Capital Stock
The Company has authorized 6,010,000,000 shares of capital stock, of which 6,000,000,000 are shares of voting common stock, par value $0.0001 per share, and 10,000,000 are shares of preferred stock, par value $0.0001 per share. On October 24, 2017 the Company filed a Certificate of Amendment of Certificate of Incorporation with the Secretary of State of the State of Delaware to increase the authorized shares of common stock from 3,000,000,000 to 6,000,000,000 shares.
Non-Voting Preferred Stock
Under the terms of our articles of incorporation, the Company’s board of directors is authorized to issue shares of non-voting preferred stock in one or more series without stockholder approval. The Company’s board of directors has the discretion to determine the rights, preferences, privileges and restrictions, dividend rights, conversion rights, redemption privileges and liquidation preferences, of each series of non-voting preferred stock.
The purpose of authorizing the Company’s board of directors to issue non-voting preferred stock and determine itsthe Company’s rights and preferences is to eliminate delays associated with a stockholder vote on specific issuances. The issuance of non-voting preferred stock, while providing flexibility in connection with possible acquisitions, future financings and other corporate purposes, could have the effect of making it more difficult for a third party to acquire, or could discourage a third party from seeking to acquire, a majority of our outstanding voting stock. Other than the Series B and C Preferred Stock discussed below, there are no shares of non-voting preferred stock presently outstanding and the Companywe have no present plans to issue any shares of preferred stock.
Certificate of Elimination for Series B and C Preferred Stock
On October 24, 2017, the Company filed a Certificate of Elimination with the Secretary of State of the State of Delaware to eliminate the Series B Convertible Preferred Stock Designation
In connection withand Series C Preferred Stock of the Amended and Restated Securities Purchase Agreement,Company. None of the Boardauthorized shares of Directors, on October 21, 2015, approvedeither the authorization of a Series B or Series C Preferred Stock as provided in ourwere outstanding.
The Certificate of Elimination, effective upon filing, had the effect of eliminating from the Company's Certificate of Incorporation, as amended.
Theamended, all matters set forth in the Certificate of Designations of the Series B Convertible Preferred Stock has authorized 150,000 shares with a stated value equal to $10.00 per share. Dividends payable to other classes of stock are restricted until repayment of the aggregate value ofand Series BC Preferred Stock. Upon our liquidation or dissolution, Series B Preferred Stock has no priority or preference with respect to distributionseach respective series, which were both previously filed by the Company with the Secretary of any assets by us. The Series B Preferred Stock is convertible into common stock by dividingState on October 22, 2015. Accordingly, the stated value of the shares being converted by 100% of the average of the five lowest closing bid prices for the common stock during the ten consecutive trading days immediately preceding the conversion date as quoted by Bloomberg, LP.
TCA was issued 150,000 shares of Series B Preferred Stock. However, in no event will Purchaser be entitled to hold in excess of 4.99% of the outstanding shares of common stock of the Company.
Series C Preferred Stock Designation
In connection with the Amended and Restated Securities Purchase Agreement, the Board of Directors, on October 21, 2015, approved the authorization of a Series C Preferred Stock as provided in our Certificate of Incorporation, as amended, and the issuance of 51 shares of Series C Preferred Stock. TheseStock previously reserved for issuance under their respective Certificates of Designation resumed their status as authorized but unissued shares only have voting rights in the event of a default by us under the Amended and Restated Transaction Documents. The Series C Preferred Stock is cancelled with the repaymentundesignated preferred stock of the TCA debt.Company upon filing of the Certificate of Elimination.
The Series C Preferred Stock Designation authorizes 51 shares of Series C Preferred Stock. Series C Preferred Stock is not entitled to dividend or liquidation rights and is not convertible into our common stock.
In the event of a default under the Amended and Restated Transaction Documents, each share of Series C Preferred Stock shall have voting votes equal to 0.019607 multiplied by the total issued and outstanding common stock and preferred stock eligible to vote divided by .49 minus the numerator. For example, if the total issued and outstanding common stock eligible to vote is 5,000,000, the voting rights of one share of Series C Preferred Stock shall be equal to 102,036 (e.g. ((0.019607 x 5,000,000/0.49) – (0.019607 x 5,000,000) = 102,036).
Common Stock
Unless otherwise indicated, all of the following sales or issuances of Company securities were conducted under the exemption from registration as provided under Section 4(2) of the Securities Act of 1933 (and also qualified for exemption under 4(5), formerly 4(6) of the Securities Act of 1933, except as noted below). All of the shares issued were issued in transactions not involving a public offering, are considered to be restricted stock as defined in Rule 144 promulgated under the Securities Act of 1933 and stock certificates issued with respect thereto bear legends to that effect.
The Company has compensated consultants and service providers with restricted common stock during the development of our business and when our capital resources were not adequate to provide payment in cash.
During the year ended December 31, 2015,2017, the Company had had the following sales of unregistered sales of equity securities:
On June 16, 2015, the Company issued 7,772,725 shares of its common stocksecurities to Horwitz + Armstrong LLP pursuant a conversion of debt for $171,000. The shares were valued at the fair market price of $0.022 per share.
On December 18, 2015, the Company issued 2,000,000 shares to two if its former independent Board Directors. The Company valued the 4,000,000 shares at $0.01 per share or $40,000.
During the year ended December 31, 2014, the Company had had the following sales of unregistered sales of equity securities:accredited investors unless otherwise indicated:
On January 3, 2014, the Company issued 4,700,196 shares of its common stock to Carla Badaracco related to the conversion of $30,000 ofFebruary 28, 2017, Logic Works converted principal and $2,901interest of accrued interest at a per share conversion price of $0.007 of the Company’s 6% Senior Secured Convertible Notes Payable.
On January 31, 2014, the Company issued 12,562,518 shares of its common stock related to the conversion of $408,000 of principal and $31,688 of accrued interest at a per share conversion price of $0.035 of the Company’s 12% Senior Secured Convertible Notes Payable.
On January 31, 2014, the Company issued 2,351,187 shares of its common stock to Doug Braun related to the exercise of a stock option granted in fiscal year 2011. The Company received $44,673 or $0.019 per share.
On February 13, 2014, the Company issued 29,420 shares of its common stock to Alby Segall, a third party consultant and non-accredited investor, as payment in full for services rendered. The shares were valued at the fair market price of $0.3399 per share.
On February 16, 2014, the Company issued 1,250,000 shares of its common stock to Integrity Media, Inc. related to a November 16, 2013 Service Agreement for investor relations. The shares were valued at the fair market price of $0.38 per share.
On March 7, 2014, the Company issued 2,000,000 shares of its common stock to Adam Liebross related to the conversion of $50,000 of principal at a per share conversion price of $0.025 of the Company’s 7% Convertible Notes Payable.
On March 18, 2014, the Company issued 22,727,668 shares of its common stock to Adam Liebross (8,300,260 shares), Myli Burger Holdings LLC (4,122,248 shares) and Europa International Inc. (10,304,800 shares) related to the total conversion of $550,000 of principal and $18,192 of accrued and interest at a per share conversion price of $0.025 of the Company’s 7% Convertible Notes Payable.
On March 20, 2014, the Company issued 2,775,000 shares of its common stock to Doug Braun related to the cashless exercise of a stock option granted in fiscal year 2011 to purchase 4,500,000 shares of the Company’s common stock at $0.23 per share.
On March 31, 2014, the Company issued 500,000 shares to each of its four independent Board Directors, The Company valued the 2,000,000 shares at $0.58 per share which was the closing price of the Company’s common stock on March 31, 2014. The Company recorded stock based compensation of $1,160,000 during the three months ended March 31, 2014. On April 25, 2014, the Company entered$291,044 into four Restricted Stock Cancellation Agreements with the four independent members of the Company’s Board of Directors, pursuant to which the Directors agreed to each cancel 500,000 shares of the Company’s restricted common stock granted to each Director on March 31, 2014. The Company recorded a reduction in common stock and an increase in additional paid in capital of $200 during the year ended December 31, 2014 are related to cancellation of the Restricted Stock Agreements.
On April 9, 2014, the Company issued 5,347,032 shares of its common stock to Forglen LLC related to the conversion of $125,000 of principal and $8,676 of accrued interest at a per share conversion price of $0.025 of the Company’s 7% Convertible Notes Payable. On July 14, 2014, the Board of Directors approved a Settlement Agreement and Waiver of Default dated June 19, 2014 with Forglen related to the 7% Convertible Note. The Company cancelled the April 9, 2014 conversion as a result of the SEC suspension in the trading of the Company’s securities.
On June 4, 2014, the Company issued 20,640,548 shares of the Company’s common stock to China West III Investments LLC related to the conversion of $500,000 of principal and $16,014 of accrued interest at a per share conversion price of $0.033 of the Company’s 7% Convertible Notes Payable.
On July 1, 2014, Horwitz and Armstrong LLP converted debt of $100,000 debt into 500,00082,640,392 shares of the Company’s common stock at a per share conversion price of $0.11 and a cash payment of $35,000.$0.004.
On July 3, 2014, Sterling Scott exercised his option on a cashless basis and was issued 795,455
During the year ended December 31, 2017, five vendors converted debt of $559,408 into 64,869,517 shares of restrictedthe Company’s common stock at $.085 per share. Mr. Scott was awarded a stock option grant on November 3, 2013 for 12,000,000 shares and had vested 3,500,000 shares as of his resignation on May 19, 2014. The shares were valued at the fair market price of $0.085$0.0086 per share.
On July 3, 2014, Robert Shapero, a HolderDuring the year ended December 31, 2017, four directors were issued 10,000,000 shares of the Company’s 6% Convertible Notes Payable,common stock at the fair market price of $0.0076 per share for 2017 director services.
During the year ended December 31, 2017, Chicago Venture converted $25,000 of principal and $4,136 of accrued interest of $2,688,000 into 4,162,623554,044,030 shares of the Company’s common stock at a per share conversion price of $0.007.$0.0049.
During the year ended December 31, 2016, the Company had had the following sales of unregistered of equity securities to accredited investors unless otherwise indicated:
On July 15, 2014,January 4, 2016, the Company entered into a Severance Agreementissued 3,000,000 shares of its common stock to an entity affiliated with Mr. Genesi whereby Mr. Genesi resigned asMark E. Scott, our Chief Financial Officer, pursuant to a conversion of accrued consulting fees and the Parties cancelled the Executive Employment Agreement dated November 3, 2013. The Company agreed to issue 6,000,000 shares of restricted common stock.expenses for $30,000. The shares were valued at the fair market price of $0.08$0.01 per share. On October 21, 2016, an entity affiliated with Mr. Scott converted $40,000 in accrued consulting fees and expenses into 4,000,000 shares of the Company’s common stock at $0.01 per share. The price per share was based on the thirty-day trailing average. On October 21, 2016, an entity affiliated with Mr. Scott was granted 6,000,000 shares of the Company’s common stock at $0.01 per share. The price per share was based on the thirty-day trailing average. On October 21, 2016, an entity affiliated with Mr. Scott cancelled stock option grants totaling 12,000,000 shares of the Company’s common stock at $0.01 per share.
On January 27, 2016, the Company issued 1,500,000 shares of its common stock to Michael E. Fasci, a Board Director, pursuant to a service award for $15,000. The shares were valued at the fair market price of $0.01 per share. On May 25, 2016, the Company issued 2,500,000 shares of its common stock to Michael E. Fasci pursuant to a service award for $50,000. The shares were valued at the fair market price of $0.02 per share.
In consideration for advisory services provided by TCA to the Company, the Company issued 15,000,000 shares of Common Stock during the year ending December 31, 2015. As the common stock was conditionally redeemable, the Company recorded the common stock as mezzanine equity in the accompanying consolidated balance sheet as of December 31, 2015. As of September 30, 2016, the shares are no longer conditionally redeemable and were recorded as issued and outstanding common stock.
The Company issued $2 million in common stock or 115,141,048 shares of our common stock on April 6, 2016 pursuant to the settlement of the Consolidated Class Action and Derivative Action lawsuits alleging violations of federal securities laws that were filed against the Company in United States District Court, Central District of California. The Company accrued $2,000,000 as loss on class action lawsuits and contingent liabilities during the year ending December 31, 2015.
On April 15, 2016, the Company issued 1,000,000 shares of its common stock to an entity affiliated with Marco Hegyi, our Chief Executive Officer, pursuant to a conversion of debt for $20,000. The shares were valued at the fair market price of $0.02 per share. On October 12, 2016, the Company issued 4,000,000 shares of its common stock to an entity affiliated with Marco Hegyi, pursuant to a conversion of debt for $40,000. The shares were valued at the fair market price of $0.01 per share.
On July 31, 2014, Logic Works,13, 2016, the Company issued 6,000,000 shares of common stock pursuant to Settlement Agreement and Release with Mr. Robert Hunt, a Holderformer executive, which were valued at the fair market price of $0.010 per share.
On October 21, 2016, the Company issued 5,020,000 shares to two former directors and a supplier (unaccredited) for services provided. The Company valued the 5,020,000 shares at $0.01 per share or $50,200.
During the year ended December 31. 2016, the Company issued 6,400,000 shares of its common stock to two service providers (one unaccredited) pursuant to conversions of debt totaling $64,000. The shares were valued at the fair market price of $0.010 per share.
During the year ended December 31. 2016, Holders of the Company’s 7% Convertible Notes Payable,Payables, converted $250,000principal and accrued interest of principal$1,080,247 into 35,714,286186,119,285 shares of the Company’s common stock at a per share conversion price of $0.007.$0.006.
On August 1, 2014,During the Company issued 300,000year ended December 31. 2016, Old Main converted principal and accrued interest of $757,208 into 144,650,951 shares of its common stock to Joseph Barnes pursuant to a Manager Services Agreement with Mr. Barnes dated August 1, 2013. The shares were valued at the fair market price of $0.08 per share.
On August 15, 2014, the Company issued 300,000 shares of its common stock to Dennis Kuznetsov pursuant to an Employment Agreement with Mr. Kuznetsov dated August 15, 2013. The shares were valued at the fair market price of $0.06 per share.
On August 27, 2014, the Company issued 5,000,000 shares of its common stock to D. Weckstein and Co., Inc. pursuant to an Investment Banking Letter. The shares were valued at the fair market price of $0.08 per share.
On September 15, 2014, the Company issued 80,000 shares of its common stock to Josh Nash pursuant to an Employment Agreement with Mr. Nash dated September 15, 2013. The shares were valued at the fair market price of $0.07 per share.
On October 1, 2014, the Company issued 100,000 shares of its common stock to Jeremy Belmont pursuant to an Employment Agreement with Mr. Belmont dated October 1, 2013. The shares were valued at the fair market price of $0.06 per share.
On October 8, 2014, Fifth Avenue Law Group PLLP converted debt of $68,000 debt into 1,360,000 shares of the Company’sour common stock at a per share conversion price of $0.05.$0.0052.
On OctoberDuring the year ended December 31. 2016, Chicago Venture converted principal and accrued interest of $1,403,599 into 264,672,323 shares of our common stock at a per share conversion price of $0.0053.
Warrants
The Company did not issue any warrants during the year ended December 31, 2014, the2017.
The Company issued 100,000 shares of its common stock to Frank Hariton pursuant to a Legal Agreement with Mr. Hariton dated August 14, 2014. The shares were valued at the fair market price of $0.05 per share.
On December 10, 2014, the Company issued 200,000 shares of its common stock to Velomedia, Inc. pursuant to a debt conversion. The shares were valued at the fair market price of $0.05 per share.
Warrants
On November 19, 2013, the Company issued a warrant for 140,000,000 common shares to CANX or its assignees in accordance with the Joint Venture Agreement. The warrants have a five-year term with an original exercise price of $0.033 per share. The warrants vest immediately and are exercisable in whole, or in part, at any time and from time to time on or after the issue date and on or before the termination date. The Company valued the warrants at the time of issuance using the Black-Scholes option pricing model using the following assumptions: (i) dividend yield of 0%; (ii) expected volatility of 24.82%; (iii) risk free rate of 0.05% and (iv) an expected term of one year. The Company expensedwarrants during the entire $5,040,000 at the time of issuance because the warrants vested immediately and were also exercisable immediately.year ended December 31, 2016.
On February 7, 2014, the Company issuedOctober 21, 2016, Mr. Hegyi received a warrant for 100,000,000 common shares to CANX or its assignees in accordance with the Joint Venture Agreement. The warrants have a five-year term with an original exercise price of $0.033 per share The warrant was earned by CANX upon completion of the Company’s increase in the number of authorized common shares from 1 billion to 3 billion shares. This increase in authorized shares was effective with the shareholder approval on February 7, 2014. The Company valued the warrants at the time of issuance using the Black-Scholes option pricing model using the following assumptions: (i) dividend yield of 0%; (ii) expected volatility of 200%; (iii) risk free rate of 0.78% and (iv) an expected term of five years. The Company expensed the entire $33,700,000 at the time of issuance because the warrants vested immediately and were also exercisable immediately.
The Company entered into an Amended and Restated Joint Venture Agreement dated July 1, 2014 with CANX and granted on July 10, 2014 CANX five year warrants, subject to extension,Warrant to purchase 300,000,000up to 10,000,000 shares of common stock at the fair market price of $0.033 per share as determined by an independent appraisal; The warrants vest immediately and are exercisable in whole, or in part, at any time and from time to time on or after the issue date and on or before the termination date. The Company valued the warrants at the time of issuance using the Black-Scholes option pricing model using the following assumptions: (i) dividend yield of 0%; (ii) expected volatility of 161.0%; (iii) risk free rate of 0.78% and (iv) an expected term of five years. The Company expensed the entire $28,800,000 at the time of issuance because the warrants vested immediately and were also exercisable immediately.
On December 11, 2013, the Company issued a warrant for 25,000,000 common shares to Hegyi, LLC,at an entity controlled by Marco Hegyi, President of the Company. The warrants have a five-year term with an original exercise price of $0.08 per share. On December 18, 2015, the Company reduced the warrant exercise price to $0.01 per share. In addition, Mr. Hegyi received Warrants to purchase up to 10,000,000 shares of common stock of the Company at an exercise price of $0.01 per share which vest on October 21, 2017 and 2018. The Warrants are exercisable for 5 years. The warrants vest immediatelywere valued at $390,000 and are exercisable in whole, or in part, at any time and from time to time on or after the issue date and on or before the termination date. The Company valuedrecorded $23,958 of compensation expense for the warrants that had vested at the time of issuance using the Black-Scholes option pricing model using the following assumptions: (i) dividend yield of 0%; (ii) expected volatility of 88.81%; (iii) risk free rate of 0.02% and (iv) an expected term of three years. The Company expensed the entire $1,725,000 at the time of issuance because the warrants vested immediately and were also exercisable immediately.December 31, 2016.
A summary of the warrants issued as of December 31, 2015 were2017 is as follows:
| December 31, 2015 | |
| | | | | | Weighted | |
| | | | | | Average | |
| | | | | | Exercise | |
| | | Shares | | | Price | |
| Outstanding at beginning of period | | | 565,000,000 | | | $ | 0.032 | |
| Issued | | | - | | | | - | |
| Exercised | | | - | | | | - | |
| Forfeited | | | - | | | | - | |
| Expired | | | - | | | | - | |
| Outstanding at end of period | | | 565,000,000 | | | $ | 0.032 | |
| Exerciseable at end of period | | | 565,000,000 | | | | | |
| | |
| | | |
| | | |
| | | |
| | | |
| Outstanding at beginning of period | 595,000,000 | $0.031 |
| Issued | - | - |
| Exercised | - | - |
| Forfeited | - | - |
| Expired | - | - |
| Outstanding at end of period | 595,000,000 | $0.031 |
| Exerciseable at end of period | 595,000,000 | |
A summary of the status of the warrants outstanding as of December 31, 20152017 is presented below:
| December 31, 2015 | | |
| Number of | | | | | | | | | Shares | | | | | |
| Warrants | | | Life | | | Price | | | Exerciseable | | | Price | | |
| | 540,000,000 | | | | 3.31 | | | $ | 0.033 | | | | 540,000,000 | | | $ | 0.033 | | |
| | 25,000,000 | | | | 2.94 | | | | 0.010 | | | | 25,000,000 | | | | 0.010 | | | | |
| | | | | | | | | | | | | | | | | | | | | | |
| | | | | |
| | | | | |
540,000,000 | | 1.28 | $0.033 | 540,000,000 | $0.033 |
55,000,000 | | 2.55 | 0.010 | 45,000,000 | 0.010 |
| | | | | | | | | | | | | | | | | | | | |
| | 565,000,000 | | | | 3.30 | | | $ | 0.032 | | | | 565,000,000 | | | $ | 0.032 | | |
| | 1.32 | $0.031 | 585,000,000 | $0.031 |
Warrants totaling 565,000,00045,000,000 shares of common stock havehad an intrinsic value of $0$1,030,500 as of December 31, 2015.2017.
NOTE 13–11– STOCK OPTIONS
Description of Stock Option Plan
In fiscal year 2011,On October 23, 2017, the CompanyCompany’s Shareholders authorized a Stock Incentive Plan whereby a maximum of 18,870,184100,000,000 shares of the Company’s common stock could be granted in the form of Non-Qualified Stock Options, Incentive Stock Options, Stock Appreciation Rights, Restricted Stock, Restricted Stock Units, and Other Stock-Based Awards. On April 18, 2013, the Company’s Board of Directors voted to increase to 35,000,000 the maximum allowable shares of the Company’s common stock allocated to the 2011 Stock Incentive Plan. The Company has outstanding unexercised stock option grants totaling 29,020,00056,000,000 shares as of December 31, 2015. All grants are non-qualified as2017. The Company filed a registration statement on Form S-8 to register 100,000,000 shares of Company’s common stock related to the plan was not approved by the shareholders within one year of its adoption.2017 Stock Incentive Plan.
Determining Fair Value under ASC 505
The Company records compensation expense associated with stock options and other equity-based compensation using the Black-Scholes-Merton option valuation model for estimating fair value of stock options granted under our plan. The Company amortizes the fair value of stock options on a ratable basis over the requisite service periods, which are generally the vesting periods. The expected life of awards granted represents the period of time that they are expected to be outstanding. The Company estimates the volatility of our common stock based on the historical volatility of its own common stock over the most recent period corresponding with the estimated expected life of the award. The Company bases the risk-free interest rate used in the Black Scholes-Merton option valuation model on the implied yield currently available on U.S. Treasury zero-coupon issues with an equivalent remaining term equal to the expected life of the award. The Company has not paid any cash dividends on our common stock and does not anticipate paying any cash dividends in the foreseeable future. Consequently, the Company uses an expected dividend yield of zero in the Black-Scholes-Merton option valuation model and adjusts share-based compensation for changes to the estimate of expected equity award forfeitures based on actual forfeiture experience. The effect of adjusting the forfeiture rate is recognized in the period the forfeiture estimate is changed.
Stock Option Activity
During the year ended December 31, 2015,2017, the Company had the following stock option activity:
Mr. Adam Edwards resigned July 11, 2015 andOn June 28, 2017, the Company’s Compensation Committee granted four advisory committee members each an option to purchase four million five hundred thousand shares of the Company’s common stock under the Company’s 2011 Stock Incentive Plan at $0.05 per shares expired on October 10, 2015.
Ms. Tina Qunell resigned July 2, 2015 and an option to purchase seven million shares of the Company’s common stock under the Company’s 2011 Stock Incentive Plan at $0.05 per share expired on October 1, 2015.
Resigned employees forfeited options to purchase 200,000 shares of the Company’s common stock under the Company’s 2011 Stock Incentive Plan at $0.05 per share expired during the year ended December 31, 2015.
On July 31, 2014, the Company’s Board of Directors granted Mr. Scott an option to purchase 16,000,000500,000 shares of the Company’s common stock under the Company’s 2011 Stock Incentive Plan at an exercise price of $0.07$0.009 per share, the fair market price on JulyJune 28, 2017.
On October 1, 2017, Mr. Reichwein was granted an option to purchase 20,000,000 shares of our common stock under our 2011 Stock Incentive Plan at $0.006 per share. The shares vest as follows:
| i | Ten million shares vested immediately; |
| | |
| ii | Ten million shares vest on a quarterly basis over two years beginning on the date of grant. |
The stock option grants are exercisable for 5 years and were valued at $20,000.
On October 15, 2017, an entity controlled by Mr. Scott was granted an option to purchase 12,000,000 shares of common stock at an exercise price of $0.006 per share. The stock option grant vests quarterly over three years and is exercisable for 5 years. The stock option grant was valued at $18,000.
On October 25, 2017, Mr. Barnes was granted an option to purchase 10,000,000 shares of common stock at an exercise price of $0.007 per share. The stock option grant vests quarterly over three years and is exercisable for 5 years. The stock option grant was valued at $24,000.
During the year ended December 31, 2014. On December 18, 2015,2016, the Company reducedhad the following stock option activity:
An entity controlled by Mr. Scott had a two million share stock option that was previously issued vest on April 18, 2016 upon the Company securing a market maker with an approved 15c2-11 resulting in the Company’s relisting on OTCBB.
An employee resigned January 13, 2016 and an option to purchase five million shares of the Company’s common stock under the Company’s 2011 Stock Incentive Plan expired on April 13, 2016.
An employee forfeited a stock grant for 10,000 shares of the Company’s common stock during the nine months ended September 30, 2016.
On October 12, 2016, the Company amended the exercise price of the stock option grants for Mr. Barnes to $0.010 per share.
On October 21, 2016, Mr. Scott cancelled stock option grants totaling 12,000,000 shares of the Company’s common stock at $0.01 per share. Two million shares vested immediatelyMr. Scott has an additional 2,000,000 share stock option grant which continues to vest monthly over 36 months and a 2,000,000 share stock option grant which vests upon the Company’s resolutionachievement of the class action lawsuits on of August 17, 2015).certain performance goals related to acquisitions.
As of December 31, 2015,2017, there are 29,020,00056,000,000 options to purchase common stock at an average exercise price of $0.028$0.007 per share outstanding under the 20112017 Stock Incentive Plan. The Company recorded $175,661$29,250 and $724,267$121,770 of compensation expense, net of related tax effects, relative to stock options for the years ended December 31, 20152017 and 20142016 in accordance with ASC 505. Net loss per share (basic and diluted) associated with this expense was approximately ($0.00). As of December 31, 2015,2017, there is $244,011$64,151 of total unrecognized costs related to employee granted stock options that are not vested. These costs are expected to be recognized over a period of approximately 3.854.06 years.
Stock option activity for the years ended December 31, 20152017 and 20142016 is as follows:
| | | | |
| | | | |
| Outstanding as of December 31, 2015 | 29,020,000 | $0.03 | $811,000 |
| Granted | - | - | - |
| Exercised | - | - | - |
| Forfeitures | (17,010,000) | (0.041) | (690,500) |
| Outstanding as of December 31, 2016 | 12,010,000 | 0.01 | 120,500 |
| Granted | 44,000,000 | 0.006 | 280,000 |
| Exercised | - | - | - |
| Forfeitures | (10,000) | - | (500) |
| Outstanding as of December 31, 2017 | 56,000,000 | $0.007 | $400,000 |
| | | Weighted Average | |
| | | Options | | | Exercise Price | | | $ | |
| Granted | | | 49,720,000 | | | $ | 0.075 | | | $ | 3,706,000 | |
| Exercised | | | (5,126,187 | ) | | | (0.133 | ) | | | (682,922 | ) |
| Forfeitures | | | (44,725,000 | ) | | | (0.092 | ) | | | (4,132,751 | ) |
| Outstanding as of December 31, 2014 | | | 40,720,000 | | | | 0.058 | | | | 2,356,000 | |
| Granted | | | - | | | | - | | | | (960,000 | ) |
| Exercised | | | - | | | | - | | | | - | |
| Forfeitures | | | (11,700,000 | ) | | | (0.050 | ) | | | (585,000 | ) |
| Outstanding as of December 31, 2015 | | | 29,020,000 | | | $ | 0.028 | | | $ | 811,000 |
The following table summarizes information about stock options outstanding and exercisable at December 31, 2015: 2017
| Range of Exercise | | | Number | | | | | | | | | Number | | | | |
| Prices | | | Outstanding | | | Years | | | Exerciseable | | | Exerciseable | | | Exerciseable | |
| $ | 0.05 | | | | 13,020,000 | | | | 4.00 | | | $ | 0.050 | | | | 7,120,000 | | | $ | 0.050 | |
| | 0.01 | | | | 16,000,000 | | | | 3.77 | | | | 0.010 | | | | 7,833,333 | | | | 0.010 | |
| | | | | | 29,020,000 | | | | 3.85 | | | $ | 0.028 | | | | 14,953,333 | | | $ | 0.043 |
| | | | | |
| | | | | |
| | | | | |
| | | | | |
$0.006 | 32,000,000 | 4.75 | $0.006 | 12,500,000 | $0.006 |
0.007 | 10,000,000 | 4.75 | 0.007 | 1,391,666 | 0.007 |
0.009 | 2,000,000 | 2.50 | 0.009 | 333,333 | 0.009 |
0.010 | 12,000,000 | 1.88 | 0.010 | 12,000,000 | 0.010 |
| 56,000,000 | 4.06 | $0.007 | 26,225,000 | $0.008 |
Stock option grants totaling 29,020,00026,225,000 shares of common stock have an intrinsic value of $0$655,061 as of December 31, 2015.2017.
NOTE 1412 – COMMITMENTS, CONTINGENCIES AND LEGAL PROCEEDINGS
Legal Proceedings
TheFrom time to time, the Company is involved in the disputes andmay become subject to various legal proceedings described below. In addition, as a public company,that are incidental to the ordinary conduct of its business. Although the Company is also potentially susceptiblecannot accurately predict the amount of any liability that may ultimately arise with respect to litigation, such as claims asserting violationsany of securities laws. Any such claims, with or without merit, if not resolved, couldthese matters, it makes provision for potential liabilities when it deems them probable and reasonably estimable. These provisions are based on current information and may be time-consuming and result in costly litigation. The Company accrues any contingent liabilities that are likely.adjusted from time to time according to developments.
Class Actions Alleging Violations of Federal Securities Laws
Beginning on April 18, 2014, three class action lawsuits alleging violations of federal securities laws were filed against the Company in United States District Court, Central District of California (the “Court”). At a hearing held on July 21, 2014, the three class action lawsuits were consolidated into one case with Lawrence Rosen as the lead plaintiff (the “Consolidated Class Action,” styled Romero et al. vs. GrowLife et al.). On May 15, 2014 and August 4, 2014, respectively two shareholder derivative lawsuits were filed against the Company with the Court (the “Derivative Actions”). On October 20, 2014, AmTrust North America, the Company’s insurer, filed a lawsuit contesting insurance coverage on the above legal proceedings. The Company made a general appearance in this action. On January 20, 2015, the Court ordered all of the above actions stayed pending completion of mediation of the dispute.
The parties then worked diligently to finalize settlement documentation on the above actions. On April 27, 2015, the Court preliminarily approved the proposed settlement of the Consolidated Class Action.
On June 1, 2015, the Court preliminarily approved the proposed settlement of the Derivative Actions pursuant to a proposed stipulated settlement agreement.
On August 3, 2015, the Court entered a Final Order and Judgment resolving the Consolidated Class Action litigation in its entirety. The Consolidated Class Action was thereby dismissed in its entirety with prejudice and without costs.
On August 10, 2015, pursuant to a settlement by and between the Company and AmTrust North America, AmTrust’s lawsuit contesting insurance coverage of the Consolidated Class Action and Derivative Actions was dismissed in its entirety with prejudice pursuant to a Stipulation for Dismissal of Entire Action with Prejudice executed by and between AmTrust and the Company.
On August 17, 2015, the Court entered a Final Order and Judgment resolving the Derivative Actions in their entirety. The Derivative Actions were thereby dismissed in their entirety with prejudice.
As a result of the foregoing, all litigation discussed herein is resolved in full at this time.
The Company issued $2 million in common stock or 115,141,048 shares of the Company’s common stock on April 6, 2016 pursuant to the settlement of the Consolidated Class Action and Derivative Action lawsuits alleging violations of federal securities laws that were filed against the Company in United States District Court, Central District of California. The Company accrued $2,000,000 as loss on class action lawsuits and contingent liabilities during the year ending December 31, 2015.
Sales, Payroll and PayrollOther Tax Liabilities
As of December 31, 2015, the Company owes2017, we owe approximately $102,000$119,000 in sales tax and $20,000 in payroll taxes. The Company is currently negotiating or operating under payment plans on these liabilities.tax.
Other Legal Proceedings
The Company is in default on our Portland, Maine, Boulder, Colorado and Plaistow, New Hampshire store leasesWe may be sued for non-payment of lease payments and the Company is negotiating with the landlords. The Company is currentlyat closed stores. We are subject to legal actions with various vendors.
It is possible that additional lawsuits may be filed and served on the Company.
Operating Leases
Current Operating Leases
Upon the Company’s acquisition of Rocky Mountain Hydroponics, LLC and Evergreen Garden Center, LLC, the Company assumed the lease for the RMH/EGC retail hydroponics store located in Portland, Maine. The lease commencement date was May 1, 2013 with an expiration date of April 30, 2016. The monthly rent for year one of the lease was $4,917, with monthly rent of $5,065 in year two, and monthly rent of $5,217 in year three of the lease. The Company has an option to extend the lease for two three year terms as long it is not in default under the lease.
On October 21, 2013, the Company entered into a lease agreement for retail space for its hydroponics store in Avon (Vail), Colorado. The lease expires on September 30, 2018. Monthly rent for year one of the lease is $2,606$2,792 and increasesincreased 3.5% per year thereafter through the end of the lease. TheWe terminated this lease agreement as of August 31, 2917.
On December 7, 2016, the Company doesentered into entered into a Consent to Judgement and Settlement Agreement related to its retail hydroponics store located in Portland, Maine. This Agreement provides for a monthly lease payment of $5,373 through May 1, 2020. We also agreed to a repayment schedule for past due rent and owes $45,175 as of December 31, 2017. We are past due on the repayment schedule by $45,175 as of December 31, 2017. We do not have an option to extend the lease.lease after May 1, 2020.
On June 18, 2014,May 31, 2017, the Company rented space at 500 Union Street, Suite 810, Seattle,5400 Carillon Point, Kirkland, Washington 98033 for its$623 per month for our corporate office. The Company rentsoffice and use of space in the space on a monthRegus network, including California. Our agreement expires May 31, 2018 and is expected to month basis for $1,700 per month.be renewed.
Terminated Operating Leases
In May 2011, the CompanyF-22
On October 1, 2017, GrowLife Hydroponics, Inc. entered into a lease for our Phototron business unit to rent a warehouse facility in Gardena, California.Calgary, Canada. The terms of themonthly lease provide for monthly rental expense of $4,065 with annual rent increases through the expiration of the lease on May 31, 2014. During the last twelve months of the lease the monthly rent was $4,313. The Company terminated this lease as of May 31, 2014.
Upon the Company’s acquisition of Rocky Mountain Hydroponics, LLC and Evergreen Garden Center, the Company assumed the lease for the RMH/EGC retail hydroponics store located in Plaistow, New Hampshire.is approximately $1,997. The lease commencement date was May 1, 2013 with an expiration date of January 31, 2016. The monthly rent throughout the term of the lease is $2,105. The Company vacated this store and terminated this lease during 2015.expires September 30, 2022.
On June 5, 2013, the CompanyDecember 19, 2017, GrowLife Innovations, Inc. entered into a lease to rent office space in Woodland Hills, California Grand Prairie, Texas dated October 9, 2017, for the Company’s corporate headquarters. manufacturing and distribution of its flooring products. The landlord was 20259 Ventura Blvd LP, which was a previous affiliate of a stockholder of our company.monthly lease is approximately $15,000. The term was for ninety dayslease expires December 15, 2018 and can be renewed, or terminated, by either party with thirty days written notice. The monthly rent was $6,758. The Company terminated this lease as of June 30, 2014.
On May 30, 2013, the Company entered into a lease to rent retail space in Woodland Hills, California for its Urban Garden Supply (Soja, Inc.) hydroponics store. The term was for ninety days and can be renewed, or terminated, by either party with ninety days written notice. The monthly rent was $3,257. The Company terminated this lease as of June 1, 2015.
On August 26, 2013, the Company entered into a lease agreement for warehouse and retail space for its Greners (Business Bloom, Inc.) business unit in Santa Rosa, California. The lease commencement date was September 1, 2013 with an expiration date of August 31, 2015. The monthly rent is $3,000. The Company terminated this lease as of November 25, 2014.
On September 23, 2013, the Company entered into an Assignment and Assumption and Amendment of Lease Agreement for the Company’s retail hydroponics store in Peabody, Massachusetts. The original lease between the landlord and Evergreen Garden Center, LLC was assigned from Evergreen Garden Center, LLC to GrowLife Hydroponics, Inc. In addition, the term of the lease was extended from the original expiration date of October 31, 2013 to October 31, 2014. The monthly rent remained at $4,500 through October 31, 2014. The Company’s lease expired on October 31, 2014.
On January 23, 2014, the Company entered into a lease agreement for retail space for its hydroponics store in Boulder, Colorado. The lease commenced on February 1, 2014 and expires on May 31, 2017. Monthly rent for year one of the lease was $4,051, with monthly rent of $4,173 in year two, $4,298 in year three, and $4,427 for month 37 through 39. The Company had an option to extend the lease for one three year terms as long it is not in default under the lease. The Company vacated the retail space as of November 30, 2015. The landlord has filed a collection claim for $179,920 against GrowLife Hydroponics. The Company expects to contest this claim.
The Company is in default on our Portland, Maine, Boulder, Colorado and Plaistow, New Hampshire store leases for non-payment of the lease payments and is negotiating with the landlords.renewed.
The aggregate future minimum lease payments under operating leases, to the extent the leases have early cancellation options and excluding escalation charges, are as follows:
| Years Ended December 31, | | Total | | |
| 2016 | | $ | 76,929 | | |
| 2017 | | | 34,675 | | |
| 2018 | | | 28,365 | | $319,962 |
| 2019 | | | 0 | | 174,615 |
| 2020 | | | - | | 61,668 |
| 2021 | | - |
| 2022 | | - |
| Beyond | | | - | | - |
| Total | | $ | 139,969 | | $556,245 |
Employment and Consulting Agreements
Employment Agreement with Marco Hegyi
On December 4, 2013,October 21, 2016, the Company entered into an Employment Agreement with Marco Hegyi pursuant to which the Company engaged Mr. Hegyi as its President fromChief Executive Officer through October 20, 2018. Mr. Hegyi’s previous Employment Agreement was dated December 4, 2013 throughand was set to expire on December 4, 2016 to provide consulting and management services. Per the terms of the Hegyi Agreement, Mr. Hegyi established an office in Seattle, Washington while also maintaining operations in the Southern California area. 2016.
Mr. Hegyi’s annual compensation is $150,000 for the first year of the Hegyi Agreement; $250,000 for the second year; and $250,000 for the third year.$250,000. Mr. Hegyi is also entitled to receive an annual bonus equal to four percent (4%) of the Company’s EBITDA for that year. The annual bonus shall be paid no later than 31 days (i.e., by January 31st) following the end of each calendar year. Mr. Hegyi’s first annual bonus will be calculated based on the Company’s EBITDA for calendar year 2014, with such bonus payable on or before January 31, 2015. If Mr. Hegyi’s employment is terminated for any reason prior to the expiration of the Term, as applicable, his annual bonus will be prorated for that year based on the number of days worked in that year. At the commencement of Mr. Hegyi’s employment, an entity affiliated with
Mr. Hegyi received a Warrant to purchase up to 25,000,00010,000,000 shares of common stock of the Company at an exercise price of $0.08$0.01 per share. TheIn addition, Mr. Hegyi Warrant is exercisable for five years. On June 20, 2014,received Warrants to purchase up to 10,000,000 shares of common stock of the Company and Mr. Hegyi reduced the warrant life from ten to five years. On January 25, 2016, the Company reduced the warrantat an exercise price toof $0.01 per share effective December 18, 2015.which vest on October 21, 2017 and 2018. The Warrants are exercisable for 5 years.
Mr. Hegyi wasis entitled to participate in all group employment benefits that are offered by the Company to the Company’sits senior executives and management employees from time to time, subject to the terms and conditions of such benefit plans, including any eligibility requirements. In addition, the Company is requiredagreed to purchase and maintain during the Term a “key manager”an insurance policy on Mr. Hegyi’s life in the amount of $4,000,000, paid as $2,000,000 payable to Mr. Hegyi’s named heirs or estate as the beneficiary, and $2,000,000 payable to the Company. The Company and Mr. Hegyi waived this $2,000,000 key manager insurance. If, prior to the expiration of the Term, the Company terminates Mr. Hegyi’s employment for “Cause”, or if Mr. Hegyi voluntarily terminates his employment without “Good Reason”, or if Mr. Hegyi’s employment is terminated by reason of his death, then all of the Company’s obligations hereunder shall cease immediately, and Mr. Hegyi will not be entitled to any further compensation beyond any pro-rated base salary due and bonus amounts earned through the effective date of termination. Mr. Hegyi will also be reimbursed for any expenses incurred prior to the date of termination for which he was not previously reimbursed.beneficiary.
If the Company terminates Mr. Hegyi’s employment at any time prior to the expiration of the Term without Cause, as defined in the Employment Agreement, or if Mr. Hegyi terminates his employment at any time for “Good Reason” or due to a “Disability”, Mr. Hegyi will be entitled to receive (i) his base salaryBase Salary amount through the end of the Term; and (ii) his annual bonusAnnual Bonus amount for each year during the remainder of the Term, which bonus amount shall be equal to the greater of (A) the annual bonus amount for the immediately preceding year, or (B) the bonus amount that would have been earned for the year of termination, absent such termination. Term.
If there has been a “Change in Control” and the Company (or its successor or the surviving entity) terminates Mr. Hegyi’s employment without Cause as part of or in connection with such Change in Control (including any such termination occurring within one (1) month prior to the effective date of such Change in Control), then in addition to the benefits set forth above, Mr. Hegyi will be entitled to (i) an increase of $300,000 in his annual base salary amount (or an additional $25,000 per month) through the end of the Term; plus (ii) a gross-up in the annual base salary amount each year to account for and to offset any tax that may be due by Mr. Hegyi on any payments received or to be received by Mr. Hegyi under this Agreement that would result in a “parachute payment” as described in Section 280G of the Internal Revenue Code of 1986, as amended. If the Companywe (or its successor or the surviving entity) terminatesterminate Mr. Hegyi’s employment without Cause within twelve (12) months after the effective date of any Change in Control, or if Mr. Hegyi terminates his employment for Good Reason within twelve (12) months after the effective date of any Change in Control, then in addition to the benefits set forth above, Mr. Hegyi will be entitled to (i) an increase of $300,000 in his annual base salary amount (or an additional $25,000 per month), which increased annual base salary amount shall be paid for the remainder of the Term or for two (2) years following the Change in Control, whichever is longer; (ii) a gross-up in the annual base salary amount each year to account for and to offset any tax that may be due by Mr. Hegyi on any payments received or to be received by Mr. Hegyi under this Letter Agreement that would result in a “parachute payment” as described in Section 280G of the Internal Revenue Code of 1986, as amended; (iii) payment of Mr. Hegyi’s annual bonus amount as set forth above for each year during the remainder of the Term or for two (2) years following the Change in Control, whichever is longer; and (iv) health insurance coverage provided for and paid by the Company for the remainder of the Term or for two (2) years following the Change in Control, whichever is longer.
Consulting
Chief Financial Officer Agreement with an Entity Controlled by Mark E. Scott
On July 31, 2014, the Company entered into a Consulting Chief Financial Officer Letter with an entity controlled by Mark E. Scott pursuant to which the Company engaged Mr. Scott as its Consulting CFO from July 1, 2014 through September 30, 2014, and continuing thereafter until either party provides sixty daysixty-day notice to terminate the Letter or Mr. Scott enters into a full-time employment agreement. Mr. Scott became a full time employee on November 1, 2017.
Per the terms of the Scott Agreement, Mr. Scott’s compensation is $150,000 on an annual basis for the first year of the Scott Agreement. Mr. Scott is also entitled to receive an annual bonus equal to two percent of the Company’s EBITDA for that year. The Company’s Board of Directors granted Mr. Scott an option to purchase sixteen million shares of the Company’sour Common Stock under the Company’sour 2011 Stock Incentive Plan at an exercise price of $0.07 per share, the fair market price on July 31, 2014. On December 18, 2015, the Companywe reduced the exercise price to $0.01 per share. The shares vestvested as follows:
| | |
| | i | Two million shares vest immediately upon securing a market maker with an approved 15c2-11 resulting in the Company’s relisting on OTCBB (earned as of February 18, 2016); |
| | | |
| | ii | Two million shares vest immediately upon the successful approval and effectiveness of the Company’s S-1 (not earned as of December 31, 2015)2016); |
| | | |
| | iii | Two million shares vest immediately upon the Company’s resolution of the class action lawsuits (earned as of August 17, 2015); and, |
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| | iv | Ten million shares will vest on a monthly basis over a period of three years beginning on the July 1, 2014. |
On October 21, 2016, Mr. Scott cancelled stock option grants totaling 12,000,000 shares of our common stock at $0.01 per share. Mr. Scott has an additional 2,000,000 share stock option grant which continues to vest monthly over 36 months and a 2,000,000 share stock option grant which vests upon the achievement of certain performance goals related to acquisitions (earned as of October 3, 2017). On October 15, 2017, an entity controlled by Mr. Scott was granted an option to purchase 12,000,000 shares of common stock at an exercise price of $0.006 per share. The option grant vests on a quarterly basis quarterly over three years.
All options will have a five-year life and allow for a cashless exercise. The stock option grant is subject to the terms and conditions of the Company’sour Stock Incentive Plan, including vesting requirements. In the event that Mr. Scott’s continuous status as consultant to the Company is terminated by the Companyus without Cause or Mr. Scott terminates his employment with the Companyus for Good Reason as defined in the Scott Agreement, in either case upon or within twelve months after a Change in Control as defined in the Company’sour Stock Incentive Plan except for CANX USA, LLC, then 100% of the total number of shares shall immediately become vested.
Mr. Scott will beis entitled to participate in all group employment benefits that are offered by the Companyus to the Company’sour senior executives and management employees from time to time, subject to the terms and conditions of such benefit plans, including any eligibility requirements. In addition, the Company is required to purchase and maintain an insurance policy on Mr. Scott’s life in the amount of $2,000,000 payable to Mr. Scott’s named heirs or estate as the beneficiary. Finally, Mr. Scott is entitled to twenty days of vacation annually and also has certain insurance and travel employment benefits.
If, prior to the expiration of the Term, the Company terminates Mr. Scott’s employment for Cause, or if Mr. Scott voluntarily terminates his employment without Good Reason, or if Mr. Scott’s employment is terminated by reason of his death, then all of the Company’sour obligations hereunder shall cease immediately, and Mr. Scott will not be entitled to any further compensation beyond any pro-rated base salary due and bonus amounts earned through the effective date of termination. Mr. Scott will also be reimbursed for any expenses incurred prior to the date of termination for which he was not previously reimbursed. Mr. Scott may receive severance benefits and the Company’sour obligation under a termination by the Company without Cause or Mr. Scott terminates his employment for Good Reason are discussed above.
Promotion Letter with Joseph Barnes
On October 10, 2014, the Company entered into a Promotion Letter with Joseph Barnes which was effective October 1, 2014 pursuant to which the Company engaged Mr. Barnes as its Senior Vice-President of Business Development from October 1, 2014 on an at will basis. This Promotion Letter supersedes and canceled the Manager Services Agreement withOn August 16, 2917, Mr. Joseph Barnes, dated August 1, 2013.Senior Vice-President of Business Development GrowLife Hydroponics, Inc, was promoted to President of GrowLife Hydroponics, Inc.
Per the terms of the Barnes Agreement, Mr. Barnes’s compensation is $90,000 on an annual basis. On January 1, 2016, Mr. Barnes salary was increased to $120,000 per year. On August 16, 2017, Mr. Barnes was increased to $150,000 per year. Mr. Barnes received a bonus of $6,500 and is also entitled to receive a quarterly bonus based on growth of the Company’sour growth margin dollars. No quarterly bonuses were earned under this Promotion Letter. Mr. Barnes was granted an option to purchase eight million shares of the Company’sour common stock under the Company’sour 2011 Stock Incentive Plan at an exercise price on the date of grant.$0.050 per share. The shares vest as follows:
| | |
| | i | Two million shares vested immediately; |
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| | iv | Six million shares vest on a monthly basis over a period of three years beginning on the date of grant. |
On October 12, 2016, we amended the exercise price of the stock option grants for Mr. Barnes to $0.010 per share. On October 25, 2017, Mr. Barnes was granted an option to purchase 10,000,000 shares of common stock at an exercise price of $0.007 per share. The option grant vests on a quarterly basis over three years.
All options will have a five-year life and allow for a cashless exercise. The stock option grant is subject to the terms and conditions of the Company’sour Stock Incentive Plan, including vesting requirements. In the event that Mr. Barnes’s continuous status as employee to the Companyus is terminated by the Companyus without Cause or Mr. Barnes terminates his employment with the Companyus for Good Reason as defined in the Barnes Agreement, in either case upon or within twelve months after a Change in Control as defined in the Company’sour Stock Incentive, then 100% of the total number of shares shall immediately become vested.
Mr. Barnes was entitledis to participate in all group employment benefits that are offered by the Companyus to the Company’sour senior executives and management employees from time to time, subject to the terms and conditions of such benefit plans, including any eligibility requirements. Finally, Mr. Barnes is entitled to fifteen days of vacation annually and also has certain insurance and travel employment benefits.
Mr. Barnes may receive severance benefits and the Company’sour obligation under a termination by the Company without Cause or Mr. Barnes terminates his employment for Good Reason are discussed above.
AgreementsOffer Letter with Robert HuntDavid Reichwein
On June 7, 2013,October 1, 2017, the Company entered into an Executive Services AgreementOffer Letter with Robert Hunt,David Reichwein pursuant to which the Company engaged Mr. Hunt, from June 8, 2013 through June 7, 2015 to provide consultingReichwein as its Vice-President of Research and management services as the President of GrowLife Hydroponics, Inc.
On May 30, 2014, the Company announced the resignation of Robert Hunt effective May 23, 2014 as Executive Vice President of GrowLife, Inc., President of GrowLife Hydroponics. On June 3, 2014, the Board of Directors accepted the resignation of Robert Hunt effective June 2, 2014 as a Director of the Company. On October 17, 2014, the Company entered into a Settlement Agreement and Release with Mr. Robert Hunt, whereby the Parties cancelled the Executive Services Agreement ("ESA") dated June 7, 2013 and his stock option grant for 12,000,000 shares. The Company agreed to issue 6,000,000 shares of restricted common stock under certain conditions that have not been met (issuance not triggered as of December 31, 2015), paid cash severance totaling $50,000 monthly over five month starting October 25, 2014 and reimbursed Mr. Hunt for health insurance benefits and other expenses monthly over five months starting October 25, 2014. The Parties entered into a release agreement.
Promotion Letter with Jeremy Belmont
On October 10, 2014, the Company entered into a Promotion Letter with Jeremy Belmont which was effective October 1, 2014 pursuant to which the Company engaged Mr. Belmont as Vice President of Sales from October 1, 2014Development on an at will basis. This Promotion Letter superseded and canceled the Manager Services Agreement with Mr. Belmont dated October 1, 2013.
Per the terms of the BelmontReichwein Agreement, Mr. Belmont’sReichwein’s compensation was $72,000is $150,000 on an annual basis. Starting on the first quarter 2018, Mr. Belmont received a bonus of $6,500 andReichwein is also entitledeligible to receiveearn a quarterly bonuscommission based on growth10% of the Company’s growthtile gross margin dollars. No quarterly bonuses were earned under this Promotion Letter.
Mr. BarnesReichwein was granted an option to purchase fivetwenty million shares of the Company’sour common stock under the Company’sour 2011 Stock Incentive Plan at an exercise price on the date of grant.$0.006 per share. The Sharesshares vest as follows:
| | | |
| i | OneTen million four hundred thousand shares vested immediately; |
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| | ivii | ThreeTen million six hundred thousand shares will vest on a monthlyquarterly basis over a period of threetwo years beginning on the date of grant. |
All options hadwill have a five-year life and allow for a cashless exercise. The stock option grant is subject to the terms and conditions of the Company’sour Stock Incentive Plan, including vesting requirements. In the event that Mr. Belmont’sReichwein’s continuous status as employee to the Company is terminated by the Companyus without Cause or Mr. BelmontReichwein terminates his employment with the Companyus for Good Reason as defined in the BelmontReichwein Agreement, in either case upon or within twelve months after a Change in Control as defined in the Company’sour Stock Incentive, then 100% of the total number of Sharesshares shall immediately become vested.
Mr. Belmont was entitledReichwein is to participate in all group employment benefits that are offered by the Company to the Company’sits senior executives and management employees from time to time, subject to the terms and conditions of such benefit plans, including any eligibility requirements. Finally, Mr. Belmont wasReichwein is entitled to fifteen days of vacation annually and also hadhas certain insurance and travel employment benefits.
Mr. BelmontReichwein may receive severance benefits and the Company’sour obligation under a termination by the Company without Cause or Mr. Belmont terminatedReichwein terminates his employment for Good Reason are discussed above.
Mr. Belmont resigned January 13, 2016.Consulting Agreement with an Entity Controlled by Michael E. Fasci
Promotion Letter with Adam Edwards
On October 10, 2014,21, 2016, the Company entered into a Promotion LetterConsulting Agreement with Adam Edwards which was effective October 1, 2014 pursuantan entity controlled by Michael E. Fasci. Mr. Fasci agreed to which the Company engagedprovide services related to lender management, financing and acquisitions. Mr. Edwards as Vice President of Sales from October 1, 2014 on an at will basis.
Per the terms of the Edwards Agreement, Mr. Edwards’sFasci’s compensation is $72,000 on an annual basis. Mr. Edwards received a bonus of $6,500 and was also entitled to receive a quarterly bonus based on growth of the Company’s growth margin dollars. No quarterly bonuses were earned under this Promotion Letter. Mr. Edwards was granted an option to purchase four million five hundred thousand2,000,000 shares of the Company’sour common stock under the Company’s 2011 Stock Incentive Plan at an exercise price on the date of grant. The shares vested quarterly over thirty six months.
All options had a five-year life and allow for a cashless exercise. The stock option grant is subject to the terms and conditions of the Company’s Stock Incentive Plan, including vesting requirements. In the event that Mr. Edwards’s continuous status as employee to the Company is terminated by the Company without Cause or Mr. Edwards terminates his employment with the Company for Good Reason as defined in the Edwards Agreement, in either case upon or within twelve months after a Change in Control as defined in the Company’s Stock Incentive, then 100% of the total number of shares shall immediately become vested.
Mr. Edwards was entitled to participate in all group employment benefits that are offered by the Company to the Company’s senior executives and management employees from time to time, subject to the terms and conditions of such benefit plans, including any eligibility requirements. Finally, Mr. Edwards was entitled to fifteen days of vacation annually and also has certain insurance and travel employment benefits.
Mr. Edwards may receive severance benefits and the Company’s obligation under a termination by the Company without Cause or Mr. Edwards terminated his employment for Good Reason are discussed above.
Mr. Edwards resigned July 11, 2015.
Offer Letter with Tina Qunell
On November 20, 2014, the Company entered into an Offer Letter with Tina Qunell which was effective November 24, 2014 pursuant to which the Company engaged Ms. Qunell as Vice President of Marketing on an at will basis.
Per the terms of the Qunell Agreement, Ms. Qunell’s compensation was $72,000 on an annual basis. Ms. Qunell was granted an option to purchase seven million shares of the Company’s common stock under the Company’s 2011 Stock Incentive Plan at an exercise price on the date of grant. One million of the shares vested immediately and six million vest quarterly over thirty six months.
All options had a five-year life and allow for a cashless exercise. The stock option grant was subject to the terms and conditions of the Company’s Stock Incentive Plan, including vesting requirements. In the event that Ms. Qunell’s continuous status as employee to the Company was terminated by the Company without Cause or Mr. Qunell terminates her employment with the Company for Good Reason as defined in the Qunell Agreement, in either case upon or within twelve months after a Change in Control as defined in the Company’s Stock Incentive, then 100% of the total number of shares shall immediately become vested.
Ms. Qunell was entitled to participate in all group employment benefits that are offered by the Company to the Company’s senior executives and management employees from time to time, subject to the terms and conditions of such benefit plans, including any eligibility requirements. Finally, Ms. Qunell was entitled to fifteen days of vacation annually and also has certain insurance and travel employment benefits.
Ms. Qunell may receive severance benefits and the Company’s obligation under a termination by the Company without Cause or Ms. Qunell terminated her employment for Good Reason are discussed above.
Ms. Qunell resigned July 2, 2015.
Investment Banking Letter with D. Weckstein and Co. Inc.
On August 27, 2014, the Company issued 5,000,000 shares of its common stock to D. Weckstein and Co., Inc. pursuant to an Investment Banking Letter. The shares were valued at the fair market price of $0.08$0.01 per share.share and to be issued on April 21, 2017 and October 21, 2017. The Agreement expired October 20, 2017.
NOTE 1513 – INCOME TAXES
The Company has incurred losses since inception, which have generated net operating loss carryforwards. The net operating loss carryforwards arise from United States sources.
Pretax losses arising from United States operations were approximately $5,700,000$5,300,000 and $87,000,000$7,700,000 and for the years ended December 31, 20152017 and 2014,2016, respectively.
The Company has net operating loss carryforwards of approximately $17,000,000,$18,000,000, which expire in 2023-2033.2021-2031. Because it is not more likely than not that sufficient tax earnings will be generated to utilize the net operating loss carryforwards, a corresponding valuation allowance of approximately $6,700,000$7,100,000 was established as of December 31, 2015.2017. Additionally, under the Tax Reform Act of 1986, the amounts of, and benefits from, net operating losses may be limited in certain circumstances, including a change in control.
Section 382 of the Internal Revenue Code generally imposes an annual limitation on the amount of net operating loss carryforwards that may be used to offset taxable income when a corporation has undergone significant changes in its stock ownership. There can be no assurance that the Company will be able to utilize any net operating loss carryforwards in the future.
For the year ended December 31, 2015,2017, the Company’s effective tax rate differs from the federal statutory rate principally due to net operating losses, warrants issued for services, change in fair value of derivative and debt discount.
The principal components of the Company’s deferred tax assets at December 31, 20152017 and 20142016 are as follows:
| | | 2015 | | | 2014 | | | 2013 | |
| U.S. operations loss carry forward and state at statutory rate of 40% | | $ | 6,713,538 | | | $ | 5,038,976 | | | $ | 3,612,736 | |
| Less valuation allowance | | | (6,713,538 | ) | | | (5,038,976 | ) | | | (3,612,736 | ) |
| Net deferred tax assets | | | - | | | | - | | | | - | |
| Change in valuation allowance | | $ | (6,713,538 | ) | | $ | (5,038,976 | ) | | $ | (3,612,736 | ) |
| | | |
| U.S. operations loss carry forward and state at statutory rate of 40% | $7,154,699 | $6,704,362 |
| Less valuation allowance | 7,154,699 | (6,704,362) |
| Net deferred tax assets | - | - |
| Change in valuation allowance | $7,154,699 | $(6,704,362) |
A reconciliation of the United States Federal Statutory rate to the Company’s effective tax rate for the years ended December 31, 20152017 and 20142016 is as follows:
| | | |
| Federal statutory rate | -34.0% | -34.0% |
| State income tax rate | -6.0% | -6.0% |
| Change in valuation allowance | 40.0% | 40.0% |
| Effective tax rate | 0.0% | 0.0% |
| | | 2015 | | | 2014 | |
| Federal statutory rate | | | -34.0 | % | | | -34.0 | % |
| State income tax rate | | | -6.0 | % | | | -6.0 | % |
| Change in valuation allowance | | | 40.0 | % | | | 40.0 | % |
| Effective tax rate | | | 0.0 | % | | | 0.0 | % |
The Company’s tax returns for 20102012 to 20142017 are open to review by the Internal Revenue Service.
NOTE 1614 – SUBSEQUENT EVENTS
The Company evaluates subsequent events, for the purpose of adjustment or disclosure, up through the date the financial statements are available.
Subsequent to December 31, 2015,2017, the following material transactions occurred:
Resumed Trading of our Common Stock
On February 18, 2016, our common stock resumed unsolicited quotation on the OTC Bulletin Board after receiving clearance from the Financial Industry Regulatory Authority (“FINRA”) on our Form 15c2-11. The Company is currently taking the appropriate steps to uplist to the OTCQB Exchange and resume priced quotations with market makers as soon as it is able.
Equity Issuances
On January 4, 2016,February 7, 2018, the Company issued 3,000,0007,660,274 shares of its common stock to an entity affiliated with Mark E. Scott, the Company’s Chief Financial Officer, pursuant to a conversion of debt for $30,000.three directors. The shares were valued at the fair market price of $0.01$0.020 per share.
On January 16, 2016, the Company issued 1,400,000 shares of its common stock to a former consultant pursuant a conversion of debt for $40,000.share or $153,205. The shares were valued atissued for annual director service to the fair market price of $0.01 per share.Company.
On January 27, 2016,February 12, 2018, the Company issued 1,500,000received a Notice of Conversion from Forglen LLC converting principal and interest of $321,945.00 owed under that certain 7% Convertible Note as amended June 19, 2014 into 127,000,000 shares of itsour common stock to Michael E. Fasci,with a Board Director, pursuant tofair value of $2,235,200
On March 13, 2018, the Company, received a service award for $15,000. TheNotice of Conversion from Logic Works LLC converting principal and interest of $41,690 owed under that a 6% Convertible Note into 16,445,609 shares were valued atof our common stock with a fair value of $248,329. As of March 13, 2018, the fair market price of $0.01 per share.outstanding balance on the Convertible Note was $0.
During the three months ended March 2016, Holder of the Company’s Convertible Notes Payables,31, 2018, Chicago Venture converted principal and accrued interest of $608,905$1,877,668 into 86,986,437333,821,634 shares of the Company’sour common stock at a per share conversion price of $0.007.$0.0055 with a fair value of $5,040,707.
Securities Purchase Agreements with St. George Investments, LLC
On February 9, 2018, the Company executed the following agreements with St. George Investments LLC, a Utah limited liability company (“St. George”): (i) Securities Purchase Agreement; and (ii) Warrant to Purchase Shares of Common Stock. The Company entered into the St. George Agreements with the intent to acquire working capital to grow the Company’s businesses.
Pursuant to the St. George Agreements, the Company agreed to sell and to issue to St. George for an aggregate purchase price of $1,000,000: (a) 48,687,862 Shares of newly issued restricted Common Stock of the Company; and (b) the Warrant. St. George has paid the entire Purchase Price for the Securities.
The Company issued $2 million in common stock or 115,141,048Warrant is exercisable for a period of five (5) years from the Closing, for the purchase of up to 48,687,862 shares of the Company’s common stock on April 6, 2016 pursuant to the settlementCommon Stock at an exercise price of the Consolidated Class Action and Derivative Action lawsuits alleging violations of federal securities laws that were filed against the Company in United States District Court, Central District of California. The Company accrued $2,000,000 as loss on class action lawsuits and contingent liabilities during the year ending December 31, 2015.
Stock Option Vesting
On February 18, 2016, an entity affiliated with Mark E. Scott, the Company’s Chief Financial Officer, had a two million share stock option grant issued at $0.01$0.05 per share vest immediately uponof Common Stock. The Warrant is subject to a cashless exercise option at the Company securing a market maker with an approved 15c2-11 resultingelection of St. George and other adjustments as detailed in the Company’s relisting on OTCBB.
Dissolution of Certain Non-Operating Subsidiaries
The Company determined that certain wholly-owned subsidiaries were unnecessary for the ongoing operations of the Company’s business and elected to dissolve these entities and/or surrender their foreign status in certain jurisdictions for the purpose of reducing unnecessary compliance costs.
The Company is dissolving SG Technologies Corp., a Nevada corporation, and is surrendering its qualification to do business in California due to the fact that the Company no longer operates any business under this wholly-owned subsidiary.
The Company is dissolving Phototron, Inc. and GrowLife Productions, Inc., all California corporations, due to the fact that the Company no longer operates any business under these wholly-owned subsidiaries.
The Company is dissolving Business Bloom, Inc., a California corporation, and is withdrawing its foreign entity status in Colorado due to the fact that the Company no longer operates any business under this wholly-owned subsidiary.
The Company is surrendering its qualification to do business in California due to the fact that the Company has moved its headquarters to Seattle, Washington and is no longer required to register as a foreign entity in California.
Potential Convertible Note Defaults
Several of the Company’s convertible promissory notes remain outstanding beyond their respective maturity dates. This may trigger an event of default under the respective agreements. The Company is working with these noteholders to convert their notes into common stock and intends to resolve these outstanding issues as soon as practicable.
Enactment of Heightened Corporate Governance Measures Pursuant to Derivative Action Settlement
In connection with the settlement of the Derivative Actions related to alleged violations of federal securities laws, the Company agreed to expansive corporate governance measures.
During 2015 and 2016, the Company has enacted and continues to enact heightened corporate governance measure pursuant to the Derivative Action Settlement. The Company plans to hold a special shareholder meeting in the coming months to further implement measures associated with the Derivative Action Settlement.
Employment and Consulting Agreements DefaultsWarrant.
The Company owes Marco Hegyi approximately $53,287 in payroll and expenses as of December 31, 2015 and is in default under the Employment Agreement with Mr. Hegyi.
The Company owes Mark Scott approximately $71,537 in payroll and expenses as of December 31, 2015 and is in default under the Consulting Agreement with Mr. Scott.
Expiration of Stock Option Grants
Mr. Belmont resigned January 13, 2016 and an option to purchase five million shares of the Company’s common stock under the Company’s 2011 Stock Incentive Plan expired on April 13, 2016.
Entry into Securities Purchase Agreement
On April 5, 2016,March 20, 2018, the Company entered into and closed on a SecuritiesCommon Stock Purchase Agreement and related agreements (the “Transaction Documents”) with an accredited investor (the “Purchaser”) wherebySt. George Investments, LLC, a Utah limited liability company.
Pursuant to the St. George Agreements, the Company sold and agreed to sell,issue to St. George 6,410, 256 shares of newly issued restricted Common Stock of the Company at a purchase price of $0.0156 per share. The Purchase Price was paid at Closing and the Purchaser agreed to purchase an unsecured convertible promissory noteShares shall be issued upon the satisfaction of the Share Delivery Conditions as set forth in the original principal amountAgreement. The Shares purchased represents less than 0.3% of $2,755,000 (the “Note”) (collectively, the “Transaction”).Company’s current issued and outstanding common stock.
In connectionFirst Addendum to Agreements with the Transaction,David Reichwein
On February 16, 2018, the Company was provided $350,000entered into an Addendum to amend the terms between the Company and David Reichwein. Pursuant to the First Addendum, the Company purchased the remaining 49% of the Purchased Assets in cash as well as a series of twelve Secured Investor Notesexchange for a total Purchase Price of $2,500,000. The Note carries an Original Issue Discount (“OID”)one-time payment of $250,000 and the cancellation of Reichwein’s right to receive a 10% commission on certain sales of Free Fit products as was set forth in Reichwein’s employment agreement. In exchange for the cancellation of the commission in the employment agreement, Reichwein was granted the opportunity to earn up to two $100,000 cash bonuses and an aggregate common stock bonus of up to 7,500,000 shares if certain revenue and gross margin goals are met in 2018.
Amendment 2 to Note with Forglen LLC
On February 23, 2018, the Company, submitted a Notice of Prepayment to Forglen LLC to prepay the balance owed under that certain 7% Convertible Note as amended June 19, 2014 (the “Convertible Note”). In response to the Prepay Notice, Forglen submitted a Notice of Conversion on March 8, 2018 to convert the entire balance of the Note and all accrued interest. Upon negotiations between Forglen and the Company, the parties entered into a Second Amendment to the Note, dated March 12, 2018.
Pursuant to the Amendment, the Note’s maturity date has been extended to December 31, 2019, and interest on the Note shall accrue at 7% per annum, compounding on the maturity date. As consideration for the Amendment, the Company rescinded its Prepay Notice and Forglen rescinded its Conversion Notice. Additionally, after review of the Note and accrued interest, the Parties agreed that as of March 12, 2018, the outstanding balance on the Note was $270,787.
Installment Agreement with the City of Boulder, Colorado
On March 12, 2017, the Company entered into an Installment Agreement with the City of Boulder, Colorado. This Agreement requires the Company to pay $5,000 to cover Purchaser’s legal fees, accounting costs and other transaction expenses.
The Secured Investor Notes are payable as follows: 1) $50,000 upon filing of a Registration Statement on Form S-1 (the “Registration Statement”), 2) $100,000 upon effectiveness of the Registration Statement, and 3) up to $200,000 per month over the 10 months following effectiveness at the sole discretion of the Company, subject to certain conditions. The Company shall file the Registration Statement within forty-five (45) days of the Closing and will register shares of its common stock for the benefit of Purchaser in exchange for the payments under the Secured Investor Notes.
The Purchaser has the option to convert the Note at 65% of the average of the three (3) lowest volume weighted average prices in thenext twenty (20) Trading Days immediately preceding the applicable conversion (the “Conversion Price”). However, in no event will the Conversion Price be less than $0.02 or greater than $0.09. In addition, beginning on the date that is the earlier of six (6)four months or five (5) days after the Registration Statement becomes effective, and on the same day of each month thereafter, the Company will re-pay the Note in monthly installments in cash, or, subject to certain Equity Conditions, in the Company’s common stock at 65% of the average of the three (3) lowest volume weighted average prices in the twenty (20) Trading Days immediately preceding the applicable conversion (the “Installment Conversion Price”).
MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
Our management is responsible$119,217 for establishing and maintaining adequate internal control over financial reporting. Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we assessed the effectiveness of our internal control over financial reporting as of the end of the period covered by this report based on the framework in “Internal Control—Integrated Framework” issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on that assessment, our principal executive officer and principal financial officer concluded that our internal control over financial reporting were not effective to provide reasonable assurance regarding the reliability of our financial reporting and the preparation of our financial statements for external purposes in accordance with United States generally accepted accounting principles.
The effectiveness of our internal control over financial reporting as of December 31, 2015 has not been audited by PMB Helin Donovan, LLP, an independent registered public accounting firm.
| | | |
| | | |
/s/ Marco Hegyi | | /s/ Mark E. Scott | |
Marco Hegyi | | Mark E. Scott | |
President | | Chief Financial Officer | |
Seattle, WA
April 14, 2016unpaid sales taxes.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, GrowLife, Inc. (the "Registrant") has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
| | GROWLIFE, INC. |
| | | |
Date: April 14, 2016March 28, 2018 | By: | /s/ Marco Hegyi |
| | | Marco Hegyi |
| | | PresidentChief Executive Officer and Director
(Principal Executive Officer) |
| | | |
| | By: | /s/ Mark E. Scott |
| | | Mark Scott |
| | | Chief Financial Officer, Director and Secretary (Principal Financial and Accounting Officer) |
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated:
| SIGNATURES | | TITLE | | DATE |
| | | | | |
| /s/ Marco Hegyi | President | Chief Executive Officer and Director | April 14, 2016 | March 28, 2018 |
| Marco Hegyi | | (Principal Executive Officer) | | |
| | | | | |
| /s/ Mark E. Scott | | Chief Financial Officer, Director and Secretary | April 14, 2016 | March 28, 2018 |
| Mark E. Scott | | (Principal Financial/Accounting Officer) | | |
| | | | | |
/s/ Michael E. Fasci | | Director | April 14, 2016 | March 28, 2018 |
| Michael E. Fasci | | |
| | |
| | |
| | |
| /s/ Katherine McLain | | Director | | March 28, 2018 |
| Katherine McLain | | | | |
| /s/ Thom Kozik | | Director | | March 28, 2018 |
| Thom Kozik | | | | |
