NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE
30, 2019 AND 2018
(UNAUDITED)
NOTE
1 – BASIS OF PRESENTATION
The
accompanying unaudited condensed consolidated financial statements of Generation Alpha, Inc. and its subsidiaries (the “Company”)
have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial
information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion
of management, all normal recurring adjustments considered necessary for a fair presentation have been included. Operating results
for the six months ended June 30, 2019 are not necessarily indicative of the results that may be expected for the year ending
December 31, 2019.
History
and Organization
Generation
Alpha, Inc. (the “Company”) was originally incorporated under the laws of the State of Nevada on March 2, 2007 as
Cinjet, Inc. (“Cinjet”). Effective September 1, 2015, Cinjet changed its corporate name to Solis Tek Inc. (“Solis
Tek”). Effective September 25, 2018, the Company entered into an agreement and plan of merger (the “Merger Agreement”),
whereby a wholly-owned subsidiary of the Company (the “Merger Sub”) was merged into the Company (the “Merger”).
Upon consummation of the Merger, the separate existence of Merger Sub ceased and the Company changed its name from Solis Tek to
Generation Alpha, Inc. On June 23, 2015, the Company entered into an Agreement of Merger and Plan of Reorganization (the “Agreement”)
with Solis Tek Inc., a California corporation (“STI”), and CJA Acquisition Corp., a California corporation and a wholly
owned subsidiary of the Company (“Merger Sub”), providing for the merger of Merger Sub with and into STI (the “Merger”),
with STI surviving the Merger as a wholly-owned subsidiary of the Company. The Merger was accounted for as a recapitalization
of the Company with STI being deemed the accounting acquirer.
Overview
of Business
The
Company is a vertically integrated technology innovator, developer, manufacturer and distributor focused on bringing products
and solutions to commercial and retail cannabis growers in both the medical and adult use recreational space in legal markets
across the U.S. The Company’s lighting and nutrient customers include retail stores, distributors and commercial growers
in the United States and abroad.
Going
Concern
The
accompanying condensed consolidated financial statements have been prepared on a going concern basis, which contemplates the realization
of assets and the settlement of liabilities and commitments in the normal course of business. As reflected in the accompanying
condensed consolidated financial statements, during the six months ended June 30, 2019, the Company incurred a net loss of $2,235,649
and used cash in operations of $717,355 and had a shareholders’ deficit of $5,404,912 as of June 30, 2019. These factors
raise substantial doubt about the Company’s ability to continue as a going concern within one year after the date of the
financial statements being issued. The ability of the Company to continue as a going concern is dependent upon the Company’s
ability to raise additional funds and implement its business plan. The financial statements do not include any adjustments that
might be necessary if the Company is unable to continue as a going concern. In addition, the Company’s independent registered
public accounting firm, in its report on the Company’s December 31, 2018 financial statements, has raised substantial doubt
about the Company’s ability to continue as a going concern.
At
June 30, 2019, the Company had cash on hand in the amount of $240,012. Management estimates that the current funds on hand will
be sufficient to continue operations through September 2019. The continuation of the Company as a going concern is dependent upon
its ability to obtain necessary debt or equity financing to continue operations until it begins generating positive cash flow.
No assurance can be given that any future financing will be available or, if available, that it will be on terms that are satisfactory
to the Company. Even if the Company is able to obtain additional financing, it may contain undue restrictions on its operations,
in the case of debt financing or cause substantial dilution for the Company’s stock holders, in case or equity financing.
NOTE
2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis
of Consolidation
The
consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries: STI; Solis Tek East,
Corporation (“STE”), an entity incorporated under the laws of the State of New Jersey, Zelda Horticulture, Inc. (“Zelda”),
an entity incorporated under the laws of the State of California, and YLK Partners NV, LLC (“YLK”), Generation Alpha
Brands, Inc., Trilogy Dispensaries, Inc., Extracting Point, LLC (“Extracting Point”), and GrowPro Solutions, Inc.,
all entities formed under the laws of Nevada. Intercompany transactions and balances have been eliminated in consolidation.
Leases
Prior
to January 1, 2019, the Company accounted for leases under ASC 840, Accounting for Leases. Effective January 1, 2019, the Company
adopted the guidance of ASC 842, Leases (“ASC 842”), which requires an entity to recognize a ROU asset and a lease
liability for virtually all leases. The Company adopted ASC 842 using a modified retrospective approach. As a result, the comparative
financial information has not been updated and the required disclosures prior to the date of adoption have not been updated and
continue to be reported under the accounting standards in effect for those periods. The adoption of ASC 842 on January 1, 2019
resulted in the recognition of operating lease ROU assets of and, lease liabilities for operating leases of $659,347. There was
no cumulative-effect adjustment to accumulated deficit. As discussed in Note 6, the Company did not record a ROU asset and lease
liability for the net present value of future lease obligations for the lease of real property in Arizona.
Loss
per Share Calculations
Basic
earnings per share are computed by dividing net income (loss) available to common shareholders by the weighted-average number
of common shares available. Diluted earnings per share is computed by dividing the net income applicable to common stock holders
by the weighted average number of common shares outstanding plus the number of additional common shares that would have been outstanding
if all dilutive potential common shares had been issued using the treasury stock method. Potential common shares are excluded
from the computation when their effect is antidilutive. The dilutive effect of potentially dilutive securities is reflected in
diluted net income per share if the exercise prices were lower than the average fair market value of common shares during the
reporting period.
For
the six months ended June 30, 2019, options to acquire 8,314,391 shares of common stock, warrants to acquire 12,783,140 shares
of common stock, and 3,000,000 shares to be issued upon conversion of our convertible note have been excluded from the calculation
of weighted average common shares, as their effect would have been anti-dilutive. For the six months ended June 30, 2018, options
to acquire 3,000,000 shares of common stock and warrants to acquire 13,783,140 shares of common stock and shares potentially issuable
under our convertible note agreements have been excluded from the calculation of weighted average common shares outstanding at
June 30, 2018, as their effect would have been anti-dilutive.
Use
of Estimates
The
preparation of the consolidated financial statements in conformity with accounting principles generally accepted in the U.S requires
management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent
assets and liabilities at the financial statement date, and reported amounts of revenue and expenses during the reporting period.
Significant estimates are used in valuing our allowances for doubtful accounts, reserves for inventory obsolescence, estimates
for potential losses on lease abandonments, assumptions made in valuing derivative liabilities, valuing equity instruments issued
for services, and valuation allowance for deferred tax assets, among others. Actual results could differ from these estimates.
Revenue
Recognition
The
Company recognizes revenue in accordance with Accounting Standard Update (“ASU”) No. 2014-09. This new standard provides
authoritative guidance clarifying the principles for recognizing revenue and developing a common revenue standard for U.S. generally
accepted accounting principles. The core principle of the guidance is that an entity should recognize revenue to depict the transfer
of promised goods and services to customers in an amount that reflects the consideration to which the entity expects to be entitled
in the exchange for those goods or services.
Under
this guidance, revenue is recognized when control of promised goods or services is transferred to the Company’s customers,
in an amount that reflects the consideration the Company expects to be entitled to in exchange for those goods or services. The
Company reviews its sales transactions to identify contractual rights, performance obligations, and transaction prices, including
the allocation of prices to separate performance obligations, if applicable. Revenue and costs of sales are recognized once products
are delivered to the customer’s control and performance obligations are satisfied.
All
products sold by the Company are distinct individual products and consist of advanced energy efficient indoor horticulture lighting,
plant nutrient products, and ancillary equipment. The products are offered for sale as finished goods only, and there are no performance
obligations required post-shipment for customers to derive the expected value from them. Contracts with customers contain no incentives
or discounts that could cause revenue to be allocated or adjusted over time.
The
Company does not offer a general right of return on any of its sales and considers all sales as final. The Company generally provides
a three-year warranty on its ballasts. However, the Company does not maintain a warranty reserve as the Company is able to chargeback
its vendors for all warranty claims. As of June 30, 2019 and December 31, 2018, the Company recorded reserves for returned product
in the amounts of $52,149 and $143,947, respectively, which reduced the accounts receivable balances as of those periods.
Inventories
Inventories
are stated at the lower of cost or market. Cost is computed on a first-in, first-out basis. The Company’s inventories consist
almost entirely of finished goods as of June 30, 2019 and December 31, 2018.
The
Company provides inventory reserves based on excess and obsolete inventories determined primarily by future demand forecasts.
The write down amount is measured as the difference between the cost of the inventory and market based upon assumptions about
future demand and charged to the provision for inventory, which is a component of cost of sales. At the point of the loss recognition,
a new, lower cost basis for that inventory is established, and subsequent changes in facts and circumstances do not result in
the restoration or increase in that newly established cost basis. At June 30, 2019 and December 31, 2018, the reserve for excess
and obsolete inventory was $420,200 and $910,778, respectively.
Concentration
Risks
The
Company maintains the majority of its cash balances with one financial institution, in the form of demand deposits. During the
six month period ended June 30, 2019 and the year ended December 31, 2018, the Company had cash deposits that exceeded the federally
insured limit of $250,000. The Company believes that no significant concentration of credit risk exists with respect to these
cash balances because of its assessment of the creditworthiness and financial viability of the financial institution.
The
Company operates in markets that are highly competitive and rapidly changing. Significant technological changes, shifting customer
needs, the emergence of competitive products or services with new capabilities, and other factors could negatively impact the
Company’s operating results. State and federal government laws could have a material adverse impact on the Company’s
future revenues and results of operations.
The
Company’s products require specific components that currently are available from a limited number of sources. The Company
purchases some of its key products and components from single vendors. During the six months ended June 30, 2019 and 2018, its
ballasts, lamps and reflectors, which comprised the majority of the Company’s purchases during those periods, were each
only purchased from one separate vendor.
The
Company performs a regular review of customer activity and associated credit risks and does not require collateral or other arrangements.
No customer accounted for more than 10% of the Company’s revenue for the three months ended June 30, 2019, and two customers
accounted for 29% and 10% of the Company’s revenue for the three months ended June 30, 2018. No customer accounted for more
than 10% of the Company’s revenue for the six months ended June 30, 2019, and one customer accounted for 12% of the Company’s
revenue for the six months ended June 30, 2018. Shipments to customers outside the United States were less than 5% for both the
three month periods ended June 30, 2019 and 2018.
As
of June 30, 2019, one customer accounted for 11% of the Company’s trade accounts receivable balance, and as of December
31, 2018, four customers accounted for 37%, 14%, 13% and 12% of the Company’s trade accounts receivable.
Fair
Value Measurements
The
Company determines the fair value of its assets and liabilities based on the exchange price in U.S. dollars that would be received
for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability
in an orderly transaction between market participants on the measurement date. Valuation techniques used to measure fair value
maximize the use of observable inputs and minimize the use of unobservable inputs. The Company uses a fair value hierarchy with
three levels of inputs, of which the first two are considered observable and the last unobservable, to measure fair value:
|
|
●
|
Level
1 — Quoted prices in active markets for identical assets or liabilities.
|
|
|
|
|
|
|
●
|
Level
2 — Inputs, other than Level 1, that are observable, either directly or indirectly, such as quoted prices for similar
assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated
by observable market data for substantially the full term of the assets or liabilities.
|
|
|
|
|
|
|
●
|
Level
3 — Unobservable inputs that are supported by little or no market activity and that are significant to the fair value
of the assets or liabilities.
|
The
carrying amounts of financial instruments such as cash, accounts receivable, inventories, and accounts payable and accrued liabilities,
approximate the related fair values due to the short-term maturities of these instruments.
The
fair value of the derivative liabilities of $761,478 and $2,160,806 at June 30, 2019 and December 31, 2018, respectively, was
valued using Level 3 inputs.
Derivative
Financial Instruments
The
Company evaluates 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. 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 12 months of the balance sheet date.
Intangible
Assets
The
Company accounts for intangible assets in accordance with the authoritative guidance issued by
the
Financial Accounting Standards Board (“
FASB”). Intangibles are valued at their fair market value and are amortized
taking into account the character of the acquired intangible asset and the expected period of benefit. The Company evaluates intangible
assets for impairment, at a minimum, on an annual basis and whenever events or changes in circumstances indicate that the carrying
value may not be recoverable from its estimated undiscounted future cash flows. Recoverability of intangible assets is measured
by comparing their net book value to the related projected undiscounted cash flows from these assets, considering a number of
factors, including past operating results, budgets, economic projections, market trends and product development cycles. If the
net book value of the asset exceeds the related undiscounted cash flows, the asset is considered impaired, and a second test is
performed to measure the amount of impairment loss.
At
December 31, 2018, the Company had intangible assets of $1,301,591 that consisted of a license right. In June 2019, and based
on management’s assessment, it was determined that the intangible asset was impaired, and an impairment charge was recorded
for $1,138,892 during the three and six month period ended June 30, 2019 (see Note 4).
Recently
Issued Accounting Pronouncements
Recent
accounting pronouncements issued by the FASB, including its Emerging Issues Task Force, the American Institute of Certified Public
Accountants, and the Securities and Exchange Commission are not believed by management to have a material impact on the Company’s
present or future consolidated financial statements.
NOTE
3 - PROPERTY AND EQUIPMENT
Property
and equipment consists of the following June 30, 2019 and December 31, 2018:
|
|
|
June
30, 2019
|
|
|
December 31, 2018
|
|
|
|
|
|
|
|
|
|
|
Leasehold improvements
|
|
$
|
7,000
|
|
|
$
|
7,000
|
|
|
Machinery and equipment
|
|
|
178,455
|
|
|
|
178,455
|
|
|
Computer equipment
|
|
|
10,908
|
|
|
|
10,908
|
|
|
Furniture and fixtures
|
|
|
39,560
|
|
|
|
39,560
|
|
|
|
|
|
235,923
|
|
|
|
235,923
|
|
|
Less: accumulated depreciation
|
|
|
(198,083
|
)
|
|
|
(179,162
|
)
|
|
Property and equipment, net
|
|
$
|
37,840
|
|
|
$
|
56,671
|
|
Depreciation
expense for the three months ended June 30, 2019 and 2018 was $9,130 and $13,158, and $18,921 and $31,068, respectively, for the
six months ended June 30, 2019 and 2018.
During
the six months ended June 30, 2019, the Company incurred leasehold improvements of $217,562, and subsequently terminated its Arizona
facility lease thereby abandoning $217,562 of leasehold improvements during the six months ended June 30, 2019. The Company recorded
the abandonment of leasehold improvements as a component of operating expense in the condensed consolidated statement of operations
(see Note 6).
NOTE
4 – LICENSE AGREEMENT ACQUIRED FROM RELATED PARTIES
License
agreement acquired from related parties as of June 30, 2019 and December 31, 2018, consisted of the following:
|
|
|
As of
|
|
|
|
|
June 30, 2019
|
|
|
December 31, 2018
|
|
|
License agreement
|
|
$
|
1,518,523
|
|
|
$
|
1,518,523
|
|
|
Accumulated amortization
|
|
|
(379,631
|
)
|
|
|
(216,932
|
)
|
|
Impairment charge
|
|
|
(1,138,892
|
)
|
|
|
-
|
|
|
Intangible assets, net
|
|
$
|
-
|
|
|
$
|
1,301,591
|
|
On
May 10, 2018, the Company entered into an acquisition agreement (the “Acquisition Agreement”) with the members (the
“Sellers”), which in the aggregate, owned 100% of the membership interests in YLK. Pursuant to the Acquisition Agreement,
in consideration of the Company acquiring all of the outstanding membership interests of YLK, the Company issued to the Sellers,
a total of 5,000,000 warrants (the “Warrants”) to purchase 5,000,000 common shares, at an exercise price of $0.01
per share. The Warrants are exercisable until May 9, 2023. The aggregate fair value of the Warrants issued as consideration for
the acquisition was determined to be $5,450,000.
The
Sellers were the following, who were determined to be related parties:
|
|
(a)
|
LK
Ventures, LLC a Nevada limited liability company. One-half of the membership interests of LK Ventures, LLC is owned by Alan
Lien, Chief Executive Officer, President and a director of the Company, and the remaining one-half is owned by a non-affiliated
party. LK Ventures, LLC received 2,250,000 Warrants under the Acquisition Agreement for the 45% membership interests held
in YLK;
|
|
|
|
|
|
|
(b)
|
MDM
Cultivation LLC, a Delaware limited liability company. The members of MDM Cultivation are affiliates of YA II PN, Ltd. (“YA
II PN”) and D-Beta One EQ, Ltd., which presently hold (i) 2,258,382 shares of the Company’s common stock, (ii)
warrants to purchase 11,200,000 shares of the Company’s common stock and (iii) a secured promissory note issued by the
Company with an outstanding principal amount of $1.5 million. In addition, YA II PN and the Company are parties to that SEDA,
pursuant to which YA II PN has agreed to purchase up to $25.0 million of the Company’s common stock, subject to the
terms and conditions thereof. MDM Cultivation owned 45% of the outstanding membership interests of YLK. MDM Cultivation was
issued 2,250,000 Warrants under the Acquisition Agreement. As affiliates of MDM Cultivation, YA II PN and D-Beta One EQ, Ltd.
will be deemed to be the beneficial owners of the 2,250,000 Warrants in addition to the other shares and warrants presently
held by them; and
|
|
|
|
|
|
|
(c)
|
Future
Farm Technologies Inc. of Vancouver British Columbia, Canada (“Future Farm Technologies”). Future Farm Technologies
was issued 500,000 Warrants under the Acquisition Agreement for the 10% membership interests held in YLK.
|
The
major asset of YLK is a Cultivation Management Services Agreement (the “Management Agreement”) with an Arizona licensee
(the “Arizona Licensee”) that was entered into on January 5, 2018. No operating activity existed prior to the acquisition.
The Arizona Licensee is authorized to operate a medical marijuana dispensary, one (1) onsite facility and one (1) offsite facility,
to produce, sell and dispense medical marijuana and manufactured and derivative products that contain marijuana pursuant to Title
9; Chapter 17 of the Arizona Department of Health Services (“AZDHS”) Medical Marijuana Program and Arizona Revised
Statute § 36-2801 et seq., as amended from time to time. Pursuant to the Management Agreement, YLK will provide the management
services for the offsite facility, on behalf of the Arizona Licensee. The assets acquired also included a $250,000 receivable
from Future Farm Technologies.
As
consideration for the exclusive right of YLK to manage the Arizona Licensee’s facility pursuant to the Management Agreement;
(i) YLK paid $750,000 to the Arizona Licensee; (ii) YLK agreed to pay an additional $250,000 within 10 days after receipt of the
AZDHS approval to operate the facility; and (iii) YLK agreed to pay a total of $600,000, payable in 44 equal monthly installments
commencing on April 1, 2019 (the “Installment Payments”). The term of the Management Agreement is five years. YLK
has the option to extend the term for an additional five years with the payment of $1,000,000 at the commencement of the additional
term and a total of $1,000,000 payable in equal monthly installments over the extended term of the Management Agreement. Before
the acquisition, the Sellers paid $750,000 per the terms of the Management Agreement.
Through
the acquisition, the Sellers’ rights and obligations under the CMSA transferred to the Company, including the payment of
an additional $250,000 within 10 days after receipt of the AZDHS approval to operate the facility; and the Installment Payments.
As the Installment Payments totaling $600,000 are noninterest bearing, the Company calculated the net present value of the Installment
Payments to be $518,523 (or a discount of $81,477) based on an 8% cost of capital (which is consistent with borrowing rate of
the Company’s other notes). The Company recorded the aggregate present value of these payments of $518,523 as part of the
acquisition cost of the Management Agreement, which will be amortized over five years, the length of the Management Agreement.
Amortization expense for three months ended June 30, 2019 and 2018, was $81,349 and $162,699, and for the six months ended June
30, 2019 and 2018, $81,349 and $81,349, respectively.
Since
the assets, including a $250,000 balance due from Future Farm Technologies, was acquired from related parties, the assets were
recorded at their historical acquisition cost of $1,000,000. The Company issued 5,000,000 Warrants to the Sellers with an exercise
price of $0.01 and an expiration date of May 9, 2023. Based on a Black-Sholes Merton model, the Warrants were valued at $5,450,000.
Since the assets acquired were acquired from related parties, the difference of $4,450,000 between the fair value of the Warrants
granted of $5,450,000 and the historical acquisition cost of $1,000,000 was recorded as related party compensation cost in the
accompanying condensed consolidated statements of operations. The $250,000 receivable was received by the Company during the year
ended December 31, 2018.
In
June 2019, the Company determined that its intangible assets were impaired after assessing the impact of the Company’s current
lack of liquidity, the recent lease abandonment of its planned Arizona cultivation facility (Note 6), and the recent Deed in Lieu
of Foreclosure Release and Settlement Agreement with its Lender of a facility in Arizona (Note 9). The Company based on its assessment,
recorded an impairment charge of $1,138,892 during the three and six month periods ended June 30, 2019.
As
of December 31, 2018, the remaining Management Agreement obligation was $781,408 (net of discount of $68,592) for which $372,727
is reflected as current and $408,681 was reflected as long term in the accompanying condensed consolidated balance sheet. As of
June 30, 2018, the remaining Management Agreement obligation was $789,998 (net of discount of $60,002) for which $454,545 is reflected
as current and $335,453 was reflected as long term in the accompanying condensed consolidated balance sheet. As of June 30, 2019,
the Company is past due on its Installment Payments obligations under the Management Agreement.
NOTE
5 – NOTES PAYABLE TO RELATED PARTIES
Notes
payable to related parties consists of the following at June 30, 2019 and December 31, 2018:
|
|
|
June 30, 2019
|
|
|
December 31, 2018
|
|
|
|
|
|
|
|
|
|
|
Notes payable to officers/shareholders – past due (a)
|
|
|
600,000
|
|
|
|
600,000
|
|
|
Notes payable to related party (b)
|
|
|
150,000
|
|
|
|
-
|
|
|
Notes payable to related parties – past due (c)
|
|
|
40,000
|
|
|
|
40,000
|
|
|
Total
|
|
$
|
790,000
|
|
|
$
|
640,000
|
|
|
|
a.
|
On
May 9, 2016, the Company entered into note payable agreements with Alan Lien and Alvin Hao, each an officer and director,
to borrow $300,000 under each individual note. Pursuant to the terms of each of these agreements, the Company borrowed $300,000
from each of Alan Lien and Alvin Hao. The notes accrue interest at a rate of 8% per annum, are unsecured and were due on or
before May 31, 2018. The loans are currently past due. A total of $600,000 was due on the combined notes at June 30, 2019
and December 31, 2018, respectively.
|
|
|
|
|
|
|
b.
|
On
May 8, 2019, the Company entered into a note agreement with the sister of Alvin Hao, an officer and director, to borrow $150,000.
The loan accrues interest at 8% per annum, are unsecured and due on November 8, 2019. A total of $150,000 was due on the notes
at June 30, 2019.
|
|
|
|
|
|
|
c.
|
The
Company entered into note agreements with the parents of Alan Lien, the Company’s Chief Executive Officer and one of
its directors. The loans accrue interest at 10% per annum, are unsecured and were due on or before December 31, 2016. The
loans are currently past due. A total of $40,000 was due on the notes at June 30, 2019 and December 31, 2018, respectively.
|
As
of June 30, 2019 and December 31, 2018, accrued interest on the notes payables to related parties was $133,804 and $125,039, respectively.
During the six months ended June 30, 2019, the Company added $27,964 of additional accrued interest and made interest payments
of $19,200.
NOTE
6 – LEASE PAYABLE
The
Company has one lease agreement for office spaces with a remaining lease terms of 4 years as of June 30, 2019. Leases with an
initial term of 12 months or less are not recorded on the balance sheet. The Company accounts for the lease and non-lease components
of its leases as a single lease component. Rent expense is recognized on a straight-line basis over the lease term.
Operating
lease ROU assets and liabilities are recognized at commencement date based on the present value of lease payments over the lease
term. ROU assets represent our right to use an underlying asset for the lease term and lease liabilities represent our obligation
to make lease payments arising from the lease. Generally, the implicit rate of interest in arrangements is not readily determinable
and the Company utilizes its incremental borrowing rate in determining the present value of lease payments. The Company’s
incremental borrowing rate is a hypothetical rate based on its understanding of what its credit rating would be. The operating
lease ROU asset includes any lease payments made and excludes lease incentives.
The
components of rent expense and supplemental cash flow information related to leases for the period are as follows:
|
|
|
Six Months Ended
June 30, 2019
|
|
|
Lease Cost
|
|
|
|
|
|
Operating lease cost (included in general and administration in the Company’s unaudited condensed statement of operations)
|
|
$
|
89,492
|
|
|
|
|
|
|
|
|
Other Information
|
|
|
|
|
|
Cash paid for amounts included in the measurement of lease liabilities for the first six months of 2019
|
|
$
|
-
|
|
|
Weighted average remaining lease term – operating leases (in years)
|
|
|
4.0
|
|
|
Average discount rate – operating leases
|
|
|
10.0
|
%
|
The
supplemental balance sheet information related to leases for the period is as follows:
|
|
|
At June 30, 2019
|
|
|
Operating leases
|
|
|
|
|
|
Long-term ROU assets
|
|
$
|
587,629
|
|
|
|
|
|
|
|
|
Short-term operating lease liabilities
|
|
$
|
124,560
|
|
|
Long-term operating lease liabilities
|
|
|
491,883
|
|
|
Total operating lease liabilities
|
|
$
|
616,443
|
|
Maturities
of the Company’s lease liabilities are as follows:
|
Year
Ending
|
|
Operating
Leases
|
|
|
2019
(remaining 6 months)
|
|
$
|
90,000
|
|
|
2020
|
|
|
182,250
|
|
|
2021
|
|
|
189,000
|
|
|
2022
|
|
|
189,000
|
|
|
2023
|
|
|
94,500
|
|
|
Total
lease payments
|
|
|
744,750
|
|
|
Less:
Imputed interest/present value discount
|
|
|
(128,307
|
)
|
|
Present
value of lease liabilities
|
|
$
|
616,443
|
|
Rent
expense for the three months ended June 30, 2019 and 2018 was $63,413 and $91,172, respectively, and $278,623 and $162,908, respectively,
for the six months ended June 30, 2019 and 2018.
Lease
Abandonment
On
April 19, 2018, the Company entered into an Option Agreement, or the Option, with MSCP, LLC, a non-affiliated Arizona limited
liability company, or the Lessor, pursuant to which, the Company’s subsidiary was granted an option to enter into a certain
Lease Agreement, or the Lease, for the real property, including the structure and all improvements, identified in the Option,
or the Premises. The Premises consists of 70,000 square feet of space and is to be used for the sole purpose of providing services
related to the management, administration and operation of a cultivation and processing facility, or the Facility, on behalf of
an Arizona limited liability company operating as a nonprofit organization, or the Arizona Licensee, which has been allocated
a Medical Marijuana Dispensary Registration Certificate by the Arizona Department of Health Services. The activities within the
Facility shall be limited to the cultivation, processing, production and packaging of medical marijuana and manufactured and derivative
products which contain medical marijuana, with no right to sell or dispense any such plants or products. The Lease is for a 5-year
initial term, or the Term, with an option to renew for an additional 5 year term. The base rent for the initial year of the Term
is $101,500 per month with additional pro-rata net-lease charges.
As consideration for the
Option, the Company paid to Lessor, $160,000, or the Deposit.
On
May 19, 2018, the Company exercised the Option and YLK executed the Lease, and the Deposit was treated a security deposit and
rent advance, in accordance with the terms and conditions of the Lease. The Company is a guarantor of YLK’s obligations
under the Lease, on behalf of Arizona Licensee.
As
discussed in Note 10, the Company provided MSCP a notice of termination, and on February 15, 2019, MSCP, L.L.C (“MSCP”),
filed suit in the Superior Court of Arizona, County of Maricopa, Case No. CV2019-001613 against the Company and YLK. The Company
recently filed counterclaims against MSCP for fraud in the inducement, negligent misrepresentation, breach of the implied covenant
of good faith and fair dealing, rescission of contract, unjust enrichment and punitive damages. The Company intends to vigorously
defend this action. At the date of notice of termination, the Company had a remaining lease obligation of approximately $6,000,000.
Due to the lease termination, the Company excluded the lease as a ROU asset and lease liabilities, and due to its counterclaims,
is unable to determine and did not record, any estimate of liability at June 30, 2019.
As
required by ASC 842, the Company must record a ROU asset and lease liability of $4,839,000 at January 1, 2019 for the net present
value of future lease obligations related to the Arizona property. However, due to actions of the lessor and upon advice of counsel,
management believes that it is no longer obligated under the terms of the lease and accordingly has not recorded the asset and
related liability. If the Company were obligated to the lessor, the assets and liabilities of the accompanying balance sheet would
increase by $4,839,000, and such assets could be subject to an impairment change of the same amount.
No
liabilities have been provided for losses incurred on the Company’s early termination of the lease, as such amounts are
not practicably determinable.
NOTE
7 – LOAN PAYABLE
Loan
payable consisted of the following as of June 30, 2019 and December 31, 2018:
|
|
|
June 30, 2019
|
|
|
December 31, 2018
|
|
|
|
|
|
|
|
|
|
|
Term loan (a)
|
|
$
|
139,591
|
|
|
$
|
-
|
|
|
Automobile loan (b)
|
|
|
1,193
|
|
|
|
2,548
|
|
|
Loans payable
|
|
$
|
140,784
|
|
|
$
|
2,548
|
|
|
|
a.
|
On
May 21, 2019, the Company entered into a loan agreement with Celtic Bank in the principal amount of $150,000 with interest
at 40.44% per annum and due on May 21, 2020. The loan was guaranteed by Alvin Hao, an officer of the Company. Prior to June
30, 2019, the Company made a principal payment of $10,409, leaving a total of $139,591 owed on the loan as of June 30, 2019.
|
|
|
|
|
|
|
b.
|
At
December 31, 2018, $2,548 was due on a loan agreement for a purchased automobile. During the six months ended June 30, 2019,
the Company made payments of $859, leaving a total of $1,689 owed on the loan as of June 30, 2019.
|
NOTE
8 – CONVERTIBLE SECURED NOTE PAYABLE TO RELATED PARTY
Secured
note payable to related party consists of the following as of June 30, 2019 and December 31, 2018:
|
|
|
June 30, 2019
|
|
|
December 31, 2018
|
|
|
|
|
|
|
|
|
|
|
YA II PN, Ltd.
|
|
$
|
1,500,000
|
|
|
$
|
1,500,000
|
|
|
Less debt discount
|
|
|
-
|
|
|
|
(247,032
|
)
|
|
Secured note payable, net
|
|
$
|
1,500,000
|
|
|
$
|
1,252,968
|
|
On
May 10, 2018, the Company issued a secured debenture (the “2018 Note”) to YA II PN Ltd. (“YA II PN”) in
the principal amount of $1,500,000 with interest at 8% per annum (18% on default) and due on February 9, 2019. The 2018 Note was
amended effective February 9, 2019 (see below). The 2018 Note is secured by all the assets of the Company and its subsidiaries.
As part of the issuance, the Company also granted YA II PN 5-year warrants to purchase a total of 7,500,000 shares of the Company
per the following terms.
|
|
(a)
|
A
warrant, or Warrant #1, to purchase 1,000,000 Warrant Shares at an exercise price of $1.50 per share for a term expiring on
May 10, 2023;
|
|
|
|
|
|
|
(b)
|
A
warrant, or Warrant #2, purchase 2,250,000 shares of common stock at an exercise price of $1.50 per share for a term expiring
on May 10, 2023. At any time, the Company has the right and option to purchase any unexercised shares of common stock
underlying Warrant #2 for a purchase price of $0.03 per share so purchased if and only if the average volume weighted
average price, or VWAP (as reported by Bloomberg, LP) of the Company’s common stock is greater than $1.75 per share
for the five (5) consecutive trading days immediately preceding the Company’s delivery of a notice of exercise.
The
Company has the right and option to compel YA II PN to exercise and purchase shares of common stock underlying Warrant
#2 on the terms set forth in Warrant #2 if and only if the average VWAP of the Company’s common stock is greater
than $1.75 per share for the five (5) consecutive trading days immediately preceding the Company’s delivery of a
notice of exercise.
|
|
|
|
|
|
|
(c)
|
A
warrant, or Warrant #3, to purchase 2,250,000 shares of common stock at an exercise price of $1.50 per share for a term expiring
on May 10, 2023. At any time, the Company has the right and option to purchase any unexercised shares of common stock underlying
Warrant #3 for a purchase price of $0.03 per share so purchased if and only if the average VWAP (as reported by Bloomberg,
LP) of the Company’s common stock is greater than $2.00 per share for the five (5) consecutive trading days immediately
preceding the Company’s delivery of a notice of exercise.
|
|
|
|
|
|
|
|
The
Company has the right and option to compel YA II PN to exercise and purchase shares of common stock underlying Warrant #3
on the terms set forth in Warrant #3 if and only if the average VWAP of the Company’s common stock is greater than $2.00
per share for the five (5) consecutive trading days immediately preceding the Company’s delivery of a notice of exercise.
|
|
|
|
|
|
|
(d)
|
A
warrant, or Warrant #4, to purchase 2,000,000 shares of common stock at an exercise price of $1.50 per share for a term expiring
on May 10, 2023. At any time, the Company has the right and option to purchase any unexercised shares of common stock underlying
Warrant #4 for a purchase price of $0.03 per share so purchased if and only if the average VWAP (as reported by Bloomberg,
LP) of the Company’s common stock is greater than $1.50 per share for the five (5) consecutive trading days immediately
preceding the Company’s delivery of a notice of exercise.
|
|
|
|
|
|
|
|
The
Company has the right and option to compel YA II PN to exercise and purchase the shares of common stock underlying Warrant
#4 on the terms set forth in Warrant #4 if and only if the average VWAP of the Company’s common stock is greater than
$2.50 per share for the five (5) consecutive trading days immediately preceding the Company’s delivery of a notice of
exercise.
|
The
Company determined that the exercises prices of the warrants were not a fixed amount because they were subject to an adjustment
based on the occurrence of future events. As such, the Company determined that the conversion feature and the warrants created
a derivative with a fair value of $7,677,406 at the date of issuance. The Company accounted for the fair value of the derivative
up to the face amount of the 2018 Note of $1,500,000 as a valuation discount to be amortized over the life of the 2018 Note, and
the excess of $6,177,406 was recorded as a finance cost for the twelve months ended December 31, 2018. During the six months ended
June 30, 2019, amortization of valuation discount was $247,032 was recorded as an interest cost, leaving no remaining unamortized
balance of the valuation discount at June 30, 2019.
Amendment
to Secured Note Payable to Related Party
On
February 25, 2019, the Company entered into an amendment agreement (the “Amendment”) with YA II PN, which amended
(i) the secured promissory note in the principal face amount of $1.5 million issued on May 10, 2018 (the “Note”),
(ii) a warrant, dated May 10, 2018 for 1,000,000 shares of the Company’s common stock at an exercise price of $1.50 (“Warrant
#1”), (iii) a warrant, dated May 10, 2018 for 2,250,000 shares of the Company’s common stock at an exercise price
of $1.50 (“Warrant #2”), (iv) a warrant, dated May 10, 2018 for 2,250,000 shares of the Company’s common stock
at an exercise price of $1.50 (“Warrant #3”), and (v) a warrant, dated May 10, 2018 for 2,000,000 shares of the Company’s
common stock at an exercise price of $1.50 (“Warrant #4”, and together with Warrant #1, Warrant #2 and Warrant #3,
the “Warrants”).
Pursuant
to the Amendment, the Note was amended to (i) extend the maturity date of the Note from February 9, 2019 to August 9, 2019 and
(ii) provide a conversion right, in which the principal amount of the Note, together with any accrued but unpaid interest, could
be converted into the Company’s common stock at a conversion price of $0.50 a share. The Note was not convertible previously.
In
addition, pursuant to the Amendment, the Warrants were amended to (i) reduce the exercise price from $1.50 per share to $0.50,
$0.75, $1.00 and $1.25 per share for Warrant #1, Warrant #2, Warrant #3 and Warrant #4, respectively, and (ii) remove in Warrant
#2, Warrant #3 and Warrant #4, the Company’s right of redemption and right to compel exercise of such Warrants. The Company
calculated the fair market value of the Warrants before and after the modifications above, and recorded the difference of $129,384
as a financing cost included in other expenses during the six months ended June 30, 2019.
The
Note was not repaid as of August 9, 2019, and has subsequently become past due.
NOTE
9 – ACQUISITION OF FACILITY, LOAN AGREEMENT, AND SUBSEQUENT SETTLEMENT
Acquisition
of Facility
On
April 2, 2019, the Company, through its newly-formed wholly-owned subsidiary Extracting Point, entered into an agreement to purchase
real property located at 2601 West Holly Street in Phoenix, Arizona (the “Property”) for $3,500,000. The Property
holds the approval and authorization for a Conditional Use Permit, which allows the Property to be used for the operation of a
cultivation and infusion facility, allowing for the cultivation, harvesting, preparation, packaging and storing of medical cannabis,
as well as extraction, refinement, infusion, production, preparation, packaging, and storage of manufactured and derivative oils,
waxes, concentrates, edible and non-edible products that contain cannabis.
Loan
Agreement
On
April 2, 2019, Extracting Point entered into a loan agreement (the “Loan Agreement”) with Michael Cannon and Jennifer
Cannon, Trustees of the Core 4 Trust Dated February 29, 2016 (the “Lender”), pursuant to which Extracting Point borrowed
$3,500,000 from the Lender (the “Loan”). The Loan is evidenced by an installment note – interest included (the
“Note”), guaranteed by the Company pursuant to a corporate guaranty (the “Guaranty”) and is secured by
a first priority lien on the Property pursuant to a deed of trust and assignment of rents between Extracting Point and Thomas
Title & Escrow, for the benefit of the Lender (the “Deed of Trust”). Extracting Point used the net proceeds from
the Loan to acquire the Property.
The
Note, together with accrued and unpaid interest, was due and payable on March 31, 2024 (the “Maturity Date”). Interest
on the Note was to accrue at the rate of 10% per annum. For the first 12 months, Extracting Point was to pay the Lender interest
only of $29,167 per month. After the first 12 months, Extracting Point was to pay the Lender principal and interest of $88,769
per month. Extracting Point had the right to prepay the Note at any time, however, Extracting Point agreed to pay the first 36
months of interest, even if the Note was repaid prior to that date.
As
additional consideration for the issuance of the Loan, Extracting Point and the Company agreed to pay the Lender an amount equal
to five percent (5%) of the management fees (the “Management Royalty”) received relating to the services rendered
on the Property, for a period of three years from the date an “Approval to Operate” is granted by the Arizona Department
of Health Services (such date, the “Commencement Date”). In the event that the Commencement Date has not occurred
on or prior to April 2, 2021, then Extracting Point and the Company agreed to pay the Lender an amount equal to five percent (5%)
of the fair market value of the rent of the Property as if the Property was fully occupied (the “Rental Royalty”),
such payments to be made each month for a period of thirty-six months, provided, that, if the Commencement Date occurs after the
Rental Royalty has commenced, the Rental Royalty payments shall cease and the Management Royalty payments shall commence, and
any amounts paid as a Rental Royalty shall be credited against any Management Royalty owed.
In
connection with the Loan, the Company issued to the Lender a warrant (the “Warrant”) to purchase 1,000,000 shares
of the Company’s common stock, exercisable for five years from issuance at an exercise price of $1.00 per share. The Warrant
exercise price is subject to adjustment only in the event of a stock dividend or split.
Settlement
Agreement
On
May 24, 2019, the Company and Extracting Point entered into a Deed in Lieu of Foreclosure Release and Settlement Agreement (the
“Settlement Agreement”) with the Lender. Pursuant to the Settlement Agreement, Extracting Point executed a Deed in
Lieu of Foreclosure (the “Deed”), conveying the real property located at 2601 West Holly Street in Phoenix, Arizona
to the Lender.
In
exchange, the Lender agreed to release the Company and Extracting Point from all their obligations under the Loan Agreement, the
Note, the Deed of Trust and the Guaranty. Pursuant to the Settlement Agreement, the Loan Agreement, the Note, the Deed of Trust
and the Guaranty were terminated. In addition, the Warrant was returned to the Company and canceled.
Extracting
Point was delinquent in payment under the Note, and the Lender informed Extracting Point and the Company that unless payment was
made current or an agreement reached between the parties, the Lender would declare Extracting Point in default, call the entire
Note due and payable, record a notice of default of the Deed of Trust, and take any other actions it deemed necessary or appropriate
against the Company and Extracting Point.
NOTE
10 – DERIVATIVE LIABILITY
The
FASB has issued authoritative guidance whereby instruments which do not have fixed settlement provisions are deemed to be derivative
instruments. The conversion prices and the exercise prices of the warrants described in Note 7 were not a fixed amount because
they were either subject to an adjustment based on the occurrence of future offerings or events or they were variable. Since the
number of shares is not explicitly limited, the Company is unable to conclude that enough authorized and unissued shares are available
to settle the conversion option. In accordance with the FASB authoritative guidance, the conversion features have been characterized
as derivative liabilities to be re-measured at the end of every reporting period with the change in value reported in the statement
of operations.
As
of June 30, 2019, and December 31, 2018, the derivative liabilities were valued using a Black Scholes Merton pricing model with
the following assumptions:
|
|
|
June 30, 2019
|
|
|
December 31, 2018
|
|
|
|
|
|
|
|
|
|
|
Exercise Price
|
|
$
|
0.06 – 0.95
|
|
|
$
|
0.22 – 1.50
|
|
|
Stock Price
|
|
$
|
0.12
|
|
|
$
|
0.34
|
|
|
Risk-free interest rate
|
|
|
1.71
|
%
|
|
|
2.50
|
%
|
|
Expected volatility
|
|
|
140 – 156
|
%
|
|
|
137 – 147
|
%
|
|
Expected life (in years)
|
|
|
3.31 – 3.86
|
|
|
|
3.96 – 4.36
|
|
|
Expected dividend yield
|
|
|
0
|
%
|
|
|
0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value:
|
|
$
|
761,478
|
|
|
$
|
2,160,806
|
|
The
risk-free interest rate was based on rates established by the Federal Reserve Bank. The Company uses the historical volatility
of its common stock to estimate the future volatility for its common stock. The expected life of the conversion feature of the
notes was based on the remaining term of the notes. The expected dividend yield was based on the fact that the Company has not
customarily paid dividends in the past and does not expect to pay dividends in the future.
The
balance of the derivative liability at December 31, 2018 was $2,160,806. During the three and six months ended June 30, 2019,
the Company recognized $1,627,056 and $1,528,712, respectively, as other income, which represented the change in the fair value
of the derivative from the respective prior period. In addition, during the three and six months ended June 30, 2019, the Company
recognized $0 and $129,384, respectively, which represented a change in the terms of warrants, and was recorded as a financing
cost and included in other expense.
The
balance of the derivative liability at December 31, 2017 was $4,869,082. During the three and six months ended June 30, 2018,
the Company recognized $4,181,874 and $6,811,926, respectively, as other income, which represented the change in the fair value
of the derivative from the respective prior period. In addition, during the three and six months ended June 30, 2018, the Company
recognized $2,211,533 and 4,188,430, respectively, which represented the extinguishment of derivative liabilities, of which $1,715,173
and $2,389,437, respectively, was included in other income, and the remaining $496,350 and $1,799,003, respectively, was recorded
to additional paid-in-capital. In addition, during the six months ended June 30, 2018, the Company recognized derivative liabilities
of $7,677,406 upon issuance of warrants.
NOTE
11 – SHAREHOLDERS’ EQUITY
Common
Shares Issued for Services
The
Company entered into various consulting agreements with third parties (“Consultants”) pursuant to which these Consultants
provided business development, sales promotion, introduction to new business opportunities, strategic analysis and, sales and
marketing activities. During the six months ended June 30, 2019 and 2018, the Company issued an aggregate of 426,000 and 1,270,000
shares of common stock, respectively, to these consultants with a fair value of $177,850 and $1,636,800 at the date of grant,
respectively, which was recognized as compensation cost.
Director
Appointment and Consulting Agreement
On
February 5, 2019, the Board of Directors of the Company increased the number of directors and appointed Mr. David Lenigas as a
director of the Company, effective immediately. In connection with the appointment of Mr. Lenigas, the Company granted him 100,000
shares of common stock with a fair value of $63,000, or $0.63 per share, which vested immediately.
Effective
February 5, 2019, the Company and Mr. Lenigas entered into a consulting agreement (the “Consulting Agreement”), pursuant
to which the Company shall pay Mr. Lenigas a monthly consulting fee of $13,000 per calendar month for his marketing, branding,
investor and public relations services. The Company also agreed, during the term of the Consulting Agreement, to issue Mr. Lenigas
such number of shares of common stock equal to two percent of the total shares then issued and outstanding upon the Company’s
common stock reaching a market capitalization (as defined in the Consulting Agreement) of $76 million for ten consecutive trading
days, and an additional two percent for each additional $76 million market capitalization achieved for ten consecutive trading
days, up to a market capitalization of $380 million. In addition, should the Company, during the consulting term or for a period
of six months thereafter, enter into a transaction that constitutes a change of control in which the enterprise value (as defined
in the Consulting Agreement) of the Company equals or exceeds, $500 million, then the Company agreed to pay Mr. Lenigas a bonus
equal to 5% of such enterprise value. The Consulting Agreement has a term of two years, and may be terminated by either party
after one year upon 30 days’ prior written notice. As of June 30, 2019, none of the milestones have been met and therefore,
no compensation expense has been recorded during the period ended June 30, 2019.
Common
Shares Issued for Cash
During
the six months ended June 30, 2018, the Company received proceeds of $1,068,000 from the issuance of 821,538 shares of common
stock, at $1.30 per share, as part of a Regulation D offering, and the Company received proceeds of $500,000 from YA II PN from
the sale of 500,000 shares of common stock at $1.00 per share.
Common
Shares Issued to Employees for Services
During
the six months ended June 30, 2018, the Company issued 250,000 shares of common stock to its executives valued at $335,000 and
recorded an additional $356,042 of stock-based compensation expense related to the vesting of common shares previously issued
to its executive and an employee.
Common
Shares Issued on Conversion of Series A Convertible Preferred Stock
During
the six months ended June 30, 2018, the Company received notices of conversion to convert all of the outstanding Series A into
common shares of the Company. Upon the conversion of the balance of the Series A, the Company issued 368,550 shares of common
stock and no Series A were outstanding as of June 30, 2018. Upon conversion, the unamortized discount of $351,000 was reflected
as an interest cost.
Common
Shares Issued on Conversion of Convertible Note Payable
During
the six months ended June 30, 2018, the Company was notified in writing that the Note holder elected to convert all remaining
outstanding principal and interest accrued, which included the conversion of $1,750,000 of principal and $38,082 of interest.
Upon the conversion of the Note, the Company issued an aggregate of 1,788,082 shares of its common stock. The balance of the debt
discount of $1,555,556 was recorded as an interest cost during the six months ended June 30, 2018.
Summary
of Stock Options
A
summary of stock options for the six months ended June 30, 2019, is as follows:
|
|
|
|
|
|
Weighted
|
|
|
|
|
Number
|
|
|
Average
|
|
|
|
|
of
|
|
|
Exercise
|
|
|
|
|
Options
|
|
|
Price
|
|
|
Balance outstanding, December 31, 2018
|
|
|
8,394,391
|
|
|
$
|
0.66
|
|
|
Options granted
|
|
|
-
|
|
|
|
-
|
|
|
Options exercised
|
|
|
-
|
|
|
|
-
|
|
|
Options expired or forfeited
|
|
|
(80,000
|
)
|
|
|
0.69
|
|
|
Balance outstanding, June 30, 2019
|
|
|
8,314,391
|
|
|
$
|
0.65
|
|
|
Balance exercisable, June 30, 2019
|
|
|
8,169,391
|
|
|
$
|
0.65
|
|
The
Company recorded compensation expense pursuant to authoritative guidance provided by the ASC Topic 718 –
Stock Compensation
for the three and six months ended June 30, 2019 and 2018 of $7,371 and $18,426, and $0 and $561,671, respectively.
On
February 5, 2018, the Company terminated its employment agreement with Mr. Forchic, and per the terms of the employment agreement,
2,000,000 unvested option immediately vested, resulting in a stock-based compensation charge of $534,310 during the six months
ended June 30, 2018.
Information
relating to outstanding options at June 30, 2019, summarized by exercise price, is as follows:
|
|
|
|
Outstanding
|
|
|
Exercisable
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
|
|
|
|
|
|
Average
|
|
|
|
|
|
Average
|
|
|
Exercise Price Per Share
|
|
|
Shares
|
|
|
Life (Years)
|
|
|
Exercise
Price
|
|
|
Shares
|
|
|
Exercise
Price
|
|
|
$
|
0.46
|
|
|
|
100,000
|
|
|
|
4.45
|
|
|
$
|
0.46
|
|
|
|
100,000
|
|
|
$
|
0.46
|
|
|
$
|
0.60
|
|
|
|
3,000,000
|
|
|
|
3.61
|
|
|
$
|
0.60
|
|
|
|
3,000,000
|
|
|
$
|
0.60
|
|
|
$
|
0.69
|
|
|
|
5,214,391
|
|
|
|
4.42
|
|
|
$
|
0.69
|
|
|
|
5,069,391
|
|
|
$
|
0.69
|
|
|
|
|
|
|
|
8,314,391
|
|
|
|
4.12
|
|
|
$
|
0.65
|
|
|
|
8,169,391
|
|
|
$
|
0.65
|
|
As
of June 30, 2019, the Company has outstanding unvested options with future compensation costs of $80,577, which will be recorded
as compensation cost as the options vest over their remaining average vesting period of 2.40 years. The weighted-average remaining
contractual life of options outstanding and exercisable at June 30, 2019 was 4.12 years. Both the outstanding and exercisable
stock options had no intrinsic value at June 30, 2019.
Summary
of Warrants
A
summary of warrants for the six months ended June 30, 2019, is as follows:
|
|
|
|
|
|
Weighted
|
|
|
|
|
Number
|
|
|
Average
|
|
|
|
|
of
|
|
|
Exercise
|
|
|
|
|
Warrants
|
|
|
Price
|
|
|
Balance outstanding, December 31, 2018
|
|
|
12,783,140
|
|
|
$
|
0.91
|
|
|
Warrants granted
|
|
|
1,000,000
|
|
|
|
1.00
|
|
|
Warrants exercised
|
|
|
-
|
|
|
|
-
|
|
|
Warrants expired or forfeited
|
|
|
(1,000,000
|
)
|
|
|
(1.00
|
)
|
|
Balance outstanding, June 30, 2019
|
|
|
12,783,140
|
|
|
$
|
0.57
|
|
|
Balance exercisable, June 30 , 2019
|
|
|
12,783,140
|
|
|
$
|
0.57
|
|
Information
relating to outstanding warrants at June 30, 2019 summarized by exercise price, is as follows:
|
|
|
|
Outstanding
|
|
|
Exercisable
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
|
|
|
|
|
|
Average
|
|
|
|
|
|
Average
|
|
|
Exercise Price Per Share
|
|
|
Shares
|
|
|
Life (Years)
|
|
|
Exercise
Price
|
|
|
Shares
|
|
|
Exercise
Price
|
|
|
$
|
0.01
|
|
|
|
5,000,000
|
|
|
|
3.86
|
|
|
$
|
0.01
|
|
|
|
5,000,000
|
|
|
$
|
0.01
|
|
|
$
|
0.50
|
|
|
|
500,000
|
|
|
|
3.86
|
|
|
$
|
0.50
|
|
|
|
500,000
|
|
|
$
|
0.50
|
|
|
$
|
0.75
|
|
|
|
2,250,000
|
|
|
|
3.86
|
|
|
$
|
0.75
|
|
|
|
2,250,000
|
|
|
$
|
0.75
|
|
|
$
|
1.00
|
|
|
|
2,250,000
|
|
|
|
3.86
|
|
|
$
|
0.75
|
|
|
|
2,250,000
|
|
|
$
|
0.75
|
|
|
$
|
1.10
|
|
|
|
283,140
|
|
|
|
3.31
|
|
|
$
|
1.10
|
|
|
|
283,140
|
|
|
$
|
1.10
|
|
|
$
|
1.25
|
|
|
|
2,000,000
|
|
|
|
3.86
|
|
|
$
|
1.25
|
|
|
|
2,000,000
|
|
|
$
|
1.25
|
|
|
|
|
|
|
|
12,783,140
|
|
|
|
3.84
|
|
|
$
|
0.57
|
|
|
|
12,783,140
|
|
|
$
|
0.57
|
|
As
of June 30, 2019, the outstanding and exercisable warrants had an intrinsic value of $544,000.
During
the six months ended June 30, 2018, the Company issued five-year warrants to purchase 5,000,000 shares of common stock at an exercise
price of $0.01 as consideration for an acquisition. The Company also issued five-year warrants to purchase 7,500,000 shares of
common stock at an exercise price of $1.50 as part of a secured promissory note. Lastly, in connection with the SEDA discussed
below, the Company issued five-year warrants to YA II PN to purchase 1,000,000 shares of common stock at an exercise price of
$0.01 per share as a commitment fee.
During
the six months ended June 30, 2018, the Company issued 1,306,360 shares of its common stock on the conversion of warrants, at
$1.10 per share, resulting in proceeds of $1,436,996.
Standby
Equity Distribution Agreement
On
April 16, 2018, the Company entered into a SEDA with YA II PN.
The
SEDA establishes what is sometimes termed an equity line of credit or an equity draw-down facility. The $25,000,000 facility may
be drawn-down upon by the Company in installments, the maximum amount of each of which is limited to $1,000,000. For each share
of common stock purchased under the SEDA, YA II PN will pay 90% of the lowest VWAP of the Company’s shares during the five
trading days following the Company’s draw-down notice to YA II PN. The VWAP that will be used in the calculation will be
that reported by Bloomberg, LLC, a third-party reporting service. In general, the VWAP represents the sum of the value of all
the sales of the Company’s common stock for a given day (the total shares sold in each trade times the sales price per share
of the common stock for that trade), divided by the total number of shares sold on that day.
In
connection with the SEDA, the Company issued to YA II PN, a five-year Commitment Fee Warrant (the “Fee Warrant”) to
purchase 1,000,000 shares of the Company’s common stock at $0.01 per share. The aggregate fair value of the Fee Warrant
granted was determined to be $1,140,000 and recorded as a financing costs in the Condensed Consolidated Statements of Operations
for the three and six months ended June 30, 2018.
NOTE
12 – COMMITMENTS
Technology
License Agreement
The
Company entered into a technology license agreement with a third-party vendor for consulting services. Under the agreement, the
Company will pay the vendor a minimum consulting amount of $100,000 per year, plus a royalty of 7% of all net sales of the vendor’s
products above $1,428,571 per calendar year. For each of the three and six months ended June 30, 2019 and 2018, $41,667 and $50,000,
respectively, was recorded as research and development expense under the agreement on the Condensed Consolidated Statements of
Operations related to the minimum annual fee. A total of $108,333 and $58,333 was owed under the amended agreement at each of
June 30, 2019 and December 31, 2018, respectively.
Litigation
On
June 25, 2018, Matthew Geschke (the “Plaintiff”) filed a breach of contract case against the Company in the San Diego
Superior Court of San Diego, California, under case number 37-2018-00031350-CU-OE-NC. The Plaintiff claims damages of $335,000
for breach of an employment contract when the Company terminating the Plaintiff’s employment agreement on February 22, 2018.
The case is in the early discovery phase of litigation and no trial date has been set yet. The Company believes the case is without
merit, and intends to vigorously define this case.
On
February 15, 2019, MSCP, L.L.C (“MSCP”), filed suit in the Superior Court of Arizona, County of Maricopa, Case No.
CV2019-001613 against the Company and YLK. The case arises from YLK’s alleged breach of a certain lease agreement dated
May 19, 2018 (the “Lease”), for the lease of certain real property located at 4301 W. Buckeye Road, Phoenix, Arizona
85043 (the “Premises”), between MSCP and YLK, which the Company guaranteed. MSCP filed the lawsuit after YLK provided
a notice of termination for, amongst other reasons, MSCP’s failure to disclose various material information regarding code,
safety, structural and other issues in the Premises that rendered the Premises unsuitable for use, unless the Company undertook
significant and extraneous costs that were not contemplated under the Lease to remedy said issues in and outside of the Premises.
MSCP’s complaint alleged counts for breach of lease and waste and breach of guaranty. MSCP is seeking compensatory damages,
rents and other charges due under the lease, and attorney’s fees and costs. The Company just recently filed its answer denying
the allegations as well as having filed counterclaims for fraud in the inducement, negligent misrepresentation, breach of the
implied covenant of good faith and fair dealing, rescission of contract, unjust enrichment and punitive damages; and the Company
intends to vigorously defend this action.
No
amounts have been provided for damages, if any, resulting from early termination of the Arizona lease as such amounts are not
practicably determinable.
On
June 12, 2019, DPA, Inc., or DPA, filed suit in the Superior Court of Arizona, County of Maricopa, Case No. CV2019-008265 against
us.
The plaintiff alleges the Company breached an agreement to pay DPA for architectural
design services related to a facility in Arizona and has requested a judgment for $251,923.45 plus interest. The Company has not
filed a response yet, as the time to respond to the complaint has not passed, but the Company denies the material allegations
of this complaint and intend to vigorously defend this action.