PART
I
ITEM
1.
BUSINESS
Overview
“As water becomes ever more
scant the world needs to conserve it, use it more efficiently and establish clear rights over who owns the stuff.” –
Liquidity Crisis, The Economist, Nov 5, 2016
Since 2009, we have acquired strategic
water assets and land in the Huerfano and Cucharas river basins in southeastern Colorado, thus the name Two Rivers. In October
2016 we began to focus on monetizing our assets by investing strategically in assets that we believe offer opportunities for significant
future returns for our shareholders and by selling those assets we determine will not yield those returns. As the result of that
process, the management of water has become our core business., Our water asset total drainage area spans over 1,500 square miles
and drops in elevation from over 14,000 feet to 4,500 feet at the confluence of the Arkansas River, just east of Pueblo, Colorado.
We operate in a natural, gravity fed water alluvial, which is is the last undeveloped basin along the front range of Colorado.
As our first water-focused project, we plan to develop this basin to properly manage the water contained therein and serve the
community while providing returns to our investors. Our water development operations and strategy are described below under “─Our
Water Operations.”
Our principal investments since commencing
operations in 2009, and the status of those investments following the implementation of our monetization strategy in 2016, are
described below:
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HCIC
: From 2009 to
2010 we purchased 95% of the outstanding shares of Huerfano-Cucharas Irrigation Company, or HCIC, in a series of transactions
for $24.2 million in cash, promissory notes and Two Rivers’ common stock. HCIC is a mutual ditch company
formed in 1944, and we have used its water rights and facilities to supply some of our farmland with irrigation water. In
the future, we will use these water rights to supply water to farmland we lease to others and to implement our new water strategy.
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Additional Farmland
: From
2009 to 2011 we acquired 2,753 acres of farmland served by HCIC’s ditch system for purchase prices totaling $1.4 million
in cash and seller carry back financing. In 2012 we acquired 1,584 acres in Butte Valley for $509,000 in cash and
seller carry back financing. In 2016, we returned 187 acres of Butte Valley land back to the holder of seller carry
back financing in exchange for forgiveness on $187,000 of debt and associated accrued interest.
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Orlando
: In
2011 we acquired Orlando Reservoir No. 2 Company, LLC, or Orlando, for $3.45 million in cash, promissory notes and common
stock. Our ownership of Orlando increases the reliability of water supplies for our farmland in the Huerfano and
Pueblo river basins. We undertook a program to refurbish and restore Orlando’s diversion structure, storage
reservoirs and conveyance system. During the period from November 2011 to February 2012, we constructed new outlet
works, and in 2012 we reconstructed the diversion structure, which takes water from the Huerfano River for storage in the
Orlando reservoir and then conveyance to irrigate our nearby leased farmland. Additional renovation projects will
be completed as necessary to provide reliable water supplies for farmland we lease to others and community use.
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DFP (discontinued operations)
: In
2012 we acquired Dionisio Farms & Produce, Inc., or DFP, for $3.4 million in cash and promissory notes. DFP,
which has operated for more than 60 years, produces high-value fruits and vegetables as well as fodder crops. Through
this acquisition, we obtained 146 acres of irrigable farmland, 146 shares of the Bessemer Ditch Irrigation Company, a senior
water right holder on the main stem of the Arkansas River and 2 supplemental ground water wells. As part of the
acquisition, we entered into leases for an additional 279 irrigable acres. In late 2016, based on three years of
operational losses, we decided to sell DFP assets and wind down our produce growing and distribution business, and during
the first quarter of 2017 we sold the DFP irrigated farmland and the associated DFP produce business that no longer served
our strategic vision of water management
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GrowCo:
We formed
GrowCo, Inc., or GrowCo, in May 2014 for the purpose of constructing state-of-the-art computer controlled greenhouses to be
leased to licensed marijuana growers throughout the United States. GrowCo is not a licensed marijuana grower or
retailer. GrowCo does not “touch the plant” and only provides growing infrastructure as a landlord
for licensed marijuana grower tenants along with support and administrative services. In August 2014 we announced
we were reserving 10 million of the GrowCo shares for distribution to holders of common stock as of four record dates (January
1, 2015; April 1, 2015; July 1, 2015 and October 1, 2015) after a registration statement for GrowCo common shares has been
filed and declared effective, which has not yet occurred. Currently, GrowCo has approximately 35 million common
shares outstanding.
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Water Redev:
We
formed Water Redevelopment Company, or Water Redev, in February 2017 to separate our water assets from the rest of our business
and to enable additional raising of capital solely for the purpose of investing in our water assets. Water Redev
is a subsidiary of Two Rivers and focuses on development and redevelopment of infrastructure for water management and delivery,
as further described in “─Our Water Operations” below.
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Our
Water Operations
Colorado
allocates water based on the Prior Appropriation Doctrine, whereby water rights are unconnected to land ownership. The first person
to use a quantity of water from a water source for a beneficial use has the right to continue to use that quantity of
water for that purpose. Subsequent users can use the remaining water for their own beneficial purposes provided that they do not
impinge on the rights of previous users. Water rights can be developed, managed, purchased and sold much like real property, and
the seniority of water rights are a significant consideration when we acquire additional irrigated farmland. Water rights include
the ability to divert
stream flow
, build a
storage
reservoir, pump
ground water
and create
augmentation
water supplies to offset depletions of water taken out of priority.
Since 2009 we have acquired a portfolio
of water rights in the Arkansas River Basin in connection with our purchases of irrigated farmland. With our initial marijuana
greenhouse projects gaining traction, in the third quarter of 2016 we determined to investigate whether our water assets might
have revenue potential of their own, separate from use in irrigating our farmland, that could benefit our stakeholders, including
our shareholders and the communities near where our water assets are located.
As a result of that investigation, we made
water management our top priority. We believe there are several opportunities to capitalize on water assets that we currently
own or can acquire, in order to address serious storage and supply challenges faced by municipalities, ranches, farmlands and
other commercial enterprises in the Arkansas River Basin. In order to address these opportunities, we have identified the following
within the local communities we serve:
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We will seek to address the need for municipal water storage.
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We believe there are a variety of opportunities to lease, both short term and long term,
our water assets.
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We have identified underutilized land that, along with the water we own, can be leased
for agriculture activities.
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We plan to execute on a water supply agreement we entered into in January 2011, with a
real estate development company in Huerfano County by beginning to supply raw water for water taps.
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Our principal water rights include the
following:
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As noted in “─Overview” above, we acquired control of HCIC in order to
use its water rights and facilities to supply some of our farmland with irrigation water. The HCIC farmland became
fallow in the mid-twentieth century when coal mines in Huerfano County, Colorado, were shut down. The coal mines
had continuously pumped water from the Vermejo/Trinidad Formation, which contained a renewable underground aquifer that is
fed by Sangre de Cristo Mountains snowmelt. The U.S. Geological Service estimates that the Raton Vermejo Basin,
where we have water rights, contains an estimated 12 trillion gallons or 36 million acre-feet of relatively untapped, clean
and renewable water. HCIC owns the Cucharas and Huerfano Valley Reservoirs and two ditch systems located in Pueblo
County, Colorado. The HCIC ditch systems have the right to distribute water over approximately 30,000 acres in
Pueblo County, Colorado.
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The Orlando water rights include the senior-most direct flow water right on the Huerfano
River, or #1 priority, along with the #9 priority and miscellaneous junior water rights. The seniority of those
water rights allowed the production of crops during most of the recent drought years. The Orlando assets also include
the Orlando reservoir, which is situated on the Huerfano branch of the Huerfano River and has a storage capacity of 3,100
acre-feet.
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An acre-foot, or A.F., of water is
the amount of water required to cover one acre to a depth of one foot. An acre-foot of water contains 325,851 gallons, generally
considered enough water to supply two average households for a year. Annual irrigation in Southeastern Colorado, depending on
the crops, consumes approximately three to six acre-feet of water per acre of crop.
By
capturing water in reservoirs and releasing it later for irrigation purposes, we are able to retime the delivery of water throughout
the irrigation season and ameliorate some of the inconsistencies of seasonal and annual water availability for the farmland we
manage.
Surface
Water Rights
Tributary
ground water is any underground water that is hydraulically connected to a stream system and that influences the rate or direction
of flow in that stream system. Any new ground water diversions that are tributary to an over-appropriated stream system require
augmentation to offset out-of-priority depletions. In 2013, many well water users on the Arkansas River and its tributaries were
unable to use their wells, as drought conditions made augmentation water unavailable. In response, an augmentation provider requested
that we assist in building a more efficient and plentiful augmentation supply. We had intended to assist with an augmentation
supply, but due to capital requirements, we terminated those plans.
We
own the following surface water rights:
Structure
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Elevation
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Priority
No.
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Appropriation
Date
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Consumptive
Use (A.F.)
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Decreed
Amount (cfs)
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Butte Valley Ditch
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5,909
ft
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1
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05/15/1862
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360
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1.2
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9
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05/15/1865
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1.8
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86
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05/15/1886
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3.0
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111
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05/15/1886
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3.0
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Robert Rice Ditch
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5,725
ft
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19
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03/01/1867
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131
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3.0
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Huerfano Valley Ditch
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4,894
ft
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120
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02/02/1888
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2,891
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42.0
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342
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05/01/1905
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18.0
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“Consumptive use” is the term
for the portion of a water diversion right that is actually consumed by its beneficial use. Where the beneficial use is agricultural
irrigation, consumptive use represents the amount of water consumed by the irrigated crop or evaporated on the farm. After deducting
consumptive use from the amount of water diverted and applied to irrigation, the remainder is described as “return flow”
to the system. Such return flows are generally subject to appropriation downstream. Only the consumptive use portion of a given
water right is subject to transfer (that is, a change in the point of diversion, place of use, or purpose of use). Therefore,
water rights are often assigned monetary value based on the consumptive use portion. Although consumptive use varies by crop,
rainfall, temperature and other factors, in southeastern Colorado, crops generally consume about two acre-feet of applied water
for each acre planted, depending on the crops planted. In order to provide that amount of consumptive use water, an irrigator
must generally apply three acre-feet of water (allowing for predictable return flow equal to about one-third of the applied water).
We measure our water rights both in terms of the amount of the diversion or storage right, as the case may be, but also in terms
of the historic consumptive use.
Storage
Rights and Infrastructure
The
following table presents our holdings of storage water rights:
Structure
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Elevation
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Priority
No.
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Appropriation
Date
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Average
Annual Yield (A.F.)
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Decreed
Amount (A.F.)
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Estimate
of Current Effective Storage (A.F.)
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Huerfano Valley Reservoir
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4,702
ft
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6
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2/2/1888
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1,424
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2,017
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1,000
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Cucharas Valley Reservoir
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5,570
ft
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66
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3/14/1906
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3,055
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31,956
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Cucharas Valley Reservoir**
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5,705
ft
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66c
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3/14/1906
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34,404
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Orlando Reservoir # 2
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5,911
ft
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349
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12/14/1905
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1,800
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3,110
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1,500
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See description below regarding pending litigation.
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This
is a conditional right while the engineering and construction of structures are completed to perfect a water right, in this
case to physically store the water. The conditional right establishes a seniority date but allows time for completion of the
project. Conditional rights are reviewed every six years by the water court to confirm that progress is being made on the
effort to perfect the right. When a conditional water right is perfected, which can be done incrementally in the case of storage,
the water right becomes absolute. In addition, the Cucharas Valley Reservoir has Conditional rights to 34,404 A.F. of additional
storage.
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Two Rivers, the State of Colorado (Office
of the State Engineer and the local Division Engineer), and neighboring water rights holders have been involved in litigation
in the Colorado Division 2 Water Court concerning water rights and claims by the State concerning an existing dam in Huerfano
County, Colorado, and a demand by the State to breach the dam structure. (
Two Rivers Water and Farming Co. vs. Welton Land
and Water Co
., (Pueblo Water Court)). As part of the litigation, Two Rivers has sought to have certain water rights
demands by the neighboring water rights holders deemed wasteful. We also intend to work with the Colorado State Engineer
to construct a new dam close to the prior dam structure, pending financing. In the quarter ending March 31, 2016, Two Rivers
entered into a stipulation agreement with the State, settling the State's claims, whereby Two Rivers agreed to take the existing
dam structure down to the sediment level by March 31, 2018. Two Rivers has been able to empty all the water in the Dam,
but it will not be able to meet the requirements of the stipulation agreement by March 31, in part due to lack of capital. On
April 3, 2018, Two Rivers was notified that the State had filed a motion for the issuance of a contempt of court citation based
upon its failure to comply with the consent decree by March 31, 2018. Two Rivers intends to defend against the sanctions
sought in the contempt motion, based in part upon those sanctions being unnecessary and unduly punitive. A hearing has been
set for the contempt proceedings on May 10, 2018.
As
part of our comprehensive water system we utilize storage reservoirs and ditches. Reservoirs allow water owners to store their
water and plan the water’s distribution throughout the growing season. We currently own reservoirs associated with HCIC
and Orlando. The development and improvement of storage reservoirs in the area will allow us to offer storage to other water users
in the area for a storage leasing fee. Through water exchanges and other water-related transactions, the reservoirs can potentially
increase and strengthen our existing water rights.
All
of our reservoirs are used for irrigation in a similar manner to other reservoirs in the region, with the exception of Pueblo
Reservoir, which was also constructed for flood control. Direct flow rights generally are senior to most storage rights but typically
do not divert early in the spring when storage rights fill. The Arkansas River below Pueblo Reservoir operates a Winter Storage
Program that re-allocates winter direct flow rights to storage in reservoirs from November 15 to March 15 each year.
Because
our water rights and operating structures are located at succeeding elevations in the watershed, the system moves water supplies
from point of diversion, through storage, to place of use primarily by means of gravity, making our more economical to operate
than systems requiring energy to pump water for beneficial use.
In
order to use these rights and structures most efficiently, we have planned and begun to implement a program of renovation and
integration. For example, we began construction of new outlet works for the 1905 Orlando Reservoir in November 2011. The work
was completed and successfully tested in February 2012, approximately a year after we acquired Orlando. Also in February 2012,
we commenced reconstruction of the diversion structure, which takes water from the Huerfano River for storage in the Orlando reservoir,
and to irrigate our nearby farmland. Additional water facility renovation projects are planned on a phased basis as necessary
to provide reliable irrigation for agricultural operations and eventually commercial use.
We
currently have the operable right to store 5,000 acre-feet of water within the Huerfano and Cucharas Rivers watershed in three
separate reservoirs, subject to repair, or removal and rebuilding, limitations. When our reservoirs on the Huerfano and Cucharas
Rivers have been fully restored, we will have the operable capacity and legal right to store in excess of 70,000 acre-feet of
water. Similarly, based on our portfolio of water rights, we have the right to divert from the natural flows of the two rivers
in excess of 90 cubic feet per second. Seasonal variability in the natural flow of the rivers, as well as the priorities of other
water users in the system, limits our ability to divert the decreed amounts of water on a continuous basis. Our current water
rights produce a long-term average annual diversion of 15,000 acre-feet of water.
The
15,000 acre-feet average is based on a record period of more than 50 years and also relies on historic studies of these rights
by a variety of engineers at various times. It is common practice within the water industry in Colorado to use long periods of
time to create reliable averages of water flow. We believe that using averages relating to only recent years can be misleading
because an average could be skewed if only one of those years was particularly dry or wet. For example, in three out of the last
ten years, there has been an extreme drought in our area of operations. Due to this drought condition, our flow averages for the
most recent ten, five and three years are 8,200 acre-feet, 10,500 acre-feet and 10,400 acre-feet, respectfully. A similar request
for the same averages for the decade beginning in 1980 would result in averages of 5,900 acre-feet, 18,500 acre-feet and 17,200
acre-feet. During 2017, which was a wet year, an estimated 50,000 acre-feet flowed through the Cucharas dam site. Normal flow
through the Cucharas is approximately 22,000 acre-feet per year.
New
Strategic Initiative
With
our initial marijuana greenhouse projects gaining traction, in the third quarter of 2016 we determined to investigate whether
our water assets might have revenue potential of their own, separate from use in irrigating farmland, that could benefit our stakeholders,
including our shareholders and the communities near where our water assets are located. On September 30, 2016, our board of directors
established a board-level task force to identify opportunities for our existing water assets, and perhaps acquired water assets.
As a result of that investigation, water is a new top-priority for our Company.
Based
on findings from our water task force, we believe we have several opportunities to capitalize on water assets that we currently
own or can acquire, in order to address serious storage and supply challenges faced by municipalities, ranches, farmlands and
other commercial enterprises in the Arkansas River Basin. In order to address these opportunities, we have identified the following:
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We
will seek to address the need for both agricultural and municipal water storage. As discussed in the 2015 Colorado Water Plan
and its Executive Summary Colorado has set a goal of attaining and additional 400,000 acre feet of storage by 2050. (Board)
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We
believe there are a variety of opportunities to lease, both short term and long term, our water assets.
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We
have identified underutilized land and water that we own that could be used to lease to agricultural operators including growers
of marijuana and hemp.
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In
January 2011, we entered into a water supply agreement to supply water resources for real estate development in Huerfano County,
Colorado. In late 2018 we intend to begin the development and legal process to begin to deliver raw water to this development.
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Our
Greenhouse Operations
With the legalization of recreational marijuana
usage in Colorado in 2012, we identified the potential use of certain of our farmland for lease to licensed marijuana growers.
In May 2014, we formed GrowCo to focus and lead our efforts to take advantage of the rapidly growing demand for marijuana, both
medical and recreational, within the state of Colorado.
Presently the majority of Colorado marijuana
is grown in converted warehouses. Sophisticated growers understand that a warehouse production facility is not the most ideal
for production. This has given rise to a strong demand for greenhouse space for marijuana production. Early estimates show a greenhouse
can produce at least twice the amount of product at less than 50% of the cost compared to warehouse production. However, there
are only a limited number of counties in Colorado that allow for new greenhouse construction. New construction needs to be tied
to water supply. Pueblo County, where we have the majority of our land and associated water rights, allows for new greenhouse
construction for lease to marijuana growers.
GCP1 – First Greenhouse
On January 20, 2015, GrowCo Partners 1,
LLC, or GCP1, completed a $4.4 million financing for the first greenhouse project, which consists of a 90,000 square foot greenhouse
and 15,000 square foot processing and warehouse facility on 40 acres of land. TR Capital and GrowCo own all of the outstanding
common shares of GCP1, and GCP Super Units and financial investors own all of the outstanding preferred shares of GCP1.
The first greenhouse facilities were leased
to Suncanna, LLC, or Suncanna, and were occupied in September 2015 with lease revenue accrued beginning September 1, 2015. In
2016, the Suncanna lease arrangement was the subject of administrative and judicial proceedings:
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On April 14, 2016 we were notified that Suncanna had received a notice
of suspension from the Marijuana Enforcement Division of the Colorado Department of Revenue. This suspension remains
in place until a hearing.
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This suspension, in addition to non-payment of back due lease payments
owed, caused Suncanna to be in violation of its lease with GCP1. On April 25, 2016, GCP1 terminated Suncanna’
s lease and began an eviction process against Suncanna. Due to the eviction process, during the first quarter of
2016, we wrote off $743,000 in Lease Revenues – Related Party and $587,000 in advances to Suncanna and we did not recognize
any Lease Revenues – Related Party. During the nine months ended September 30, 2016, we recognized $25,000
in greenhouse lease revenue from a payment received from Suncanna in early April 2016. The total write off of $1.330
million was partially offset by a $350,000 reduction in the amount owed to GCP1 preferred unit holders. On July
22, 2016 GCP1 received a Writ of Restitution from the Pueblo County Colorado District Court ordering Suncanna to vacate the
greenhouse by September 6, 2016.
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On August 31, 2016 a lawsuit was filed by Aaron Van Wingerden, owner
of Suncanna, in Pueblo County Colorado District Court against GrowCo, GrowCo Business Development, LLC, GCP1, GrowCo Funding,
LLC, TR Capital, Two Rivers and certain current and former employees, and associates. We believe that the suit
has no merit and will have no material impact on our financial condition.
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On September 6, 2016, in accordance with the Writ of Restitution,
Suncanna vacated the greenhouse and GCP1 took possession and began re-conditioning its greenhouse for a new tenant, which
began growing operations in December, 2016.
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On October 27, 2016, in a contempt of court hearing, a Pueblo County
Colorado District Court judge ruled in favor of plaintiff Aaron Van Wingerden and against GCP1 in a matter regarding the prevention
of Suncanna’s access to GCP1’s greenhouse prior to Suncanna vacating the premises on September 6, 2016. We
believe that this ruling was in error and are appealing this decision.
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Pending the eviction of Suncanna, on August
4, 2016 GCP1 entered into a lease agreement with a related party Johnny Cannaseed, LLC, or Johnny Cannaseed, which is owned predominantly
by our former Chief Executive Officer John McKowen. Under the terms of the lease, one half of the GCP1 greenhouse was sublet to
a licensed marijuana grower on December 1, 2016. The second half of the greenhouse was leased to a second licensed marijuana grower
on March 1, 2017. At December 31, 2016 we had recorded lease receivables of $240,000 from Johnny Cannaseed.
Johnny Cannaseed was not able to obtain
a license to grow marijuana. Therefore, Johnny Cannaseed subleased, with the approval of GCP1’s board, to two tenants. In
2017 GCP1 expended $308,000 to divide the greenhouse into two areas referred to as GCP1-1 and GCP1-2. As reported by Johnny Cannaseed,
for 2017 the GCP1-1 tenant paid to Johnny Cannaseed $620,000, which in turn was paid to GCP1. The GCP1-2 tenant did not pay any
rent and was subsequently evicted by Johnny Cannaseed. Johnny Cannaseed has advised us it is seeking to collect back due rent
from the GCP1-2 tenant. GCP1 is working with Johnny Cannaseed on how funds will be shared, if any collection occurs. For 2017
our consolidated income only recognizes the actual rent received of $620,000.
GCP2, LLC – Second Greenhouse
Our second greenhouse project is being
developed by GrowCo Partners 2, LLC, or GCP2, a subsidiary of GrowCo, with the intention of leasing to licensed marijuana growers.
This project will consist of a 90,000 square foot greenhouse, a 15,000 square foot processing and warehouse facility, and an extraction
facility on 40 acres of land within our Pueblo grow complex. The GCP2 greenhouse structure was ordered in 2015 and construction
began in January 2016. During 2016 and 2017, GCP2 raised capital for completion, but has additional capital to raise before GCP2’s
greenhouse can be completed, which completion is unknown, subject to additional capital to be raised. Our construction costs for
the GCP2 greenhouse totaled $3.4 million through December 31, 2017. We estimate that an additional expenditure of $3.0 million
will be required to complete construction. For a summary of financing activities in connection with the GCP2 greenhouse, please
see “—Liquidity and Capital Resources”.
On August 4, 2016 GCP2 entered into a lease
agreement with Johnny Cannaseed. Under the terms of that agreement, rent will begin when the greenhouse is completed and ready
for occupancy. If Johnny Cannaseed remains without a license to grow marijuana, then it is anticipated that Johnny Cannaseed and
GCP2 will terminate the lease and obtain another grower or growers for the GCP2 facilities.
Our
Organizational Structure
Since
commencing operations as a farming and water company in 2009, we have built an organizational structure that enabled us to raise
capital for specific projects completed by our direct and indirect subsidiaries.
In January 2014, the board of directors approved
a plan to reorganize our subsidiaries in a more integrated manner based on functional operations. We formed TR Capital Partners,
LLC or TR Capital, which issued all of its common units to the Two Rivers. In a series of transactions from January
to September 2014, TR Capital entered into Membership Interest Purchase Agreements pursuant to which it issued and sold a total
of 30,158,815 preferred units to investors in exchange for consideration comprised of $6.0 million in cash and $18.9 million of
outstanding equity and equity-related securities of our subsidiaries other than HCIC Holdings, LLC and Huerfano-Cucharas Irrigation
Company.
The
TR Capital Partners Limited Liability Company Agreement dated as of January 31, 2014 provides that holders of preferred units
generally will be entitled to receive distributions each fiscal year in an amount equal to the lesser of (a) 12% of the preferred
unit holders’ aggregate capital contributions and (b) TR Capital’s Adjusted Gross Margin (as defined) for such fiscal
year. Regardless of TR Capital’s operating results, however, preferred unit holders are entitled to a minimum distribution
for each full fiscal year equal to 8% of their aggregate capital contributions, payable in equal quarterly installments. If TR
Capital’s Adjusted Gross Margin for a fiscal year is less than 12% of the preferred unit holders’ aggregate capital
contributions, the shortfall will not be payable in any subsequent fiscal year. Distributions for fiscal year 2014 for each preferred
unit were prorated for the portion of the year that the preferred unit was outstanding.
Pursuant to an Exchange Agreement dated
as of January 31, 2014 entered into with TR Capital and Two Rivers, any holder may surrender a TR Capital preferred unit to Two
Rivers at any time for consideration consisting of (a) accrued but unpaid preferred distributions on the preferred unit through
the exchange date, (b) one share of common stock and (c) a warrant to purchase an additional one-half share of common stock at
a price of $2.10 per share. TR Capital may require (with limited exceptions) each of its outstanding preferred units to be surrendered
to Two Rivers in exchange for such consideration at any time after January 31, 2017, at which (1) for a period of 20 trading days,
at least 250,000 shares of common stock have been traded on a national securities exchange for a closing price of at least $3.00
and (b) a registration statement filed by us with the SEC is effective with respect to the shares of common stock, including shares
purchasable pursuant to warrants, issuable upon such exchanges. Each warrant issued upon any such exchange generally will be exercisable
at any time on or before January 31, 2019, subject to our right to redeem the warrant at any time after January 31, 2017, at which
(A) for a period of 20 trading days, at least 250,000 shares of common stock have been traded on a national securities exchange
for a closing price of at least $3.00 and (B) a registration statement has been filed and is effective with respect to the
shares of common stock issuable pursuant to such warrant. Under the Exchange Agreement, Two Rivers also granted holders of preferred
units one-time demand registration rights under which Two Rivers may be required to file a registration statement covering shares
of common stock (including shares subject to warrants) issued or issuable upon exchanges of TR Capital preferred units. As of
March 21, 2017, Two Rivers could be required under Two Rivers to issue and deliver to holders of outstanding TR Capital preferred
units, upon exchange, up to 29,963,378 shares of common stock together with warrants to purchase up to an additional 14,168,944
shares of common stock. If Two Rivers receives any TR Capital pursuant to exchanges under the Exchange Agreement, it would be
entitled to receive distributions on those preferred units pro rata with other holders of preferred units.
Following the completion of those transactions
in September 2014, TR Capital and Two Rivers’ other direct and indirect subsidiaries (excluding HCIC Holdings, LLC
and HCIC) entered into a series of related transactions as the result of which control and operation of those other subsidiaries
and their businesses transferred to TR Capital, which is the operational division of Two Rivers. On February 16, 2017, Two Rivers’
formed Water Redevelopment Company, a Delaware Corporation. The following chart shows a high level view of our corporate organization
as of March 30, 2018. For a more detailed description of ownership structure please refer to exhibit 21.1 filed herewith.
Corporate
Information
Two Rivers’ is a Colorado corporation
with principal executive offices at 3025 S Parker Rd, Suite 140, Aurora, Colorado, 80014 and our telephone number at that address
is (303) 222-1000. Our website address is
www.2riverswater.com
. The information on our website is not part of this report.
Competition
Water
The
rights to use water in Colorado have been fully appropriated to beneficial uses (such as agriculture irrigation and municipal
and industrial applications) under court decrees and state regulation according to the prevailing Prior Appropriation Doctrine
in which more senior (older) water rights take precedence in times of shortage over junior (newer) water rights. Notwithstanding
significant conservation, growth in Colorado with related incremental demands for water has made the rights to divert, convey,
store and use water relatively scarce and valuable. There is significant competition for the acquisition and beneficial use of
historic water rights. Many competitors for the acquisition of such rights have significantly greater financial resources, technical
expertise and managerial capabilities than we do and, consequently, we could be at a competitive disadvantage in assembling, developing
and deploying water assets required to support our businesses. Competitors’ resources could overwhelm our efforts and cause
adverse consequences to our operational performance. To mitigate such competitive risks, we concentrate our efforts in the Huerfano
and Cucharas Rivers watershed where our local knowledge and control of a portfolio of water rights, storage facilities, distribution
canals and productive farmland creates a somewhat protected geographic niche. To further mitigate competitive risk, we strive
to actively engage with both the farming and municipalities in southeastern Colorado to explore strategies for cooperatively addressing
challenges and opportunities faced by those communities—particularly to address the 130,000 acre-foot shortfall in water
supplies on the Front Range, without taking valuable farmland out of production.
Leasing
There are a significant number of providers
of facilities to lease to cannabis growers. Some are better capitalized than GrowCo. A significant portion of the facilities offered
for lease are enclosed, warehouse space. Through GrowCo’s development of state-of-the-art greenhouses, GrowCo believes that
it offers a competitive advantage to lessees of warehouse space in terms of increased production (estimated to be three times
the growth) and a significantly reduced cost of production (estimated at one-third the cost). Therefore, GrowCo’s main leasing
competition are other greenhouse structures offered to lease to cannabis growers. While there could be other large greenhouses
for marijuana growing operations, ee are aware of only one other similar size greenhouse in the front range of Colorado. This
facility is owned by the same owners of medical and retail outlets. Therefore, they are only growing product for their consumption.
There are numerous other small greenhouses and others that are planned, which may be competition for our greenhouses.
Regulation
Water
Background
The
right to water in Colorado is a right that can be developed, managed, purchased or sold much like real property subject to appropriate
regulation. Water rights are judicially decreed and, under Colorado’s application of the Prior Appropriation Doctrine (“first
in time, first in right”), senior water right holders are entitled to the beneficial use of water prior to junior holders.
Consequently senior water rights are more consistent, reliable and valuable than junior rights, which may be interrupted, or “called
out” in the parlance of Colorado water administration.
Along
the Front Range of Colorado, water is a scarce and valuable resource. Natural precipitation varies widely throughout the year
and from one year to another. Rivers, which fill, and sometimes flood, with the spring melt from the mountain snowpack, may be
refreshed only with the occasional thunderstorm in the heat of the summer growing season. Annual precipitation also varies between
surplus and drought. Additionally, the large majority of Colorado’s population resides on the Front Range (east of the Continental
Divide) while the large majority of the state’s precipitation falls on the Western Slope (west of the Divide). Over time,
many communities, farms and enterprises developed trans-mountain diversions to bring more water to the Front Range. Precipitation
on the Front Range, and water diverted from the Western Slope, drain to the Mississippi River through the South Platte and Arkansas
Rivers. Water on the Western Slope drains through the Colorado River. All of the state’s rivers are administered pursuant
to interstate compacts with neighboring states. As a result of the variability of Colorado’s hydrology, its arrangements
for diversions, storage and beneficial use, and its obligations to downstream states, Colorado has developed an integrated and
complex water rights administration system.
In
Colorado and the Western United States, the right to use water is based on the Prior Appropriation Doctrine, which is often referred
to as “first in time, first in right.” Under this doctrine, water use is allocated to satisfy the oldest (“most
senior”) water right before water is allocated to the next water right in historic chronology (a “junior water right”
in comparison to a water right perfected earlier). Moreover, in Colorado, water rights and their relative priorities are protected
by judicial decrees and are administered by the Office of the State Engineer, or the State Engineer, within the Colorado Department
of Water Resources. The ability to consistently irrigate farmland, and thus avoid the inconsistencies of rainfall, is therefore
tied to the relative seniority of historic water rights. Two Rivers is focused on developing irrigated farmland and maximizing
beneficial use of the water rights associated with that farmland.
To
manage water uses according to the Prior Appropriation Doctrine, Colorado maintains both judicial oversight through regional water
courts and administrative oversight through the State Engineer. Water rights claims are filed in the court, adjudicated as necessary
to resolve any adverse claims, and then decreed though an enforceable judgment. The State Engineer is charged with administering
the accorded priorities among the various water rights in each of the state’s river systems.
Colorado
water law further recognizes two distinct but related prior appropriative rights: direct diversion rights and storage rights.
Direct diversion rights permit a user in priority to divert water directly from the river for immediate beneficial use (such as
irrigation); storage rights permit a user in priority to divert water from the river and impound the water in a reservoir to re-time
the water for later beneficial use. Thus, in Colorado, a direct diversion right must be conveyed to an immediate use; it cannot
be stored without a storage right. As a result, both types of appropriative rights are often paired, when possible, so that in
priority diversion rights can be re-timed through the exercise of a companion storage right to address seasonal and year-to-year
variability in natural supplies. The older the appropriation date of any water right, the more reliable is its yield; similarly,
the more effectively a senior diversion right is paired with a senior storage right, the more reliable each becomes.
Administration
of Water Rights
In
addition to the intra-state administration of water flowing in its rivers, Colorado also has inter-state water administration
responsibilities because each of its major rivers (the Colorado, the North Platte and the Arkansas) is governed as well by interstate
compacts with downstream states. These compacts are subject to judicial review, interpretation and enforcement under the original
jurisdiction of the U.S. Supreme Court to resolve disputes among the states. In 1948, Colorado and Kansas reached an agreement
that apportioned the water of the Arkansas River; Colorado was apportioned 60% of the water while Kansas is apportioned 40% of
the River’s flow. In order to comply with Colorado’s obligations under the Arkansas River Compact, therefore, water
rights on the Arkansas and its tributaries (including the Huerfano and Cucharas Rivers) are administered to assure the compact-required
water flows at the Colorado-Kansas state line. When necessary, Colorado’s in-state uses are curtailed, in reverse order
of priority, to assure compliance with the compact.
The
interstate compacts (beginning with the Colorado River Compact of 1922) increased Colorado’s need to manage its apportioned
water to meet the needs of its growing population along the Front Range. Trans-basin diversions (primarily tunnels and canals)
were developed, under the Prior Appropriation Doctrine, to divert water from one watershed for conveyance to and use in another.
Mainly, water from the Colorado River Basin, west of the Continental Divide, was diverted east to meet the water needs along the
earlier developing Front Range by so-called “conservancy districts”. These projects began in the 1930’s and,
although many have been in operation for decades, some remain incomplete. Increasingly, further trans-basin diversions are limited
not only by competing appropriative water rights in the basins of origin but also by increasingly stringent environmental restrictions.
Stymied
in their attempts to import additional surface water from distant watersheds, some municipalities and water providers began to
rely on inherently unsustainable ground water “mining” (depleting aquifers for current consumption at a rate in excess
of the rate at which natural recharge occurs). After decades of such ground water mining, many of the aquifers on the Front Range
have been severely depleted. Some municipalities also purchased farms with water diversion rights and then ceased irrigating the
farmland, transferring the water to their urban uses. Because neither the practice of ground water mining nor the practice of
“buying up and drying up” farmland is sustainable, Colorado law has placed limits and regulations on both practices.
Recognizing
the need for additional water sources along the Front Range, the Colorado Water Conservation Board published its
2050 Municipal
and Industrial Gap Analysis
in 2011
.
This report estimates that the Arkansas and South Platte Basins (essentially the
Front Range) will have a combined average annual supply shortage of 130,000 acre-feet of water by 2050. The difficulty and expense
of incremental trans-mountain diversions coupled with the unsustainability of ground water mining and agricultural-to-urban transfers—as
documented by the Colorado Water Conservation Board—motivates Front Range water purveyors to address the projected gap and
to identify and develop inherently scarce renewable sources of water.
As
early as 2005, the Colorado General Assembly created basin roundtables to convene regional water purveyors to address the looming
municipal supply gap. The roundtables were charged to identify “projects and methods to meet the consumptive and non-consumptive
needs of the basin.” (Colorado House Bill 05-1177). The potential solutions include Identified Plans and Process or IPPs,
Conservation, New Supply Development, and Alternatives to Agricultural Transfers.
The
Arkansas River Basin Roundtable has only a few IPPs to meet the water supply gap identified in its basin. The most significant
of the Arkansas Basin IPPs is the Southern Delivery System, an $800 million, 62-mile water supply pipeline and associated pumping
plants currently under construction by a consortium of four regional water purveyors including Colorado Springs. These purveyors
will use a portion of the capacity in the Southern Delivery System to transport water made available to each of them under their
respective contracts with the U.S. Bureau of Reclamation. The Southern Delivery System connects the U.S. Bureau of Reclamation’s
Pueblo Reservoir on the Arkansas River, the point of delivery under the U.S. Bureau of Reclamation contracts, with the purveyors’
service areas
In
order to address a portion of the identified gap between forecast supply and demand within the Arkansas Basin and to provide a
substitute source of water for Front Range communities that are too reliant on depleted ground water aquifers, the design and
planning for the Southern Delivery System anticipate that other water purveyors will subscribe for pipeline capacity to transport
renewable water supplies to their service areas.
Leasing
to Cannabis Growers
As
of December 31, 2017, 29 states and the District of Columbia allowed their residents to use medical marijuana and voters in the
States of Colorado, Washington, Oregon, Alaska, California, Nevada, Maine, Massachusetts and the District of Colombia have approved
and implemented regulations to legalize cannabis for adult use.
These
state laws are in conflict with the Federal Controlled Substances Act, which classifies marijuana as a Schedule I controlled substance
and makes marijuana use and possession illegal on a national level. The U.S. Supreme Court has ruled that the federal government
has the right to regulate and criminalize marijuana, even for medical purposes, and thus federal law criminalizing the use of
marijuana preempts state laws that legalize its use. The Trump administration has made numerous statements indicating that it
is not an efficient use of resources to direct federal law enforcement agencies to prosecute those lawfully abiding by state-designated
laws allowing the use and distribution of medical marijuana. However, the Trump administration could change its policy regarding
the low-priority enforcement of federal laws and the succeeding administration could decide to enforce the federal laws more stringently.
The
development of the GrowCo business model of constructing and leasing greenhouse space to licensed marijuana growers in states
where growing marijuana is legal is dependent on Colorado marijuana laws remaining in force and federal laws not being enforced.
If Colorado marijuana laws were not to remain in force or if federal marijuana laws were to be enforced, then GrowCo greenhouses
could be used to grow organic fruits and vegetables, in which case we estimate the cash flow to GrowCo would decrease by approximately
75% but would still be positive.
Employees
At
March 21, 2018, we had three full-time employees, of which two are employed at our Aurora headquarters and one works remotely
from Pueblo and Huerfano County area as our ditch manager. None of our employees are covered by a collective bargaining agreement.
We consider our relationship with our employees to be good.
Available
Information
We
file reports with the SEC, which we make available on our website free of charge. These reports include annual reports on Form
10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to such reports, each of which is provided on
our website as soon as reasonably practicable after we electronically file it with the SEC. You can also read and copy any materials
we file with the SEC at the SEC’s Public Reference Room at 100 F Street, N.E., Washington, DC 20549. You can obtain additional
information about the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. In addition, the SEC maintains
a website (http://www.sec.gov) that contains reports, proxy and information statements, and other information regarding issuers
that file electronically with the SEC, including us.
Item
1A. Risk Factors
Investing
in the common stock involves a high degree of risk. Before you decide to invest in the common stock, you should carefully consider
the risk described below. The following risks are not the only ones facing our company. Additional risks and uncertainties may
also impair our business operations. If any of the risks described occurs, our business, financial condition, results of operations
and future growth prospects could be harmed. In these circumstances, the market price of the common stock could decline, and you
may lose all or part of your investment.
Risk
Factors Relating to Our Business
We
can give no assurance of success or profitability to investors.
There is no assurance that we will generate
revenues or profits. We have not been profitable in the past and had an accumulated deficit of $97 million as of December 31,
2017. We incurred net losses from continuing operations before taxes (excluding results from discontinued operations) of $5.7
million in 2016 and $11.7 million in 2017.
Our
success will depend, to a large degree, on the expertise and experience of our sole executive officer.
Effective January 17, 2018, the board of directors
appointed Wayne Harding, our Chief Executive Officer, to also serve as our interim Chief Financial Officer. Mr.
Harding is our sole executive officer. Our success in identifying investment opportunities and pursuing and managing such investments
will be, to a large degree, dependent upon Mr. Harding’s expertise and experience and his ability to attract and retain
quality personnel. We do not maintain a key person life insurance policy on Mr. Harding. The loss of Mr. Harding would significantly
delay or prevent the achievement of our business objectives. If Mr. Harding is unable or unwilling to continue his employment
with us, we may not be able to replace him in a timely manner and we will have no executive personnel with experience operating
our company. We may incur additional expenses to recruit and retain qualified replacements.
Our
current management resources may not be sufficient for the future, and we have no assurance that we can attract additional qualified
personnel.
There
can be no assurance that the current level of management is sufficient to perform all responsibilities necessary or beneficial
for management to perform. Our success in attracting additional qualified personnel will depend on many factors, including our
ability to provide them with competitive compensation arrangements, equity participation and other benefits. There is no assurance
that we will be successful in attracting highly qualified individuals in key management positions.
Any
default on mortgages relating to our water and greenhouse development could have a material impact on our farming business.
Our
water rights and facilities owned by our subsidiary GrowCo are subject to mortgages. If we default on a mortgage, we could lose
the underlying assets. Currently there is a complaint filed against GrowCo from a large holder of GrowCo’s $4 million secured
note for non-payment.
The
adequacy of our water supplies depends upon a variety of uncontrollable factors.
The
adequacy of our water supplies for farmland leased to others and municipalities varies from year to year depending upon a variety
of factors, including:
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rainfall,
runoff, flood control and availability of reservoir storage,
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availability
of water in the Arkansas River watersheds,
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the
amount of useable water stored in reservoirs and ground water basins,
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the
amount of water used by our customers and others,
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water
quality, and
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legal
limitations on production, diversion, storage, conveyance and use.
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Population
growth and increases in the amount of water used in urban areas have caused increased stress on surface water supplies and ground
water basins.
We
obtain our water supply from the Cucharas and Huerfano Rivers. Our water supply and storage may be subject to interruption or
reduction if there is an interruption or reduction in water supplies available to us. Our supply and storage business is dependent
upon our ability to meet the requirements of the Colorado Water Engineer’s office regarding our water rights priorities.
Water
shortages may:
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adversely
affect our supply thereby limiting our revenue, or
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adversely
affect our operating costs, for instance, by increasing the cost to purchase or lease required water if we are obligated to
supply water under a lease agreement.
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Our
water rights may not yield full flow every year.
Water
rights in Colorado are subject to the Prior Appropriation Doctrine, which accords lower priority to junior water rights. Water
rights that are senior (such as our Butte Valley Ditch Right Number 1 dating from 1862) have priority over junior rights (such
as our Huerfano Valley Ditch Right Number 342 dating from 1905) as to use in dry years, and junior rights may not get water or
as much water as they wish, if senior rights use it all.
We
may be subject to periodic litigation and other regulatory proceedings. These proceedings may be affected by changes in laws and
government regulations or changes in the enforcement thereof.
From time to time, we may be involved in lawsuits
and regulatory actions relating to our business, certain of which may be in jurisdictions with reputations for aggressive application
of laws and procedures against corporate defendants. Some of these actions have the potential for significant statutory penalties,
and compensatory, treble or punitive damages. For example, on April 3, 2018, Two Rivers was notified that the State of Colorado
had filed a motion for the issuance of a contempt of court citation based upon its failure to comply with a consent decree to
bring the Cucharas #5 reservoir down to silt level by March 31, 2018. Moreover, our greenhouse business in particular is subject
to numerous federal laws that are in conflict with the State of Colorado and local regulations, and a significant change
in enforcement of federal laws could have a material adverse effect on our ability of our tenants to operate the greenhouses and
litigation costs and results of operations. Due to the inherent uncertainties of litigation and regulatory proceedings, we cannot
accurately predict the ultimate outcome of any such proceedings. An unfavorable outcome could have a material adverse impact on
our business, financial condition, and results of operations. In addition, regardless of the outcome of any litigation or regulatory
proceedings, these proceedings could result in substantial costs and may require that we devote substantial resources to defend
our company. Further, changes in governmental regulations where we operate could have adverse effects on our business and subject
us to additional regulatory actions. For a detailed list and explanation of legal proceedings, please refer to the Legal Proceedings
section herein.
We
are required to maintain water quality standards and are subject to regulatory and environmental risks.
We
face the risk that our water supplies may be contaminated or polluted whether through our error or through actions by other agents
or through acts of God. In addition, normal farming practices, including the application of pesticides, herbicides and fertilizers,
introduce pollutants to waterways through irrigation water runoff. Improved detection technology, increasingly stringent regulatory
requirements, and heightened consumer awareness of water quality contribute to an environment of increased risk with the possibility
of increased operating costs. We cannot assure you that in the future we will be able to reduce the amounts of contaminants in
our water to acceptable levels.
Our
water supplies are subject to contamination, including contamination from naturally occurring compounds, pollution from man-made
sources and intentional sabotage. We cannot assure you that we will successfully manage these risks, and failure to do so could
have a material adverse effect on our future results of operations. We may not be able to recover the costs associated with these
liabilities through our sales or insurance or such recovery may not occur in a timely manner.
The
water business is heavily regulated and, as a result, decisions by regulatory agencies and changes in laws and regulations could
significantly affect our business.
Regulatory
decisions may impact prospective revenues and earnings, affect the timing of the recognition of revenues and expenses, may overturn
past decisions used in determining our revenues and expenses and could result in impairment of goodwill. Management continually
evaluates the assets, liabilities and revenues and provides for allowances and/or reserves as deemed necessary.
We
may also be subject to fines or penalties if a regulatory agency determines that we have failed to comply with laws, regulations
or orders applicable to our water businesses.
Regulatory
agencies may also change their rules and policies, which may adversely affect our profitability and cash flows. We may also be
subject to fines or penalties if a regulatory agency determines that we have failed to comply with laws, regulations or orders
applicable to our water businesses. The water rights we control provide significant legal and pecuniary benefits. Any change in
Colorado law that affects water rights, either in general or specific to our company, could likely have a material impact on us.
We
operate in a highly competitive industry and potential competitors could duplicate our business model.
We
are involved in a highly competitive industry where we compete with numerous other companies who offer similar facilities to lease
to those we offer. There is no aspect of our business, which is protected by patents, copyrights, trademarks, or trade names.
As a result, potential competitors could duplicate our business model with little effort. Some of our potential competitors may
have significantly greater resources than we have, which may make it difficult for us to compete. There can be no assurance that
we will be able to successfully compete against these other entities.
Our
operations are geographically concentrated within Colorado.
Our
operations are concentrated in Southeastern Colorado. As a result, our financial results are subject to political impacts, regional
weather conditions, available water supply, available labor supply, utility cost, regulatory risks, economic conditions and other
factors affecting Colorado, our area of operation. Southeastern Colorado has been hard hit by the on-going economic crisis. Colorado
is raising taxes in order to balance the state budget and jobs may be lost to other states which are perceived as having a more
business friendly climate, thereby exacerbating the impact of the financial crisis in Colorado.
We
have substantial competitors who have an advantage over us in resources and management.
Most
of our competitors in the water resource management business have significantly greater financial resources, technical expertise
and managerial capabilities than us and, consequently, we may be at a competitive disadvantage in identifying and developing or
exploring suitable business opportunities and/or acquisitions. Competitors’ resources could overwhelm our restricted efforts
and adversely impact our operational performance.
The
inability to attract and retain qualified employees could significantly harm our business.
The
market for skilled executive officers and employees knowledgeable in water rights is highly competitive and historically has experienced
a high rate of turnover. Competition for quality officers and employees may lead to increased hiring and retention costs.
Additional
Risk Factors Relating to Our Greenhouse Business
Our
proposed greenhouse leasing business is dependent on state laws pertaining to the marijuana industry.
Continued
marijuana industry operations are dependent upon continued legislative authorization 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 is public
support for legislative support of marijuana laws, numerous factors could impact the legislative process. As of December 31, 2017,
29 states, the District of Columbia, Guam and Puerto Rico allowed their residents to use medical marijuana and voters in the States
of Colorado, Washington, Oregon, Alaska, California, Nevada, Maine, Massachusetts and the District of Columbia had approved and
implemented regulations to legalize 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. More stringent enforcement of Federal law, as described
below under “—Marijuana remains illegal under federal law,” could cause the greenhouse leases to be terminated,
or even to be confiscated by the Federal government. If the greenhouses can no longer be used for marijuana production, we plan
to use the greenhouses for production of organic fruit and vegetables. This potential change of use would significantly reduce
the return of the capital invested in the greenhouses.
Marijuana
remains illegal under federal law.
Despite
the development of a legal marijuana industry under the laws of certain states, these state laws legalizing medical and adult
cannabis use are in conflict with the Federal Controlled Substances Act, which classifies marijuana as a Schedule-I controlled
substance and makes marijuana use and possession illegal on a national level. The United States Supreme Court has ruled that it
is the federal government that has the right to regulate and criminalize marijuana, even for medical purposes, and thus federal
law criminalizing the use of marijuana preempts state laws that legalize its use. On January 4, 2018, U.S. Attorney General Jeff
Sessions issued a written memorandum rescinding previous federal guidance to the effect that it was not an efficient use of resources
to direct federal law enforcement agencies to prosecute those lawfully abiding by state-designated laws allowing the use and distribution
of medical marijuana. The memorandum redirected U.S. prosecutors to enforce the Federal Controlled Substances Act. It is unclear
at this time how strongly the federal law will be enforced and which activities will be targeted for enforcement. This significant
change in the Federal government’s enforcement policy may cause financial damage to our operations.
We
may be unable to develop the properties that are critical to our greenhouse business.
Our
business plan involves the acquisition and development of real estate properties and support services. These properties will be
used for our traditional irrigated farming business and the development of greenhouses, which will be leased to participants in
the marijuana industry. The zoning and operational restrictions on marijuana industry participants may limit the availability
of properties suitable for greenhouse development. While we have our Colorado property zoned for cannabis greenhouse production,
this zoning can be revoked if construction has not begun. Further, we may be unable to find suitable properties once we expand
outside of Colorado.
We
may be unable to expand successfully into new markets.
We
intend to aggressively pursue our greenhouse development to lease to licensed marijuana growers for the foreseeable future. This
expansion into new markets, particularly in states where we do not currently operate, may not succeed. This expansion may expose
us to new operational, regulatory or legal risks. In addition, expanding into new states may subject us to unfamiliar or uncertain
local regulations that may adversely affect our operations, for example, by applying, obtaining and/or maintaining appropriate
licenses. Facilities we open in new markets may also take longer to reach expected revenue and profit levels on a consistent basis
and may have higher construction, occupancy or operating costs than facilities we open in existing markets, thereby affecting
our overall profitability. New markets may have competitive conditions, consumer preferences and spending patterns that are more
difficult to predict or satisfy than our existing markets.
We
currently have only one tenant for our two greenhouse.
GCP1,
LLC leases our only currently operating greenhouse and warehouse to Amerijuana, pursuant to a lease agreement dated February 1,
2018 and ending August 31, 2020. If Amerijuana’s business operations fail, it might a long period before we could find a
replacement tenant. Presently, Amerijuana only occurs approximately ½ of GCP1’s greenhouse. We have leased our second
greenhouse to another tenant. The tenant will not take occupancy until construction has been completed and it has received all
regulatory approvals. There is no assurance that construction will be completed or that these approvals will be received by the
prospective tenant.
The
leasing market for marijuana lessees could be volatile.
The
lease rate for our current tenant in the first greenhouse is $20 per square foot, triple net. The development and construction
cost for this 105,000 square foot greenhouse and facilities was approximately $65 per square foot. If we have to replace the current
tenant, or the prospective tenant in the second greenhouse, there can be no assurance that the greenhouses can be leased at the
same rate and for a long enough time period to recover our capital cost, thereby decreasing our returns.
Our
greenhouse lessees may not be able to fund lease and service payments.
If
GrowCo’s tenants incur unforeseen weather, negative crop events, or a major reduction of the price of marijuana, the tenant
may not be able to pay lease and service payments. This would cause a legal action to the eviction of the tenant and a
search for a new tenant, which may not be successful.
Our
future success depends on our ability to attract new greenhouse lessees.
Our
immediate plan is to construct additional greenhouses on a 160-acre plat. There is no assurance that our existing tenant will
lease the additional greenhouses or that we can attract new tenants.
Our
failure to obtain capital may significantly restrict our proposed greenhouse operations.
We
need capital to fund our greenhouse expansion. While we have been successful in accessing capital for the first greenhouse, we
do not know if future capital raising will be successful. Our failure to obtain the capital, which we require for greenhouse expansion,
may result in the slower implementation of our GrowCo business plan.
Tenants
of GrowCo may have difficulty accessing the service of banks, which may make it difficult for them to operate and remit payments.
Since
the use of marijuana is illegal under federal law, many banks will not accept for deposit funds from businesses involved with
marijuana. Consequently, businesses involved in the marijuana industry often have trouble finding a bank willing to accept their
business. The inability to open bank accounts may make it difficult for potential tenants of GrowCo to operate. There may also
be an issue with GrowCo’s ability to deposit payments from its tenants.
Laws
and regulations affecting the medical marijuana industry are constantly changing, which could detrimentally affect our greenhouse
leasing operations.
Local,
state and federal medical marijuana laws and regulations are broad in scope and subject to evolving interpretations, which could
require us to incur substantial costs associated with compliance or alter our business plan. In addition, violations of these
laws, or allegations of such violations, could disrupt our business and result in a material adverse effect on our operations.
Furthermore, it is possible that regulations may be enacted in the future that will be directly applicable to our leasing activities.
We cannot predict the nature of any future laws, regulations, interpretations or applications, nor can we determine what effect
additional governmental regulations or administrative policies and procedures, when and if promulgated, could have on our business.
Risk
Factors Related to Ownership of Common Stock
We
may in the future issue more shares of capital stock, which could cause a loss of control by present management and current shareholders
and/or dilution to investors.
There
may be substantial dilution to our shareholders as a result of future decisions of the board of directors to issue shares without
shareholder approval for cash, services, or acquisitions at prices solely determined by the board. Additionally, upon issuance,
such shares could represent a majority of the voting power and equity of our company. The result of such an issuance would be
those new shareholders and management would control our company, and persons unknown could replace existing management at such
time.
Our
common shareholders could face substantial potential dilution from outstanding common stock equivalents.
As
of March 29, 2018, 32,749,920 shares of common stock were outstanding. A total of up to 8,000,000 shares of common stock, all
of which may be offered from time to time pursuant to this prospectus, may be issued upon conversion of a 12.5% original issue
discount convertible promissory note we issued on February 9, 2018 to Powderhorn, LLC, one of the selling shareholders. If holders
convert their TR Capital Partners, LLC preferred units into shares of common stock, we would issue up to an additional 29,881,698
shares of common stock and warrants to acquire an additional 14,168,944 shares of common stock at $2.10 per share. In addition,
as of March 30, 2018, there were outstanding options to acquire 3,036,500 shares of common stock and restricted stock units, or
RSUs, covering 118,000 shares of common stock. As a result, there may be a substantial dilution to our existing shareholders.
We
need additional capital in the future to finance our operations, which we may not be able to raise or it may only be available
on terms unfavorable to us or our stockholders, which may result in our inability to fund our working capital requirements and
harm our operational results.
We
have and expect to continue to have substantial capital expenditure and working capital needs. We do not now have funds sufficient
to fund our operations at their current level for the next 12 months. We need to raise additional cash to fund our operations
and implement our business plan. We are maintaining an on-going effort to locate sources of additional funding, without which
we will not be able to remain a viable entity. If we are able to obtain the financing required to remain in business, eventually
achieving operating profits will require substantially increasing revenues or drastically reducing expenses from their current
levels or both. If we are able to obtain the required financing to remain in business, future operating results depend upon a
number of factors that are outside of our control. The expected operating losses, coupled with a lack of liquidity, raise a substantial
doubt about our ability to continue as a going concern. If we raise additional funds through the issuance of equity or convertible
debt securities, the percentage ownership of our stockholders would be reduced, and these newly issued securities might have rights,
preferences or privileges senior to those of existing stockholders.
The
regulation of penny stocks by SEC and FINRA may discourage the tradability of common stock.
We
are classified as a “penny stock” company. The common stock currently trades on the OTCQB Market and is subject to
an SEC rule that imposes special sales practice requirements upon broker-dealers who sell such securities to persons other than
established customers or accredited investors. For purposes of the rule, the phrase “accredited investors” means,
in general terms, institutions with assets in excess of $5,000,000, or individuals having a net worth in excess of $1,000,000
(not including the principal residence) or having an annual income that exceeds $250,000 (or that, when combined with a spouse’s
income, exceeds $300,000). For transactions covered by the rule, the broker-dealer must make a special suitability determination
for the purchaser and receive the purchaser’s written agreement to the transaction prior to the sale. Effectively, this
discourages broker-dealers from executing trades in penny stocks. Consequently, the rule will affect the ability of purchasers
in this offering to sell their securities in any market that may develop therefore because it imposes additional regulatory burdens
on penny stock transactions.
In addition, the SEC has adopted a number
of rules to regulate “penny stocks,” including Rules 3a51-1, 15g-1, 15g-2, 15g-3, 15g-4, 15g-5, 15g-6, 15g-7 and 15g-9
under the Exchange Act. Common stock constitutes a “penny stock” within the meaning of these rules, and these
rules imposes additional regulatory burdens that may affect the ability of holders to sell common stock in any market that
may develop.
The
market for penny stocks has suffered in recent years from patterns of fraud and abuse, including:
|
●
|
control
of the market for the security by one or a few broker-dealers that are often related to the promoter or issuer;
|
|
●
|
manipulation
of prices through prearranged matching of purchases and sales and false and misleading press releases;
|
|
●
|
“boiler
room” practices involving high-pressure sales tactics and unrealistic price projections by inexperienced sales persons;
|
|
●
|
excessive
and undisclosed bid-ask differentials and markups by selling broker-dealers; and
|
|
●
|
wholesale
dumping of the same securities by promoters and broker-dealers after prices have been manipulated to a desired level, causing
investor losses.
|
We
cannot dictate or anticipate the behavior of the market or of broker-dealers who participate in the market.
Rule 144 sales of common stock
in the future may have a depressive effect on our stock price.
Some
of the outstanding shares of common stock held by our officers, directors and affiliated shareholders are “restricted
securities” within the meaning of Rule 144 under the Securities Act of 1933. As restricted shares, these shares may be resold
only pursuant to an effective registration statement or under the requirements of Rule 144 or other applicable exemptions from
registration under the Act and as required under applicable state securities laws. Rule 144 provides in essence that a person
who has held restricted securities for six months may sell without restriction, except for affiliates which, under certain conditions,
may sell every three months, in brokerage transactions, a number of shares that does not exceed the greater of 1.0% of a company’s
outstanding common stock or the average weekly trading volume during the four calendar weeks prior to the sale. There is no limit
on the amount of restricted securities that may be sold by a non-affiliate after the owner has held the restricted securities
for a period of six months. A sale under Rule 144 or under any other exemption from the Securities Act, if available, or pursuant
to subsequent registration of shares of common stock of current shareholders, may have a depressive effect upon the price of common
stock in any market that may develop. There may be substantial dilution to our shareholders as a result of future decisions of
the board of directors to issue shares without shareholder approval for cash, services or acquisitions at prices determined solely
by the board.
Our
stock is thinly traded and as a result shareholders may be unable to sell at or near ask prices or at all.
Shares
of common stock are thinly traded on the OTCQB market, meaning that the number of persons interested in purchasing common stock
at or near ask prices at any given time may be relatively small. This situation is attributable to a number of factors, including
the fact that we are a small company that is relatively unknown to stock analysts, stock brokers, institutional investors and
others in the investment community that generate or influence sales volume and that even if we came to the attention of such persons,
they may be risk-averse and reluctant to follow an early stage company or purchase or recommend the purchase of any of our securities
until such time as we became more seasoned and profitable. As a consequence, there may be periods of several days or more when
trading activity in our securities is minimal or non-existent, as compared to a seasoned issuer which has a large and steady volume
of trading activity that will generally support continuous sales without an adverse effect its securities price. We cannot give
you any assurance that a broader or more active public trading market for our common securities will be developed or sustained.
Due to these conditions, we can give investors no assurance that they will be able to sell their shares at or near ask prices
or at all if they desire to liquidate shares of common stock.
Item
1B. Unresolved Staff Comments
None.
ITEM
2. DESCRIPTION OF PROPERTIES
Our corporate headquarters are located
in Aurora, Colorado, where we lease 1,554 square feet of office space pursuant to a lease agreement that will expire on March 31,
2020. We believe that our current office facilities will be sufficient to meet our operational needs for the remainder of the existing
lease term and that, upon the expiration of our current lease term, we will be able to extend our lease or lease suitable replacement
office space as needed on acceptable, commercially reasonable terms. Effective April 1, 2017, we subleased our former office space
to McGrow, LLC, a related party.
We operate in the combined watershed area
of the Huerfano River and Cucharas River in the Arkansas River Basin, an area encompassing 1,860 square miles on the southern
Front Range in Colorado. As of December 31, 2017, we managed a total of 6,682 acres of land that we acquired since 2009, as shown
in the following table. The following table presents the number of acres we owned by usage as of the dates indicated:
|
|
As
of December 31,
|
|
|
|
2017
|
|
|
2016
|
|
Irrigable farmland:
|
|
|
|
|
|
|
|
|
Farmed
|
|
|
-
|
|
|
|
421
|
|
Developed but nt farmed
|
|
|
725
|
|
|
|
725
|
|
Undeveloped
|
|
|
1,920
|
|
|
|
1,920
|
|
Total irrigable land
|
|
|
2,645
|
|
|
|
3,066
|
|
Non-producing land:
|
|
|
|
|
|
|
|
|
Greenhouse development
|
|
|
157
|
|
|
|
157
|
|
Grazing land
|
|
|
3,097
|
|
|
|
3,342
|
|
Strategic water holdings
|
|
|
239
|
|
|
|
411
|
|
Other strategic
holdings
|
|
|
400
|
|
|
|
400
|
|
Total non-producing
land
|
|
|
3,893
|
|
|
|
4,310
|
|
Totals
|
|
|
6,538
|
|
|
|
7,376
|
|
The following table presents the number
of acres we owned by location as of the dates indicated:
|
|
As
of December 31,
|
|
|
|
2017
|
|
|
2016
|
|
El Paso
|
|
|
2,339
|
|
|
|
2,584
|
|
Huerfano
|
|
|
2,324
|
|
|
|
2,488
|
|
Pueblo
|
|
|
1,875
|
|
|
|
2,304
|
|
Totals
|
|
|
6,538
|
|
|
|
7,376
|
|
ITEM
3. LEGAL PROCEEDINGS
Since
2016, the Suncanna lease arrangement was the subject
of administrative and judicial proceedings:
|
●
|
On
April 14, 2016 we were notified that Suncanna LLC had received a notice of suspension from the Marijuana Enforcement Division
of the Colorado Department of Revenue. This suspension remains in place until a hearing.
|
|
|
|
|
●
|
This
caused Suncanna to be in violation of its lease with GCP1. On April 25, 2016, GCP1 terminated Suncanna’s lease and began
an eviction process against Suncanna. Due to the eviction process, during the three months ended March 31, 2016, we wrote
off $743,000 in Lease Revenues – Related Party, wrote off $587,000 in advances to Suncanna, and did not recognize any
Lease Revenues – Related Party.
|
|
|
|
|
●
|
On
July 22, 2016 GCP1 received a Writ of Restitution from the Pueblo County Colorado District Court ordering Suncanna to vacate
the greenhouse by September 6, 2016.
|
|
|
|
|
●
|
On
August 31, 2016 a lawsuit was filed by Aaron Van Wingerden, owner of Suncanna, in Pueblo County Colorado District Court against
GrowCo, GrowCo Business Development, LLC, GCP1, GrowCo Funding, LLC., TR Capital, Two Rivers and certain current and former
employees, and associates. We believe that the suit has no merit and will have no material impact on our financial condition.
|
|
|
|
|
●
|
On
September 6, 2016, in accordance with the Writ of Restitution, Suncanna vacated the greenhouse and GCP1 took possession and
began re-conditioning its greenhouse for a new tenant, who began growing operations in the fourth quarter of 2016.
|
|
|
|
|
●
|
On
October 27, 2016, in a contempt of court hearing, a Pueblo County Colorado District Court judge ruled in favor of plaintiff
Aaron Van Wingerden and against GCP1 in a matter regarding the prevention of Suncanna’s access to GCP1’s greenhouse
prior to Suncanna vacating the premises on September 6, 2016. We believe that this ruling was in error and are appealing this
decision.
|
Management believes that this case is
without merit and has filed a cross-complaint to recover amounts owed by Suncanna under the Suncanna lease agreement.
Two Rivers, the State of Colorado (Office
of the State Engineer and the local Division Engineer), and neighboring water rights holders have been involved in litigation
concerning water rights and claims by the State concerning an existing dam in Huerfano County, Colorado, and a demand by the State
to breach the dam structure. (
Two Rivers Water and Farming Co. vs. Welton Land and Water Co
., (Pueblo Water Court)).
As part of the litigation, Two Rivers has sought to have certain water rights demands by the neighboring water rights holders
deemed wasteful. In the quarter ending March 31, 2016, Two Rivers entered into a stipulation agreement with the State, settling
the State's claims, whereby Two Rivers agreed to take the existing dam structure down to the sediment level. Two Rivers
has been able to empty all the water in the Dam, but it was not be able to meet the requirements of the stipulation agreement
by March 31, in part due to lack of capital. On April 3, 2018, Two Rivers was notified that the State had filed a motion for the
issuance of a contempt of court citation based upon its failure to comply with the consent decree by March 31, 2018. Two
Rivers intends to defend against the sanctions sought in the contempt motion, based in part upon those sanctions being unnecessary
and unduly punitive. A hearing has been set for the contempt proceedings on May 10, 2018. The State is requesting the Company
to pay $100,000 as a penalty for violating the stipulation agreement. The Company’s engineering firm estimate the cost to
breach the dam structure to be between $1.8 to $2.2 million.
On August 8, 2017, a summons was issued in
the Arapahoe County District Court on behalf of former board members Dennis Channer, Rockey Wells and John Stroh demanding Two
Rivers pay $139,000 in attorneys’ fees owed to Ryley Carlock & Applewhite for services rendered to the former board
members at their behest while members of the board. At present, the mater is scheduled for trial in October, 2018. The $139,000
is included in our accounts payable on the balance sheet.
On October 18, 2017, at the Company filed
a lawsuit against former employees of the its DFP farming operation for alleged theft. We are in the process of gathering evidence
of the theft and setting a court hearing date. A former employee of DFP has filed a counter claim against the Company, which amount
is immaterial. Management believes that claims against former employees are in excess of any counter claims.
On
January 19, 2018 Blue & Green, LLC (“Blue Green”) filed a complaint against GrowCo, Inc. claiming a default on
payments by GrowCo to Blue Green under the terms of the GrowCo $2,115,000 promissory note held by Blue Green. The complaint is
requesting immediate payment of the note, back due interest in excess of $300,000, and attorney fees.
ITEM
4. MINE SAFETY DISCLOSURES
Not
applicable.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
For
the Years Ended December 31, 2017 and 2016
NOTE
1 – ORGANIZATION AND BUSINESS
The
following is a summary of some of the information contained in this document. Unless the context requires otherwise, references
in this document to “Two Rivers,” or the “Company” is to Two Rivers Water & Farming Company and its
subsidiaries.
Corporate
Evolution
Prior
to 2009, the Company was named Navidec Financial Services, Inc. (“Navidec”) and had been engaged in mortgage lending
and other enterprises unrelated to its current lines of business. Navidec was incorporated in the state of Colorado on December
20, 2002. On July 28, 2009, Navidec formed a wholly-owned Colorado corporation for the purpose of acquiring farm and water assets
in the Colorado Huerfano/Cucharas watershed. On November 19, 2009, with shareholder approval, Navidec changed its name to Two
Rivers Water Company. On December 11, 2012, with shareholder approval, the Company changed its name to Two Rivers Water &
Farming Company.
On
January 29, 2014, the board of directors approved a plan to reorganize our subsidiaries in a more integrated manner based on functional
operations. We formed a new company, TR Capital Partners, LLC or TR Capital, which issued all of its common units to Two Rivers
Water & Farming Capital. TR Capital then initiated the transactions described below under “Placement of Preferred Units”.
Following the completion of those transactions in September 2014, TR Capital and our other direct and indirect subsidiaries (excluding
HCIC Holdings, LLC and Huerfano-Cucharas Irrigation Company) entered into a series of related transactions as the result of which
assets and operations of such other subsidiaries transferred to TR Capital. As a result of those transactions, TR Capital operates
all of the operations formerly conducted by those subsidiaries. The following chart shows a high-level view of our corporate organization
as of March 21, 2017. For a more detailed accounting of ownership structure please refer to exhibit 21.1 filed herewith.
The above organizational
charts shows GrowCo as a subsidiary of Two Rivers. Two Rivers owns 10,000,000 GrowCo common shares out of approximately 35,000,000
GrowCo common shares outstanding. Ordinarily, this ownership percentage would not allow consolidation. However, under Accounting
Standards Codification 810-10-05 “Variable Entities” if there are material obligations between the parent (Two Rivers)
and the subsidiary (GrowCo) consolidation is required. Certain GrowCo investors have a secondary collateral position in the Orlando/Butte
Valley assets of Two Rivers. Two Rivers is viewed as the primary beneficiary since it holds the majority of the variable interests.
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
10
|
Overview
In 2009, we began acquiring and developing irrigated farmland and associated water rights and infrastructure.
As of December 31, 2017, we own 6,538 gross acres. Gross acres owned decreased from 7,376 gross acres at December 31, 2016
due to the sale of 838 acres.
We
are focused on water assets we have acquired and will acquire in the future. Since 2009, we have acquired strategic water assets
and land in the Huerfano and Cucharas river basins in southeastern Colorado, thus the name Two Rivers. Our water asset area spans
over 1,900 square miles and drops in elevation from over 14,000 feet down to the confluence of the Arkansas River, just east of
Pueblo Colorado at 4,500 feet. We operate in a natural, gravity fed water alluvial. This basin is the last undeveloped basin along
the front range of Colorado. As our first water-focused project, we plan to fully develop this basin to properly manage the water
contained therein and serve the community while providing returns to our investors.
Since
October 2016 we have refocused on monetizing our assets. Monetization occurs in two different ways: sell or additionally invest.
We have determined to sell assets that we have determined will not yield significant future returns to our shareholders and invest
strategically in the assets that will. Specifically, we are selling our irrigated farmland currently used for the production of
produce, the associated Dionisio produce business along with land that no longer serves our strategic vision of water management.
We will take net proceeds, if any, from these sales and continue to invest in our water and water infrastructure.
In
May 2014, we formed GrowCo, Inc., a wholly owned subsidiary of Two Rivers through the issuance of 20,000,000 shares of common
stock. On August 1, 2014, we announced that we were placing 10,000,000 GrowCo shares in a trust to be distributed to Two Rivers’
common shareholders based on four record dates (January 1, 2015; April 1, 2015; July 1, 2015, and October 1, 2015) after an effective
registration statement is filed, which has not yet occurred. Each record date will distribute 2,500,000 GrowCo common shares on
a prorata basis of shares owned of Two Rivers’ common shares.
On
January 20, 2015, GrowCo Partners 1, LLC, or GCP1, completed a $4.4 million financing for the first greenhouse project, which
consists of a 90,000 square foot greenhouse and 15,000 square foot processing and warehouse facility on 40 acres of land.
During
the third quarter of 2015, GrowCo completed a $4.0 million private placement of GrowCo debt, with proceeds to be used to partially
fund the second greenhouse and provide working capital.
In
March 2016, GrowCo completed a $5.5 million private placement of equity interests of GCP Super Units, LLC, which will invest directly
in various assets of GCP1 and GCP2, with proceeds to be used to complete the construction of the first greenhouse, partially fund
the second greenhouse and provide working capital. The outside investment in GCP Super Units, LLC is reflected on our balance
sheet as a non-controlling equity interest.
GCP1’s
greenhouse was partially occupied in September, 2015 with lease revenue beginning September 1, 2015. On April 14, 2016, we received
notice from the Marijuana Enforcement Division of the Colorado Department of Revenue that the then current tenant, Suncanna, LLC
(“Suncanna”), had received a suspension order. This suspension, in addition to non-payment of back due lease payments
owed, caused Suncanna to be in violation of its lease with GCP1. Therefore, GCP1 began the eviction process against Suncanna.
Due to the eviction process, during the three months ended March 31, 2016, we wrote off $743,000 in Lease Revenues – Related
Party, wrote off $587,000 in advances to Suncanna, and did not recognize any Lease Revenues – Related Party. During the
nine months ended September 30, 2016, we recognized $25,000 in greenhouse lease revenue from a payment received from Suncanna
in early April 2016. The total write off of $1.330 million was partially offset by a $350,000 reduction in the amount owed to
the GCP1 preferred unit holders. On July 22, 2016 GCP1 received a Writ of Restitution from the Pueblo County Colorado District
Court ordering Suncanna to vacate GCP1’s greenhouse by September 6, 2016. On August 31, 2016, a lawsuit was filed by Aaron
Van Wingerden, owner of Suncanna, in Pueblo County Colorado District Court against GrowCo, GrowCo Business Development, LLC.,
GCP1, GrowCo Funding, LLC., TR Capital, Two Rivers and certain current and former employees, and associates. The Company believes
that the suit has no merit and will have no material impact on the Company’s financial condition.
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
11
|
Pending
the eviction of Suncanna, on August 4, 2016 GCP1 entered into a lease agreement with a related party Johnny Cannaseed, LLC, a
related party (“Johnny Cannaseed”) which is owned predominantly by our former CEO John McKowen who is the majority
shareholder in the Company. Under the terms of the lease, one half of the GCP1 greenhouse was sublet to a licensed marijuana grower
on December 1, 2016. The second half of the greenhouse was leased to a second licensed marijuana grower on March 1, 2017. At December
31, 2016 we had recorded lease receivables of $240,000 from Johnny Cannaseed.
Johnny
Cannaseed was not able to receive a license to grow marijuana. Therefore, Johnny Cannaseed subleased, with the approval of GCP1’s
board, to two tenants. In 2017, GCP1 expended $308,000 to divide the greenhouse into two, mostly equal, parts, referred to as
GCP1-1 and GCP1-2. As reported by Johnny Cannaseed, for the year ended December 31, 2017, the GCP1 tenant paid to Johhny Cannaseed
$620,000 which was paid to GCP1. The GCP1-2 tenant did not pay any rent and was subsequently evicted by Johnny Cannaseed. Johnny
Cannaseed is proceeding to collect back due rent from the GCP1-2 tenant. For the year ended December 31, 2017, the Company’s
consolidated income only recognizes the actual rent received of $620,000. Effective February 1, 2018, GCP1 released Johnny Cannaseed
from its lease. At that time, GCP1 signed a lease with the then current sub-lessee of GCP1-1.
GrowCo’s
second greenhouse project will also consist of a 90,000 square foot greenhouse and 15,000 square foot processing and warehouse
facility on an additional 40 acres of land. Upon completion, this project will be operated, as a landlord, by GrowCo Partners
2, LLC, or GCP2. GCP2’s greenhouse structure was ordered in 2016. Construction on this greenhouse began in early January
2016 with an unkown completion date. It is necessary to raise additional capital to complete GCP2.
In
the first quarter of 2016, GrowCo obtained $300,000 in subscriptions and associated payments in a promissory note offering of
up to $1.5 million. In September 2016 GrowCo changed the offering to two series of promissory notes with aggregate principal amounts
of up to either $6 million or $7 million, in each case together with warrants to purchase, at a price of $0.25 per share, .25
GrowCo common shares for each dollar invested in the related promissory notes. The initial four investors in the $6 million version
of the notes received warrants to purchase one TURV share for each $1.00 invested at a price of $0.50 per share. Of the $300,000
principal amount of notes issued earlier, $200,000 were exchanged for the new note and warrant packages and $100,000 remain outstanding.
A
new $2M offering was subsequently initiated in March 2017 with substantially the same terms of prior GrowCo notes for the purposes
of supporting operations and finishing the second greenhouse. As of December 31, 2017, $1,520,000 was raised for this offering
along with an additional $386,000 under the $7 million exchange note.
NOTE
2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles
of Consolidation
The
accompanying consolidated financial statements include the accounts of Two Rivers, Huerfano-Cucharas Irrigation Company and TR
Capital and its subsidiaries, Two Rivers Farms, Two Rivers Water and GrowCo. All significant inter-company balances and transactions
have been eliminated in consolidation.
Non-controlling
Interest
Below
is the detail of non-controlling interest shown on the balance sheet.
|
|
Year
ended December 31,
|
|
Entity
|
|
2017
|
|
|
2016
|
|
TR Capital
|
|
$
|
20,482,000
|
|
|
$
|
20,552,000
|
|
HCIC
|
|
|
1,388,000
|
|
|
|
1,381,000
|
|
F-1
|
|
|
29,000
|
|
|
|
29,000
|
|
F-2
|
|
|
162,000
|
|
|
|
162,000
|
|
DFP
|
|
|
452,000
|
|
|
|
452,000
|
|
GrowCo
|
|
|
(850,000
|
)
|
|
|
(206,000
|
)
|
GrowCo Partners 1,
LLC
|
|
|
3,621,000
|
|
|
|
3,521,000
|
|
GCP Super Units, LLC
|
|
|
5,016,000
|
|
|
|
4,923,000
|
|
TR Cap 20150630 Distribution,
LLC
|
|
|
497,000
|
|
|
|
497,000
|
|
TR Cap 20150930 Distribution,
LLC
|
|
|
460,000
|
|
|
|
460,000
|
|
TR
Cap 20151231 Distribution, LLC
|
|
|
495,000
|
|
|
|
495,000
|
|
Totals
|
|
$
|
31,752,000
|
|
|
$
|
32,366,000
|
|
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
12
|
During
the year ended December 31, 2014, investors in Two Rivers Farms F-1 (convertible notes and preferred shares), Two Rivers Farms
F-2 (convertible notes and preferred shares), the Company’s preferred shares, ASF convertible notes, DFP preferred shares,
Ellicott second mortgage, and the new cash investments of $6,000,000 were given the opportunity to convert into TR Capital Partners,
LLC and were issued 30,159,000 TR Capital Preferred Membership units, with a NCI value of $20,740,000.
The
30,159,000 TR Capital Preferred Membership units issued during the year ended December 31, 2014 are convertible into 1 common
stock share of the Company and one-half warrant to purchase a share of stock of the Company. In accordance with ASC Topic 470-20,
Debt (and other convertible instruments with beneficial convertible features (“BCF”),
the Company determined
that a BCF amounting to approximately $12,337,000 and a relative fair value attached to the warrants of approximately $3,641,000
were recorded for the year ended December 31, 2014.
Two
Rivers also formed three LLC special entities (TR Cap 20150630, Distribution, TR Cap 20150930 Distribution and TR Cap 20151231)
to provide in-kind distributions totaling $1,452,000 to holders of TR Capital Preferred Membership units.
Below
is the breakdown of the non-controlling interest share of gains (losses):
Entity
|
|
Year
ended December 31,
|
|
|
|
2017
|
|
|
2016
|
|
TR Capital
|
|
$
|
-
|
|
|
$
|
-
|
|
HCIC (1)
|
|
|
7,000
|
|
|
|
6,000
|
|
F-1 (2)
|
|
|
-
|
|
|
|
-
|
|
F-2 (2)
|
|
|
-
|
|
|
|
-
|
|
DFP (2)
|
|
|
-
|
|
|
|
-
|
|
GrowCo
|
|
|
(644,000
|
)
|
|
|
(206,000
|
)
|
GrowCo Partners 1,
LLC
|
|
|
-
|
|
|
|
-
|
|
GCP Super Units, LLC
|
|
|
-
|
|
|
|
-
|
|
TR Cap 20150630 Distribution,
LLC
|
|
|
-
|
|
|
|
-
|
|
TR Cap 20150930 Distribution,
LLC
|
|
|
-
|
|
|
|
-
|
|
TR Cap 20151231 Distribution,
LLC
|
|
|
-
|
|
|
|
-
|
|
Water
Redevelopment
|
|
|
-
|
|
|
|
-
|
|
Totals
|
|
$
|
(637,000
|
)
|
|
$
|
(200,000
|
)
|
Notes:
|
(1)
|
The
Company owns 95% of HCIC.
|
|
(2)
|
The
terms of the preferred shares in each subsidiary allows for a participatory additional preferred share dividend of 25% of
the profits derived from the assets held by the subsidiary. This participatory dividend, if any, will be recorded as a non-controlling
share of the income.
|
Reclassification
Certain
amounts previously reported have been reclassified to conform to current presentation. Certain labels of accounts/classifications
have been changed.
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
13
|
Use
of Estimates
The
preparation of financial statements in conformity with generally accepted accounting principles in the United States requires
management to make estimates and assumptions. These estimates and assumptions affect the reported amounts of assets and liabilities,
disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and
expenses during the reported period. Actual results could differ materially from those estimates.
Cash
and Cash Equivalents
For
purposes of reporting cash flows, Two Rivers Water & Farming Company considers cash and cash equivalents to include highly
liquid investments with original maturities of 90 days or less. Those are readily convertible into cash and not subject to significant
risk from fluctuations in interest rates. The recorded amounts for cash equivalents approximate fair value due to the short-term
nature of these financial instruments.
Concentration
of Credit Risk
Financial
instruments that potentially subject Two Rivers to significant concentrations of credit risk include cash equivalents, marketable
investments, advances and accounts receivable. The Company maintains its cash balances in the form of bank demand deposits, money
market accounts that management believes to be of high credit quality. Accounts receivable are typically uncollateralized and
are derived from transactions with and from customers primarily located in the United States.
Fair
Value of Measurements and Disclosures
Fair
Value of Assets and Liabilities Acquired
Fair
value is the price that would be received from the sale of an asset or paid to transfer a liability (i.e., an exit price) in the
principal or most advantageous market in an orderly transaction between market participants. In determining fair value, the accounting
standards established a three-level hierarchy that distinguishes between (i) market data obtained or developed from independent
sources (i.e., observable data inputs) and (ii) a reporting entity’s own data and assumptions that market participants would
use in pricing an asset or liability (i.e., unobservable data inputs). Financial assets and financial liabilities measured and
reported at fair value are classified in one of the following categories, in order of priority of observability and objectivity
of pricing inputs:
●
Level 1 –
Fair value based on quoted prices in active markets for identical assets or liabilities.
●
Level 2
– Fair value based on significant directly observable data (other than Level 1 quoted prices) or significant
indirectly observable data through corroboration with observable market data. Inputs would normally be (i) quoted prices in active
markets for similar assets or liabilities, (ii) quoted prices in inactive markets for identical or similar assets or liabilities
or (iii) information derived from or corroborated by observable market data.
●
Level 3
– Fair value based on prices or valuation techniques that require significant unobservable data inputs. Inputs
would normally be a reporting entity’s own data and judgments about assumptions that market participants would use in pricing
the asset or liability.
The
fair value measurement level for an asset or liability is based on the lowest level of any input that is significant to the fair
value measurement. Valuation techniques should maximize the use of observable inputs and minimize the use of unobservable inputs.
Recurring
Fair Value Measurements
The
carrying value of the Company’s financial assets and financial liabilities is their cost, which may differ from fair value.
The carrying value of cash held as demand deposits, money market and certificates of deposit, marketable investments, accounts
receivable, short-term borrowings, accounts payable and accrued liabilities approximated their fair value. Marketable investments
are valued at Level 1 due to readily available market quotes. The fair value of the Company’s long-term debt, including
the current portion approximated its carrying value. Fair value for long-term debt was estimated based on quoted market prices
of the identical debt instruments or values of comparable borrowings.
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
14
|
Accounts
Receivable, Related Party
The
Company carries its accounts receivable, net at management’s expectation of collection and past experience. As of December
31, 2017, and 2016, the Company did not have an allowance for doubtful accounts receivable based on past payment performance.
See Note 11 for transactions with this related party.
Capitalization
of Interest
As
of December 31, 2017, $897,000 in notes payable interest has been capitalized in the construction of greenhouse 1 and 2.
Property
and Equipment
Property
and equipment are stated at cost less accumulated depreciation. Depreciation is computed principally on the straight-line method
over the estimated useful life of each type of asset which ranges from three to twenty-seven and a half years. Maintenance and
repairs are charged to expense as incurred; improvements and betterments are capitalized. Upon retirement or disposition, the
related costs and accumulated depreciation are removed from the accounts, and any resulting gains or losses are credited or charged
to income.
Below
is a summary of premises and equipment:
|
|
|
|
|
December
31,
|
|
Asset
Type
|
|
Life
in Years
|
|
|
2017
|
|
|
2016
|
|
Office
equipment, furniture, computers
|
|
|
5
– 7
|
|
|
$
|
12,000
|
|
|
$
|
11,000
|
|
Computers
|
|
|
3
|
|
|
|
46,000
|
|
|
|
47,000
|
|
Vehicles
|
|
|
5
|
|
|
|
92,000
|
|
|
|
116,000
|
|
Farm equipment
|
|
|
7
- 10
|
|
|
|
244,000
|
|
|
|
1,632,000
|
|
Irrigation system
|
|
|
10
|
|
|
|
-
|
|
|
|
995,000
|
|
Buildings
|
|
|
27.5
|
|
|
|
10,000
|
|
|
|
393,000
|
|
Website
|
|
|
3
|
|
|
|
7,000
|
|
|
|
7,000
|
|
Subtotal
|
|
|
|
|
|
|
411,000
|
|
|
|
3,201,000
|
|
Less:
Accumulated depreciation
|
|
|
|
|
|
|
(251,000
|
)
|
|
|
(1,842,000
|
)
|
Net
book value
|
|
|
|
|
|
$
|
160,000
|
|
|
$
|
1,359,000
|
|
Land
Land
acquired for farming is recorded at cost. Some of the land acquired has not been farmed for many years, if not decades. Therefore,
additional expenditures are required to make the land ready for efficient farming. Expenditures for leveling the land are added
to the cost of the land. Irrigation is not capitalized in the cost of Land (
Property and Equipment
above). Land is not
depreciated. However, once per year, Management will assess the value of land held, and in their opinion, if the land has become
impaired, Management will establish an allowance against the land.
Water
rights and infrastructure
Subsequent
to purchase of water rights and water infrastructure, management periodically evaluates the carrying value of its assets, and
if the carrying value is in excess of fair market value, the Company will establish an impairment allowance. No amortization or
depreciation is taken on the water rights. See the discussion below concerning Impairments – Water rights and infrastructure.
Intangibles
Two
Rivers recognizes the estimated fair value of water rights acquired by the Company’s purchase of stock in HCIC and Orlando.
These intangible assets will not be amortized because they have an indefinite remaining useful life based on many factors and
considerations, including, the historical upward valuation of water rights within Colorado.
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
15
|
Impairments
Property
and Equipment
Once
per year we review all property, equipment and software owned by the Company and compared the net book value of such assets with
the fair market value of each piece of equipment having a net book value greater than $5,000. If it is determined that the net
book value is greater than the fair market value, an impairment will be recorded. If impairment is necessary, a loss on the value
of the affected asset will be recorded, and the impairment will not be reversed in future periods.
Land
Once
per year we review each parcel of land owned by the Company together with improvements to each parcel and compare the carrying
cost with the fair market value. If it appears that our carrying value may be greater than the fair market value, an independent
appraisal will be ordered. If the appraised value is less than our carrying value, an impairment will be recorded. If impairment
is necessary, a loss on the value of our land will be recorded, and the impairment will not be reversed in future periods.
Water
rights and infrastructure
Once
per year we assess the value of the water rights held by the Company, comparing our estimated values with recent sales of comparable
water rights along with depreciation of the infrastructures. In the event that such assessment indicates that the carrying value
is greater than the fair market value of the water rights or the depreciable replacement cost of our infrastructure, an impairment
will be recorded. If impairment is necessary, a loss on value of our water rights will be recorded, and the impairment will not
be reversed in future periods.
Prior
to the year ended December 31, 2017, the Company recognized a $30,000 impairment on the Company’s land and water shares.
For
the year ended December 31, 2017, the Company examined the depreciable replacement cost of its water infrastructure. This analysis
caused the recognition of $6,900,000 impairment to the water infrastructure.
Impairment
of DFP Intangibles
In
2016, due to the discontinuance of DFP operations, we wrote off the full value of DFP intangibles (see Note 4).
Revenue
Recognition
Leasing
Greenhouse
The
lease between GrowCo Partners 1, LLC and its lessee is classified as an operating lease under ASC 840. However, due to the uncertainity
of lease payments, for the year ended December 31, 2017, only the actual lease revenues received were recognized.
Member
Assessments
Once
per year the HCIC board estimates HCIC’s expenses, less anticipated water revenues, and establishes an annual assessment
per ownership share. One-half of the member assessment is recorded in the first quarter of the calendar year and the other one-half
of the member assessment is recorded in the third quarter of the calendar year. Assessments paid by Two Rivers Water Company to
HCIC are eliminated in consolidation of the financial statements.
HCIC
does not reserve against any unpaid assessments. Assessments due, but unpaid, are secured by the member’s ownership of HCIC.
The value of this ownership is significantly greater than the annual assessments.
Stock
Based Compensation
Beginning
January 1, 2006, the Company adopted the provisions of ASC 718 and accounts for stock-based compensation in accordance with ASC
718. Under the fair value recognition provisions of this standard, stock-based compensation cost is measured at the grant date
based on the fair value of the award and is recognized as expense on a straight-line basis over the requisite service period,
which generally is the vesting period. The Company elected the modified-prospective method, under which prior periods are not
revised for comparative purposes. The valuation provisions of ASC 718 apply to new grants and to grants that were outstanding
as of the effective date and are subsequently modified.
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
16
|
All
options granted prior to the adoption of ASC 718 and outstanding during the periods presented were fully vested at the date of
adoption.
Debt
and Equity
The
Company accounts for warrants issued with debt in accordance with Accounting Standards Codification (“ASC”) 470, Debt,
and allocates proceeds received to the warrants based on relative fair values.
The
Company also evaluates whether the issuance of the convertible instruments generates a beneficial conversion feature (“BCF”),
which arises when a debt or equity security is issued with an embedded conversion option that is beneficial to the investor or
in the money at inception because the conversion option has an effective strike price that is less than the market price of the
underlying stock at the commitment date. The Company would recognize the BCF by allocating the intrinsic value of the conversion
option, which is the number of ordinary shares available upon conversion multiplied by the difference between the effective conversion
price per share and the fair value of each ordinary share on the commitment date, to additional paid-in capital, resulting in
a discount on the convertible preferred shares or debt instruments. No BCF has been recognized in the periods presented.
Income
Taxes
Provision
for income taxes represents actual or estimated amounts payable on tax return filings each year. Deferred tax assets and liabilities
are recorded for the estimated future tax effects of temporary differences between the tax basis of assets and liabilities and
amounts reported in the accompanying balance sheets, and for operating loss and tax credit carry forwards. The change in deferred
tax assets and liabilities for the period measures the deferred tax provision or benefit for the period. Effects of changes in
enacted tax laws on deferred tax assets and liabilities are reflected as adjustment to the tax provision or benefit in the period
of enactment.
The
Company uses a two-step process to evaluate a tax position. The first step is to determine whether it is more-likely-than-not
that a tax position will be sustained upon examination, including the resolution of any related appeals or litigation based on
the technical merits of that position. The second step is to measure a tax position that meets the more-likely-than-not threshold
to determine the amount of benefit to be recognized in the financial statements. A tax position is measured at the largest amount
of benefit that is greater than 50 percent likely of being realized upon ultimate settlement.
Tax
positions that previously failed to meet the more-likely-than-not recognition threshold should be recognized in the first subsequent
period in which the threshold is met. Previously recognized tax positions that no longer meet the more-likely-than-not criteria
should be de-recognized in the first subsequent financial reporting period in which the threshold is no longer met. The Company
reports tax-related interest and penalties as a component of income tax expense.
Based
on all known facts and circumstances and current tax law, the Company believes that the total amount of unrecognized tax benefits
as of December 31, 2017, is not material to its results of operations, financial condition, or cash flows. The Company also believes
that the total amount of unrecognized tax benefits as of December 31, 2017, if recognized, would not have a material effect on
its effective tax rate. The Company further believes that there are no tax positions for which it is reasonably possible, based
on current tax law and policy that the unrecognized tax benefits will significantly increase or decrease over the next 12 months
producing, individually or in the aggregate, a material effect on the Company’s results of operations, financial condition
or cash flows.
The
amount of income taxes the Company pays is subject to ongoing examinations by federal and state tax authorities. To date, there
have been no reviews performed by federal or state tax authorities on any of the Company’s previously filed returns. The
Company’s 2013 and later tax returns are still subject to examination.
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
17
|
Net
Income (Loss) per Share
Basic
net income per share is computed by dividing net income (loss) attributed to Two Rivers available to common shareholders for the
period by the weighted average number of common shares outstanding for the period. Diluted net income (loss) per share is computed
by dividing the net income for the period by the weighted average number of common and potential common shares outstanding during
the period.
The
dilutive effect of the outstanding 118,000 RSUs, 3,847,500 options, and 16,469,328 warrants at December 31, 2017, has not been
included in the determination of diluted earnings per share since, under ASC 260 they would anti-dilutive.
Recently
Issued Accounting Pronouncements
In
July 2017, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”)
“
Income Statement – Reporting Comprehensive Income (Topic 220)
”. This ASU deals with the reclassification
of certain tax effects from Accumulated Other Comprehensive Income. We do not believe that there will be any significant financial
impact due to prior taxable losses and our net operating loss carry forward.
In
July 2017, FASB issued ASU “
Earnings Per Share (Topic 260); Distinguishing Liabilities from Equity (Topic 480); Derivatives
and Hedging (Topic 815)
”: (Part I) Accounting for Certain Financial Instruments with Down Round Features, (Part II)
Replacement of the Indefinite Deferral for Mandatorily Redeemable Financial Instruments of Certain Nonpublic Entities and Certain
Mandatorily Redeemable Noncontrolling Interests with a Scope Exception. Management believes that Topics 260 and 480 pertains to
the Company and the impact will be immaterial.
In
November 2016, the FASB issued ASU 2016-18, “
Statement of Cash Flows
”. The new guidance will require that the
statement of cash flows explain the change during the period in the total of cash, cash equivalents, and amounts generally described
as restricted cash or restricted cash equivalents. Therefore, amounts generally described as restricted cash and restricted cash
equivalents is required to be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period
total amounts shown on the statement of cash flows. The new guidance is effective for interim and annual periods beginning after
December 15, 2017 and early adoption is permitted. The amendment should be adopted retrospectively. The Company plans to adopt
this new guidance in the first quarter of fiscal year 2018 and does not expect the adoption to have a material impact on our financial
statements.
In
March 2016, the FASB issued ASU 2016-09, “
Improvements to Employee Share-Based Compensation Accounting
”, which
requires that excess tax benefits are recorded on the income statement as opposed to additional paid-in-capital, and treated as
an operating activity on the statement of cash flows. ASU 2016-09 also allows companies to make an accounting policy election
to either estimate the number of awards that are expected to vest (current U.S. GAAP) or account for forfeitures when they occur.
ASU 2016-09 further requires cash paid by an employer when directly withholding shares for tax-withholding purposes to be classified
as a financing activity on the statement of cash flows. The ASU 2016-09 was subsequently updated with ASU 2017-09, issued in May
2017. These standards will become effective for us in fiscal 2018. We do not believe that there will be any significant financial
impact due to prior taxable losses and our net operating loss carry forward.
In
February 2016, the FASB issued ASU 2016-02, “
Leases
”. The new standard establishes a right-of-use (ROU) model
that requires a lessee to record a ROU asset and a lease liability on the balance sheet for all leases with terms longer than
12 months. Leases will be classified as either finance or operating, with classification affecting the pattern of expense recognition
in the income statement. The new standard is effective for fiscal years beginning after December 15, 2018 which includes interim
periods within those fiscal years. A modified retrospective transition approach is required for lessees for capital and operating
leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements,
with certain practical expedients available. The adoption of this ASU is expected to result in all operating leases being capitalized
in the Company’s financial statements. Due to the GrowCo leases, management believes that this ASU will have an impact on
its financials and is in the process of analyzing its impact.
In
November 2015, the FASB issued ASU 2015-17, “
Balance Sheet Classification of Deferred Taxes
”, which requires
that deferred tax liabilities and assets be classified as noncurrent in a classified statement of financial position to simplify
the presentation of deferred income taxes. The standard is effective prospectively for fiscal years, and interim periods within
those fiscal years, beginning after December 15, 2017, with early adoption permitted. The Company does not expect the adoption
of this update to have a material impact on its financial statements.
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
18
|
In
August 2015, the FASB issued ASU 2015-14 which updated (to defer the effective date by one year) previously issued ASU 2014-09,
“
Revenue from Contracts with Customers
”, which amended revenue recognition guidance to clarify the principles
for recognizing revenue from contracts with customers. The guidance requires an entity to recognize revenue to record the transfer
of goods or services to customers in an amount that reflects the consideration to which an entity expects to be entitled in exchange
for those goods or services. Expanded additional disclosures are required relating to the nature, amount, timing, and uncertainty
of revenue and cash flows arising from contracts with customers. Additionally, qualitative and quantitative disclosures are required
about customer contracts, significant judgments and changes in judgments, and assets recognized from the costs to obtain or fulfill
a contract. This accounting guidance is effective for the Company beginning in the first quarter of fiscal year 2018 using one
of two prescribed retrospective methods. Early adoption is not permitted. At this point, due to the Company having no revenue
contracts with customers, except for leasing agreements, Management believes that there will be no material impact on its financial
statements.
In
April 2015, FASB issued ASU 2015-03, “
Interest—Imputation of Interest (Subtopic 835-30): Simplifying the Presentation
of Debt Issuance Costs”.
The guidance in the ASU is effective for fiscal years, and interim periods within those fiscal
years, beginning after December 15, 2016. Early adoption is allowed for financial statements that have not been previously issued.
Debt issuance costs related to a recognized debt liability will be presented on the balance sheet as a direct deduction from the
debt liability, similar to the presentation of debt discounts. The Company has elected to adopt this ASU early and is presented
in these financial statements.
In
July 2015, the FASB issued ASU 2015-11, “
Simplifying the Measurement of Inventory
”. Under this ASU, inventory
will be measured at the “lower of cost and net realizable value” and options that currently exist for “market
value” will be eliminated. The ASU defines net realizable value as the “estimated selling prices in the ordinary course
of business, less reasonably predictable costs of completion, disposal, and transportation.” No other changes were made
to the current guidance on inventory measurement. ASU 2015-11 is effective for interim and annual periods beginning after December
15, 2016. Early application is permitted and should be applied prospectively. Management has early adopted ASU 2015-11 and notes
no material impact on the Company’s financial position or results of operations.
In
August 2014, the FASB issued ASU No. 2014-15, “
Disclosure of Uncertainties About an Entity’s Ability to Continue
as a Going Concern
, or ASU 2014-15. ASU 2014-15 amends FASB ASC 205-40
Presentation of Financial Statements – Going
Concern”
, by providing guidance on determining when and how reporting entities must disclose going-concern uncertainties
in their financial statements, including requiring management to perform interim and annual assessments of an entity’s ability
to continue as a going concern within one year of the date of issuance of the entity’s financial statements and providing
certain disclosures if there is substantial doubt about the entity’s ability to continue as a going concern. ASU 2014-15
will be effective after December 15, 2016, and early adoption is permitted.
Management
does not believe that any other recently issued, but not effective, accounting standards if currently adopted would have a material
effect on the accompanying consolidated financial statements.
NOTE
3 – DISCONTINUED OPERATIONS
During
the fourth quarter of 2016, we decided to discontinue operations of our Dionisio Farms and Produce (DFP) subsidiary. We decided
to sell all assets associated with this business due to the sustained losses incurred.
The
assets and liabilities of the discontinued operations are presented separately under the captions “Assets of discontinued
operations held for sale” and Liabilities of discontinued operations held for sale,” respectively, in the accompanying
Consolidated Balance Sheets at December 31, 2017 and December 31, 2016 consist of the following:
Assets
of discontinued operations held for sale:
|
|
December
31, 2017
|
|
|
December
31, 2016
(as re-stated)
|
|
Cash
|
|
$
|
-
|
|
|
$
|
6,000
|
|
Accounts
receivable
|
|
|
-
|
|
|
|
37,000
|
|
Deposits
and other current assets
|
|
|
-
|
|
|
|
57,000
|
|
Land
and equipment
|
|
|
-
|
|
|
|
2,685,000
|
|
Total
assets
|
|
$
|
-
|
|
|
$
|
2,785,000
|
|
Liabilities of discontinued
operations held for sale
|
|
|
|
|
|
|
|
|
Accounts
payable
|
|
$
|
-
|
|
|
$
|
777,000
|
|
Accrued
liabilities
|
|
|
-
|
|
|
|
42,000
|
|
Notes
payable
|
|
|
-
|
|
|
|
2,022,000
|
|
Total
Liabilities
|
|
$
|
-
|
|
|
$
|
2,841,000
|
|
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
19
|
The
income from discontinued operations presented in the statements of operations consist of the following for the year ended December
31, 2017 and December 31, 2016:
|
|
December 31, 2017
|
|
|
December 31, 2016
|
|
Revenues
|
|
$
|
-
|
|
|
$
|
3,774,000
|
|
Cost of goods sold
|
|
|
-
|
|
|
|
(4,308,000
|
)
|
General and administrative expenses
|
|
|
(993,000
|
)
|
|
|
-
|
|
Depreciation and amortization
|
|
|
(1,000
|
)
|
|
|
(560,000
|
)
|
Interest
|
|
|
(43,000
|
)
|
|
|
(284,000
|
)
|
Other (gain (loss) on disposal of assets and intangibles)
|
|
|
(8,000
|
)
|
|
|
(1,246,000
|
)
|
Total
|
|
$
|
(1,045,000
|
)
|
|
$
|
(2,624,000
|
)
|
On
March 3, 2017, the Company’s land and water assets associated with farming operations were auctioned off. Gross proceeds
fom the auction were $1,740,000 with net proceeds estimated to be $1,583,000. Proceeds were used to pay off secured debt first
with any residual proceeds used to pay unsecured debt.
NOTE
4 – INVESTMENTS AND LONG-LIVED ASSETS
Land
Upon
purchasing land, the value is recorded at the purchase price or fair value, whichever is more accurate. Costs incurred to prepare
the land for the intended purpose, which is efficient irrigated farming, is also capitalized in the recorded cost of the land.
No amortization or depreciation is taken on Land. However, the land is reviewed by management at least once per year to ascertain
if a further analysis is necessary for any potential impairments.
Water
rights and infrastructure
The
Company has acquired both direct flow water rights and water storage rights. We have obtained water rights through the purchase
of shares in a mutual ditch company, which we did with our purchase of shares in HCIC, or through the purchase of an entity holding
water rights, which we did with our purchase of the Orlando. The Company may also acquire water rights through outright purchase.
In all cases, such rights are recognized under decrees of the Colorado water court and administered under the jurisdiction of
the Office of the State Engineer.
Upon
purchasing water rights, the value is recorded at our purchase price. If a majority interest is acquired in a company holding
water assets (potentially with other assets including water delivery infrastructure, right of ways, and land), the Company determines
the fair value of the assets. To assist with the valuation, the Company may consider reports from a third-party valuation firm.
If the value of the water rights is greater than what the Company paid then a bargain purchase gain is recognized. If the value
of the water assets are less than what the Company paid then goodwill is recognized.
Subsequent
to purchase, management periodically evaluates the carrying value of its assets, and if the carrying value is in excess of fair
market value, the Company will establish an impairment allowance. Currently, there $6,930,000 in impairments on the Company’s
land and water rights. No amortization or depreciation is taken on the water rights.
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
20
|
Construction
in progress
During
the year ended December 31, 2016, the Company transferred, as a partial completion, $3,315,000 into the first greenhouse. The
Company has expended $8,922,000 on greenhouses 1 and 2. Management’s current plan is to complete greenhouse 2 to be 90,000
square feet with an associated 15,000 square foot warehouse.
|
|
Year
ended December 31,
|
|
|
|
2017
|
|
|
2016
|
|
Beginning
balance
|
|
$
|
3,520,000
|
|
|
$
|
4,684,000
|
|
Additions
|
|
|
506,000
|
|
|
|
2,495,000
|
|
Finished
- Transferred
|
|
|
(665,000
|
)
|
|
|
(3,659,000
|
)
|
Ending
Balance
|
|
$
|
3,361,000
|
|
|
$
|
3,520,000
|
|
NOTE
5 – NOTES PAYABLE
HCIC
Seller Carry Back Notes
Beginning
on September 17, 2009, Two Rivers began acquiring shares in HCIC and related land from a HCIC shareholder. As part of these acquisitions,
many of the sellers financed notes payable with Two Rivers and HCIC. As of December 31, 2012, these loans totaled $7,364,000.
The notes carry interest at 6% per annum, interest payable monthly, the principal amounts were due at various dates from March
31, 2013 through September 30, 2016, and are collateralized by HCIC share.
In
June 2013, the Company negotiated an extension on holders representing $6,164,000 of the seller carry back notes. Previously these
amounts were due either August or September 2013. The holders of the notes agreed to extend the due date to June 30, 2016. In
exchange for this extension, the Company increased the principal balance by 20% from $6,164,000 to $7,397,000, paid 5.43% against
the principal and agreed to begin paying monthly interest and principal at a 20-year amortization rate.
In
May 2016, the Company negotiated another extension on holders representing $5,214,000 to extend the due date from June 30, 2016
to June 30, 2019. The extension reset the amortization period to 12 years, kept interest at 6% per year, and called for a 5% principal
reduction in February, 2017. Payments to all of the HCIC note holders are behind. The Company is in technical default on $6,371,000
of the HCIC carry back notes due to non-payment of interest and principle. Consequently, the entire amount of the notes has been
classified as current.
For
the year ended December 31, 2017, h
olders representing $3,181,000
of the notes held conversion rights into the Company’s common shares at $1.00 to $1.25. These conversions were cancelled
and replaced by 5-year warrants at $3.00 per share. A total of 1,367,000 warrants were issued. The warrants issued had a fair
value of $277,000 using the Black Scholes method of fair value determination.
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
21
|
Colorado
Water Conservation Loan (“CWCB”)
On
March 5, 2012, the Company closed long-term financing with the Colorado Department of Natural Resources, Colorado Water Conservation
Board in the amount of $1,185,000 (the “CWCB Loan”). This loan partially financed the rehabilitation of the Cucharas
Reservoir to temporarily bring it into safety compliance with the Colorado State Engineers office. Further, the CWCB Loan assisted
with the rehabilitation of the Orlando facilities through the installation of a new outlet gate/pipe. There was a $12,000 service
fee due upon closing. This amount is being amortized over the expected life of the CWCB Loan, which is 20 years with interest
fixed at 2.5% per annum. During the year ended December 31, 2016, the Company paid an additional $210,000 toward the CWCB Loan
principal in order to release CWCB’s lien on 157 acres being used to build GrowCo greenhouses. As of December 31, 2017,
and 2016, the amounts outstanding under the CWCB Loan totaled $748,000 and $798,000, respectively.
FirstOak
Bank – Dionisio Purchase
The
Company purchased Dionisio assets in 2012.
The cost of the Dionisio
land/water acquisition was $1,500,000, of which $900,000 was financed by FirstOak Bank and $600,000 was paid in cash.
The
terms of the FirstOak loan is at 1% above the base rate on corporate loans posted by at least 75% of the nation’s 30 largest
banks known as the Wall Street Journal Prime Rate (3.50% as of December 31, 2016 and 3.25% as of December 31, 2015), subject to
a minimum of 6% per annum. The FirstOak loan is secured by the Dionisio assets, which include 146 shares of the Bessemer Irrigation
Ditch Company (“BIDC”). There are five annual payments of $76,000 due each December 15 commencing December 15, 2012.
A balloon payment of all accrued interest and outstanding principal was due June 15, 2017. As of December 31, 2016 the amounts
outstanding under the FirstOak loan totaled $771,000. In March, 2017 this debt was settled through the liquidation of Dionisio
Farms and Produce (“DFP”).
In
May 2014, the Company also borrowed $176,000 to purchase additional farmland. The loan is at 1.5% above the base rate on corporate
loans posted by at least 75% of the nation’s 30 largest banks known as the Wall Street Journal Prime Rate, subject to a
minimum of 6% per annum. The FirstOak loan is secured by 9 BIDC shares, well permits and water leases. There are five annual payments
of $15,000 due each December 15 commencing December 15, 2014. A balloon payment of all accrued interest and outstanding principal
was due December 5, 2018 of $160,000. As of December 31, 2016 the amounts outstanding under the FirstOak loan totaled $118,000,
respectively. In March, 2017 this debt was settled through the liquidation of DFP.
Seller
Carry Back – Dionisio
On
November 2, 2012, the Company acquired the Dionisio produce business and related equipment for $1,500,000. The seller carried
back $600,000 (which was subsequently reduced to $590,000 due to the Company assuming additional debt owed by seller) of this
purchase price. The note is paid quarterly, interest only at 6% per annum. The note is due November 2, 2017. Certain assets of
Dionisio secure the note. In March, 2017 this debt was settled through the liquidation of DFP.
FirstOak
Bank – Mater Purchase
The
cost of the Mater land/water acquisition was $325,000, of which $169,000 was financed by FirstOak, $25,000 seller carry back and
$131,000 was paid in cash. The purchase price has been allocated to land for $106,000 and $219,000 to water rights representing
the purchase of BIDC shares.
The
terms of the First Oak loan is at 1% above the base rate on corporate loans posted by at least 75% of the nation’s 30 largest
banks known as the Wall Street Journal Prime Rate, subject to a minimum of 6% per annum. The FirstOak loan is secured by the Mater
assets. There are four annual payments of $15,000 due each December 5 commencing December 15, 2013. A balloon payment of all accrued
interest and outstanding principal is due December 5, 2017 for $159,000.
As
of December 31, 2016, the amounts outstanding under the FirstOak loan totaled $156,000. In March, 2017 this debt was settled through
the liquidation of DFP.
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
22
|
McFinney
Agri-Finance LLC (McFinney) and Ellicot second mortgage (Ellicot)
On
March 15, 2013, the Company purchased unimproved land in El Paso county, Colorado for a purchase price of $1,250,000. The company
paid $620,000 (including closing costs and allocations) and financed $650,000 McFinney and $400,000 Ellicot, through private investors.
The
terms of the McFinney financing is for monthly payments of principal and interest of $4,238 per month, a fixed interest rate of
6.8% per annum, with the remaining principal due on April 1, 2018. The note is secured by a deed of trust on the 2,579 acres of
land purchased and a guaranty of payment by the Company. The Company has been in contact with the lender and has reached a verbal
agreement to extend the loan another 12 months. However, since the agreement is not in writing, the Company has classified this
debt as current.
As
of December 31, 2017 and 2016, the amounts outstanding under the McFinney loan totaled $441,000 and $625,000, respectively. The
paydown of principal occurred through land sales secured by the loan and the payment of 75% of the land sale proceeds to pay down
the principal in return for parital land releases from the bank.
GrowCo
$4M Notes
During
the ended December 31, 2015, the Company, through its subsidiary GrowCo, issued $4,000,000 in promissory notes to 17 individual
investors. The notes have a security interest in the land, water and improvements to the 157 acres where GrowCo Partners 1 and
GrowCo Partners 2 are developing the greenhouses. The notes pay 22.5% in annual interest, with interested paid monthly, and are
due April 1, 2020. The Company cannot prepay the notes; however, noteholders have the right to call the notes at the first anniversary,
or thereafter, of each note with a 60-day notice to the Company. Due to this call provision, the net amount of the GrowCo note
balance of $4,000,000 is presented as a current portion of long term debt on the financials.
The
GrowCo notes investors also received one GrowCo common stock $1 warrant for each $1 invested. These warrants expire on April 30,
2020.
On
January 19, 2018 Blue & Green, LLC (“Blue Green”) filed a complaint against GrowCo, Inc. claiming a default on
payments by GrowCo to Blue Green under the terms of the $4 million GrowCo $2,115,000 promissory note held by Blue Green. The complaint
is requesting immediate payment of the note, back due interest in excess of $300,000, and attorney fees.
GrowCo
Exchange Notes
In
the first quarter of 2016, GrowCo obtained $300,000 in subscriptions and associated payments in a promissory note offering of
up to $1.5 million. In September 2016 GrowCo changed the offering to two series of promissory notes with aggregate principal amounts
of up to either $6 million or $7 million, in each case together with warrants to purchase, at a price of $0.25 per share, .25
GrowCo common shares for each dollar invested in the related promissory notes. The initial four investors in the $6 million version
of the notes received warrants to purchase one TURV share for each $1.00 invested at a price of $0.50 per share. Of the $300,000
principal amount of notes issued earlier, $200,000 were exchanged for the new note and warrant packages and $100,000 remain outstanding
as of December 31, 2017.
During
the year ended December 31, 2017, GrowCo raised an additional $1,906,000 under the GrowCo Exchange Notes offering.
During
the year ended December 31, 2017, the Company incurred $302,000 in debt issuance costs related to its GrowCo Exchange Notes offering.
The debt issuance costs are being amortized via the effective interest method, using 22.5%, over the life of the notes.
Hemp
Crop Participation Loan
For
the twelve months ended December 31, 2016, DFP issued short term notes, due March 31, 2017, to assist with the payment of crop
inputs. These notes are secured by the Company’s live agriculture products planted during the 2016 calendar year. On August
10, 2016, Wayne Harding, our Chief Executive Officer, invested $7,000 in the DFP Hemp Crop Participation Loan (see Note 11). These
notes were paid in full in 2017.
El
Paso Land Loan
In
August, 2017, the Company borrowed $275,000 pledging a second lien on property the Company owns in El Paso County Colorado. This
loan pays 18%/annum interest and is to be repaid through the sale of 35 to 40 acre lots. The repayment is based on 25% of the
net proceeds from sales. The stated maturity date is August 1, 2019.
WRC
Convertible Note
For
the year ended December 31, 2017,
Water Redevelopment Company
(WRC) issued convertible notes which are due note April 1, 2020. It carries interest at 12% per annum and is secured
by a security interest in the water supply agreement between the Company and a real estate developer in the area of the Orlando/Butte
Valley facilities. This note, at the option of the holder, can be converted into one share of WRC preferred shares for each $4.23
of principal balance and accrued interest. At December 31, 2017, the balance was $300,000.
OID
Black Mountain Note
This
note was entered into on April 26, 2017. It is an orginal issuance discount note with the face principal amount of $330,000 and
gross cash paid at closing of $300,000. It was due on October 26, 2017, but has been extended to now being due on April 1, 2018.
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
23
|
Below
is a summary of the Company’s long term debt:
|
|
December
31, 2017
|
|
|
|
|
|
|
|
|
|
Note
|
|
Principal
Balance
|
|
|
Accrued
Interest
|
|
|
Discount
|
|
|
Dec
31, 2016 Principal Balance
|
|
|
Interest
rate
|
|
|
Security
|
HCIC
seller carry back
|
|
$
|
6,301,000
|
|
|
$
|
296,000
|
|
|
$
|
-
|
|
|
$
|
6,645,000
|
|
|
|
6
|
%
|
|
Shares
in the Mutual Ditch Company
|
CWCB
|
|
|
748,000
|
|
|
|
6,000
|
|
|
|
-
|
|
|
|
798,000
|
|
|
|
2.5
|
%
|
|
Certain Orlando and
Farmland assets
|
FirstOak Bank - Dionisio
Farm
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
771,000
|
|
|
|
(1
|
)
|
|
Dionisio farmland and
146.4 shares of Bessemer Irrigating Ditch Company Stock, well permits
|
FirstOak Bank -
Dionisio Farm
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
118,000
|
|
|
|
(2
|
)
|
|
Dionisio farmland and
9 shares of Bessemer Irrigating Ditch Company Stock, well permits, water leases
|
Seller Carry Back
- Dionisio
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
590,000
|
|
|
|
6.0
|
%
|
|
Unsecured
|
FirstOak Bank -
Mater
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
156,000
|
|
|
|
(1
|
)
|
|
Secured by Mater assets
purchased
|
McFinney Agri-Finance
|
|
|
441,000
|
|
|
|
-
|
|
|
|
|
|
|
|
625,000
|
|
|
|
6.8
|
%
|
|
2,579 acres of pasture
land in Ellicott Colorado
|
GrowCo $4M notes
|
|
|
4,000,000
|
|
|
|
531,000
|
|
|
|
(62,000
|
)
|
|
|
4,000,000
|
|
|
|
22.5
|
%
|
|
Various land and water
assets
|
GrowCo $1.5M exchange
note
|
|
|
100,000
|
|
|
|
-
|
|
|
|
-
|
|
|
|
100,000
|
|
|
|
22.5
|
%
|
|
Various land and water
assets
|
GrowCo $6M exchange
note
|
|
|
1,855,000
|
|
|
|
288,000
|
|
|
|
(76,000
|
)
|
|
|
2,010,000
|
|
|
|
22.5
|
%
|
|
Various land and water
assets
|
GrowCo $7M exchange
note
|
|
|
3,132,000
|
|
|
|
351,000
|
|
|
|
(143,000
|
)
|
|
|
2,677,000
|
|
|
|
10-22.5%
|
|
|
Various land and water
assets
|
GrowCo $2M exchange
note
|
|
|
1,520,000
|
|
|
|
238,000
|
|
|
|
(94,000
|
)
|
|
|
-
|
|
|
|
|
|
|
Various land and water
assets
|
Hemp loan
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
71,000
|
|
|
|
18.0
|
%
|
|
Crop Lien
|
GCP1 Short Term
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
25,000
|
|
|
|
22.5
|
%
|
|
None
|
Bridge loan Harding
|
|
|
13,000
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
18.0
|
%
|
|
None
|
El Paso land
|
|
|
275,000
|
|
|
|
19,000
|
|
|
|
(21,000
|
)
|
|
|
-
|
|
|
|
18.0
|
%
|
|
Second on El Paso County
land
|
WRC convertible
|
|
|
300,000
|
|
|
|
26,000
|
|
|
|
-
|
|
|
|
-
|
|
|
|
12.0
|
%
|
|
Lien on water supply
agreement
|
Equipment loans
|
|
|
122,000
|
|
|
|
3,000
|
|
|
|
-
|
|
|
|
300,000
|
|
|
|
5
- 8%
|
|
|
Various equipment
|
OID
Black Mountain
|
|
|
300,000
|
|
|
|
-
|
|
|
|
(54,000
|
)
|
|
|
-
|
|
|
|
|
|
|
None
|
Total
|
|
|
19,107,000
|
|
|
$
|
1,758,000
|
|
|
$
|
(450,000
|
)
|
|
|
18,886,000
|
|
|
|
|
|
|
|
Less: Note discounts
|
|
|
(450,000
|
)
|
|
|
|
|
|
|
|
|
|
|
(530,000
|
)
|
|
|
|
|
|
|
Less:
Current portion net of discount
|
|
|
(17,419,000
|
)
|
|
|
|
|
|
|
|
|
|
|
(12,590,000
|
)
|
|
|
|
|
|
|
Long
term portion net of discount
|
|
$
|
1,238,000
|
|
|
|
|
|
|
|
|
|
|
$
|
5,766,000
|
|
|
|
|
|
|
|
Notes:
(1)
Prime rate + 1%, but not less than 6%
(2)
Prime rate + 1.5%, but not less than 6%
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
24
|
Current
portion long term debt:
|
|
December
31, 2017
|
|
HCIC seller
carry back
|
|
$
|
6,301,000
|
|
CWCB
|
|
|
70,000
|
|
McFinney Agri-Finance
|
|
|
441,000
|
|
GrowCo $4M note
|
|
|
4,000,000
|
|
GrowCo $1.5M exchange
note
|
|
|
100,000
|
|
GrowCo $6M exchange
note
|
|
|
1,855,000
|
|
GrowCo $7M exchange
note
|
|
|
3,132,000
|
|
GrowCo $2M exchange
note
|
|
|
1,520,000
|
|
Bridge loan Harding
|
|
|
13,000
|
|
TURV Long Term NP
|
|
|
100,000
|
|
Equipment loans
|
|
|
37,000
|
|
OID
Black Mountain
|
|
|
300,000
|
|
Total
|
|
|
17,869,000
|
|
Less discount
|
|
|
(450,000
|
)
|
|
|
$
|
17,419,000
|
|
Schedule
of principal payment due by year:
Year
Ending December 31,
|
|
Total
|
|
2018
|
|
$
|
17,869,000
|
|
2019
|
|
|
275,000
|
|
2020
|
|
|
410,000
|
|
2021
|
|
|
71,000
|
|
2022
& Beyond
|
|
|
482,000
|
|
Total
|
|
$
|
19,107,000
|
|
NOTE
6 – INFORMATION ON BUSINESS SEGMENTS
We
organize our business segments based on the nature of the products and services offered. We focus on the Water and Greenhouse
business with Two Rivers Water & Farming Company as the Parent company. Therefore, we report our segments by these lines of
businesses: Greenhouse and Water. Greenhouse contains our leasing of state of the art greenhouses to cannabis growers. Water contains
our Water Business (HCIC and Orlando). Our Parent category is not a separate reportable operating segment. Segment allocations
may differ from those on the face of the income statement. The Farming Business has been discontinued and therefore the operating
losses and assets have been summarized.
In
the following tables of financial data, the total of the operating results of these business segments is reconciled, as appropriate,
to the corresponding consolidated amount. There are some corporate expenses that were not allocated to the business segments,
and these expenses are contained in the “Total Operating Expenses” under Parent.
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
25
|
Operating
results for each of the segments of the Company are as follows (in thousands):
|
|
Twelve Months Ended December 31, 2017
|
|
|
Twelve Months Ended December 31, 2016
|
|
|
|
Parent
|
|
|
Farms
|
|
|
Greenhouse
|
|
|
Water
|
|
|
Total
|
|
|
Parent
|
|
|
Farms
|
|
|
Greenhouse
|
|
|
Water
|
|
|
Total
|
|
Revenue
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
620
|
|
|
$
|
72
|
|
|
$
|
692
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
204
|
|
|
$
|
68
|
|
|
$
|
272
|
|
Less: direct cost of revenue
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
33
|
|
|
|
33
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Gross Margin
|
|
|
-
|
|
|
|
-
|
|
|
|
620
|
|
|
|
39
|
|
|
|
659
|
|
|
|
-
|
|
|
|
-
|
|
|
|
204
|
|
|
|
68
|
|
|
|
272
|
|
Total Operating Expenses
|
|
|
(752
|
)
|
|
|
-
|
|
|
|
(501
|
)
|
|
|
(8,145
|
)
|
|
|
(9,398
|
)
|
|
|
(1,208
|
)
|
|
|
-
|
|
|
|
(2,457
|
)
|
|
|
(212
|
)
|
|
|
(3,877
|
)
|
Total Other Income (Expense)
|
|
|
(530
|
)
|
|
|
-
|
|
|
|
(2,016
|
)
|
|
|
(368
|
)
|
|
|
(2,914
|
)
|
|
|
(24
|
)
|
|
|
-
|
|
|
|
(1,463
|
)
|
|
|
(603
|
)
|
|
|
(2,090
|
)
|
Net (Loss) from Operations Before Income Taxes
|
|
|
(1,282
|
)
|
|
|
-
|
|
|
|
(1,897
|
)
|
|
|
(8,474
|
)
|
|
|
(11,653
|
)
|
|
|
(1,232
|
)
|
|
|
-
|
|
|
|
(3,716
|
)
|
|
|
(747
|
)
|
|
|
(5,695
|
)
|
Income Taxes (Expense)/Credit
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Net (Loss) from Operations
|
|
|
(1,282
|
)
|
|
|
-
|
|
|
|
(1,897
|
)
|
|
|
(8,474
|
)
|
|
|
(11,653
|
)
|
|
|
(1,232
|
)
|
|
|
-
|
|
|
|
(3,716
|
)
|
|
|
(747
|
)
|
|
|
(5,695
|
)
|
Net (Loss) from Discontinued Operations
|
|
|
-
|
|
|
|
(1,045
|
)
|
|
|
-
|
|
|
|
-
|
|
|
|
(1,045
|
)
|
|
|
-
|
|
|
|
(2,624
|
)
|
|
|
-
|
|
|
|
-
|
|
|
|
(2,624
|
)
|
Preferred dividends
|
|
|
(369
|
)
|
|
|
-
|
|
|
|
(478
|
)
|
|
|
(16
|
)
|
|
|
(863
|
)
|
|
|
(1,937
|
)
|
|
|
-
|
|
|
|
(671
|
)
|
|
|
-
|
|
|
|
(2,608
|
)
|
Non-controlling interest
|
|
|
-
|
|
|
|
-
|
|
|
|
644
|
|
|
|
(7
|
)
|
|
|
637
|
|
|
|
-
|
|
|
|
-
|
|
|
|
206
|
|
|
|
(6
|
)
|
|
|
200
|
|
Net (Loss)
|
|
$
|
(1,651
|
)
|
|
$
|
(1,045
|
)
|
|
$
|
(1,731
|
)
|
|
$
|
(8,497
|
)
|
|
$
|
(12,924
|
)
|
|
$
|
(3,169
|
)
|
|
$
|
(2,624
|
)
|
|
$
|
(4,181
|
)
|
|
$
|
(753
|
)
|
|
$
|
(10,727
|
)
|
Segment Assets
|
|
$
|
766
|
|
|
$
|
-
|
|
|
$
|
9,433
|
|
|
$
|
27,953
|
|
|
$
|
38,152
|
|
|
$
|
726
|
|
|
$
|
2,785
|
|
|
$
|
9,179
|
|
|
$
|
35,077
|
|
|
$
|
47,767
|
|
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
26
|
NOTE
7 - EQUITY TRANSACTIONS
Common
Stock
The
Company has authorized 100,000,000 shares of common stock with a par value of $0.001. The total issued common stock as of December
31, 2017, was 32,749,920 common shares.
During
the year ended December 31, 2017, the Company had the following common stock transactions:
|
●
|
issued 1,417,000 shares for early
warrant exercises;
|
|
●
|
issued 52,260 shares for conversions
by TR Capital preferred units;
|
|
●
|
issued 25,200 shares for investor
relations services;
|
|
●
|
issued 139,000 from an RSU exercise,
and
|
|
●
|
issued 665,000 shares in exchange
for debt.
|
During
the year ended December 31, 2016, Two Rivers had the following common stock transactions:
|
●
|
issued
1,880,948 shares to its former CEO for RSU’s previously awarded;
|
|
●
|
returned
35,000 from a former independent board member;
|
|
●
|
issued
127,500 shares to its independent board members for 2015 service;
|
|
●
|
issued
85,000 shares to a former director for RSU’s previously awarded;
|
|
●
|
issued
727,500 shares to an HCIC debt holders in return for reduction in debt;
|
|
●
|
issued
649,700 shares for warrant exercises, and
|
|
●
|
issued
35,616 shares to holders of TR Capital for conversion into the Company’s shares.
|
Stock
Incentive Plans
The
Company previously had a 2005 Stock Option Plan (“2005 Plan”) that was superseded by the Two Rivers 2011 Long-Term
Stock Incentive Plan (“2011 Plan”). Upon the Company’s shareholder adoption of the 2011 Plan, the 2005 Plan
stopped issuance of any further grants, except for grants previously committed by agreement.
Under
the 2005 Plan, we have the following stock options issued and outstanding:
Company
Relationship
|
|
Options
|
|
|
Date
of Grant
|
|
|
Vesting
Date
|
|
Performance
Requirement
|
|
Expiration
Date
|
|
Exercise
Price
|
|
|
Exercised
to Date
|
|
Consultant
|
|
|
600,000
|
|
|
|
Various
|
|
|
Various
|
|
Satisfied
|
|
Various
|
|
$
|
0.70
|
|
|
|
-
|
|
There
were no options issued under the 2005 Plan for the years ending December 31, 2017 and 2016.
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
27
|
A
summary of the Two Rivers 2005 Option Plan (“2005 Plan”) is as follows:
|
|
Shares
|
|
|
Weighted
Average Exercise Price
|
|
Outstanding
December 21, 2015
|
|
|
1,989,867
|
|
|
$
|
1.25
|
|
Granted
|
|
|
-
|
|
|
|
-
|
|
Cancelled
|
|
|
-
|
|
|
|
-
|
|
Expired
|
|
|
-
|
|
|
|
-
|
|
Exercised
|
|
|
-
|
|
|
|
-
|
|
Outstanding December
31, 2016
|
|
|
1,989,867
|
|
|
|
1.25
|
|
Granted
(1)
|
|
|
600,000
|
|
|
|
0.70
|
|
Cancelled
(1)
|
|
|
(600,000
|
)
|
|
|
1.25
|
|
Expired
|
|
|
(1,389,867
|
)
|
|
|
1.25
|
|
Exercised
|
|
|
-
|
|
|
|
-
|
|
Outstanding
December 31, 2017
|
|
|
600,000
|
|
|
$
|
0.70
|
|
Options
Exercisable, December 31, 2017
|
|
|
600,000
|
|
|
$
|
0.70
|
|
Note
1: 600,000 options were extended and repriced from $1.25/share to $0.70/share
For
the year ended December 31, 2017, the Company extended 600,000 options that were due to expire in 2016 and 2017 to an expiration
dates in 2018 and 2019. This extension resulted in $52,000 of expense being recorded in 2017.
For
the yeard ended December 31, 2017, the Company extended the same 600,000 options and reset the strike price from $1.25/share to
$0.70/share and extended the expiration to occur in 2021 and 2022. This extension resulted in $85,000 of expense being recorded
in 2017.
Under
the 2011 Plan, we have the following stock options issued and outstanding:
Company
Relationship
|
|
Options
|
|
|
Date
of Grant
|
|
|
Vesting
Date
|
|
Performance
Requirement
|
|
Expiration
Date
|
|
Exercise
Price
|
|
|
Exercised
to Date
|
|
CEO
|
|
|
825,000
|
|
|
|
Various
|
|
|
Various
|
|
Ongoing
|
|
2026-2017
|
|
|
Variable
|
|
|
|
-
|
|
Directors
|
|
|
1,380,000
|
|
|
|
Various
|
|
|
Various
|
|
Satisfied
|
|
Various
|
|
$
|
0.53
|
|
|
|
-
|
|
Employees
|
|
|
806,500
|
|
|
|
Various
|
|
|
Various
|
|
Ongoing
|
|
Jun-’26
|
|
$
|
0.53
|
|
|
|
-
|
|
Others
|
|
|
236,000
|
|
|
|
Various
|
|
|
Various
|
|
Satisfied
|
|
Various
|
|
|
Variable
|
|
|
|
-
|
|
Total
|
|
|
3,247,500
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Option
Valuation Process
The
fair value of each option award is estimated on the date of grant. To calculate the fair value of options, the Company uses the
Black-Scholes model employing the following variables:
|
|
2017
|
|
|
2016
|
|
Expected
stock price volatility
|
|
|
224
|
%
|
|
|
142
|
%
|
Risk-free interest
rate
|
|
|
1.3
|
%
|
|
|
0.83
|
%
|
Expected option
life (years)
|
|
|
5.00
|
|
|
|
5.00
|
|
Expected annual
dividend yield
|
|
|
0
|
%
|
|
|
0
|
%
|
The
Company arrived at the foregoing estimate of volatility of the Company’s common stock based on the Company’s stock
closing price on a weekly basis and averaged over the prior five years. The risk-free rate for periods within the expected term
of the options is based on the U.S. Treasury yield curve in effect at the time of grant. The Company believes these estimates
and assumptions are reasonable. However, these estimates and assumptions may change in the future based on actual experience as
well as market conditions.
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
28
|
A
summary of the Two Rivers 2011 Long-Term Stock Incentive Plan (“2011 Plan”) is as follows:
|
|
Shares
|
|
Outstanding
December 31, 2015
|
|
|
2,445,448
|
|
Granted
|
|
|
1,872,000
|
|
Cancelled
|
|
|
(72,000
|
)
|
Expired
|
|
|
-
|
|
Issued/Exercised
|
|
|
-
|
|
Outstanding December
31, 2016
|
|
|
4,173,448
|
|
Granted
|
|
|
1,211,500
|
|
Cancelled
|
|
|
(1,993,948
|
)
|
Expired
|
|
|
(25,000
|
)
|
Issued/Exercised
|
|
|
(118,500
|
)
|
Outstanding
December 31, 2017
|
|
|
3,247,500
|
|
Exercisable,
December 31, 2017
|
|
|
1,446,643
|
|
The
option expense from both the 2011 and 2005 Plans were $534,000 and $180,000 for the years ended December 31, 2017 and 2016, respectively.
Under
the 2011 Plan, we have issued the following Restricted Stock Units (RSUs):
Grantee
|
|
Company
Relationship
|
|
RSUs
issued
|
|
|
Date
of Grant
|
|
|
Vesting
Date
|
|
Performance
Requirement
|
|
Exercised
to Date
|
|
Jolee
Henry
|
|
Prior
Director
|
|
|
400,000
|
|
|
|
Oct-10
|
|
|
Jan-11
|
|
n/a
|
|
|
282,000
|
|
The
Company can issue stock awards and options for nonemployee services. If stock is granted, the Company values the stock using an
average of the closing price of the Company’s stock over the period that the service was rendered. If options are granted,
the Company uses the Black-Scholes model for determining fair value (see above).
Warrants
As
of December 31, 2017, the Company has outstanding the following warrants to purchase common stock:
Grantee
|
|
Company
Relationship
|
|
Shares
|
|
|
Date
of Grant
|
|
|
Vesting
Date
|
|
Expiration
Date
|
|
|
Exercise
Price
|
|
Investor
Group
|
|
Investors
|
|
|
300,000
|
|
|
|
Feb-12
|
|
|
Mar-12
|
|
|
(1
|
)
|
|
$
|
1.00
|
|
HCIC Note Holders
|
|
Creditors
|
|
|
473,750
|
|
|
|
Jun-13
|
|
|
Jun-13
|
|
|
Jun-18
|
|
|
$
|
3.00
|
|
TR Capital Partners,
LLC
|
|
Investors
|
|
|
14,168,944
|
|
|
|
Jul-05
|
|
|
Jul-05
|
|
|
Jan-19
|
|
|
$
|
2.10
|
|
GrowCo Exchange Note
|
|
Creditors
|
|
|
700,000
|
|
|
|
Apr-16
|
|
|
Apr-16
|
|
|
May-21
|
|
|
$
|
0.50
|
|
Two Rivers
|
|
Financial Advisor
|
|
|
15,000
|
|
|
|
Apr-17
|
|
|
Apr-17
|
|
|
Apr-22
|
|
|
$
|
0.58
|
|
Black Mountain Equity
|
|
Creditor
|
|
|
390,634
|
|
|
|
Apr-17
|
|
|
Apr-17
|
|
|
Apr-22
|
|
|
$
|
0.27
|
|
El Paso land creditors
|
|
Creditors
|
|
|
275,000
|
|
|
|
Aug-17
|
|
|
Aug-17
|
|
|
Aug-22
|
|
|
$
|
0.35
|
|
Black
Mountain Equity
|
|
Creditors
|
|
|
146,000
|
|
|
|
Sep-17
|
|
|
Sep-17
|
|
|
Sep-22
|
|
|
$
|
1.00
|
|
|
|
|
|
|
16,469,328
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)
|
These
warrants are priced at the same price per share as the expected equity offering and expire one year after the completion of
the expected equity offering.
|
For
the years ended December 31, 2017 and 2016, warrant expense totaled $92,000 and $327,000, respectively.
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
29
|
TR
Capital Preferred Membership Units
The
30,159,000 TR Capital Preferred Membership units issued during the year ended December 31, 2014 are convertible into 1 common
stock share of the Company and one-half warrant to purchase a share of stock of the Company. In accordance with ASC Topic 470-20,
Debt (and other convertible instruments with beneficial convertible features (“BCF”),
the Company determined
that a BCF amounting to approximately $12,337,000 and a relative fair value attached to the warrants of approximately $3,641,000
were recorded for the year ended December 31, 2014. On the balance sheet as of December 31, 2014, these amounts were recorded
as retained earnings and as additional paid in capital, respectively, and are representative of preferred share dividends available
to non-controlling interest holders in the entity.
NOTE
8 – INCOME TAXES
The
Company accounts for income taxes in accordance with ASC 740, Income Taxes (formerly Statement of Financial Accounting Standard
No., 109, Accounting for Income Taxes). Under the provisions of ASC 740, a deferred tax asset or liability (net of a valuation
allowance) is provided in the financial statements by applying the provisions of applicable laws to measure the deferred tax consequences
of temporary differences that will result in taxable or deductible amounts in future years as a result of events recognized in
the financial statements in the current or proceeding years.
The
items accounting for the difference between income taxes computed at the federal statutory rate and the provision for income taxes
consists of the following:
Effective tax rate
|
|
|
|
|
Federal
statutory rate
|
|
|
34.00
|
%
|
Effect of:
|
|
|
|
|
State
taxes, net of federal benefit
|
|
|
3.06
|
%
|
Permanent
items
|
|
|
-3.91
|
%
|
Return
to Provision Adjustment
|
|
|
5.65
|
%
|
Other
Adjustment
|
|
|
-%
|
|
Valuation
allowance
|
|
|
-38.80
|
%
|
Effective
income tax rate
|
|
|
0.00
|
%
|
Book
loss reconciliation to estimated taxable income is as follows (in thousands):
|
|
2017
|
|
|
2016
|
|
Book loss
|
|
$
|
(12,924
|
)
|
|
$
|
(10,933
|
)
|
Tax adjustments:
|
|
|
|
|
|
|
|
|
Stock Based Comp
|
|
$
|
956
|
|
|
$
|
61
|
|
Stock Comp Exercised
|
|
$
|
-
|
|
|
$
|
(33
|
)
|
Impairments
|
|
$
|
6,900
|
|
|
$
|
-
|
|
Capital Expenses
|
|
$
|
1,032
|
|
|
$
|
2,629
|
|
Meals & Entertainment
|
|
$
|
-
|
|
|
$
|
6
|
|
Warrant Expense
|
|
$
|
331
|
|
|
$
|
327
|
|
Political Contributions
|
|
$
|
-
|
|
|
$
|
16
|
|
Gain / Loss on Disposal
|
|
$
|
(89
|
)
|
|
$
|
-
|
|
Depreciation
|
|
$
|
(617
|
)
|
|
$
|
514
|
|
Amortization
|
|
$
|
(14
|
)
|
|
$
|
834
|
|
Estimate
of taxable income
|
|
$
|
(4,425
|
)
|
|
$
|
(6,579
|
)
|
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
30
|
Income
tax provision is summarized below (in thousands):
|
|
2017
|
|
|
2016
|
|
Current expense (benefit)
|
|
|
|
|
|
|
|
|
Federal
|
|
$
|
-
|
|
|
$
|
-
|
|
State
|
|
|
-
|
|
|
|
-
|
|
Total current
|
|
|
-
|
|
|
|
-
|
|
Deferred expense (benefit)
|
|
|
|
|
|
|
|
|
Federal
|
|
|
(4,600
|
)
|
|
|
(2,382
|
)
|
State
|
|
|
(414
|
)
|
|
|
(214
|
)
|
Total deferred
|
|
|
(5,014
|
)
|
|
|
(2,596
|
)
|
Less:
Valuation allowance
|
|
|
5,014
|
|
|
|
2,596
|
|
Total
|
|
$
|
-
|
|
|
$
|
-
|
|
We
will recognize future accrued interest and penalties related to unrecognized tax benefits in income tax expense if incurred. At
December 31, 2017 we had no unrecognized tax benefits in income tax expense, and do not expect any in 2018. Our income tax returns
are no longer subject to Federal tax examinations by tax authorities for years before 2014 and state examinations for years before
2014.
The
components of the deferred tax asset are as follows (in thousands):
Current deferred tax asset:
|
|
2017
|
|
|
2016
|
|
Net operating loss carryforwards
|
|
$
|
(18,309
|
)
|
|
$
|
(16,319
|
)
|
Capital loss
|
|
|
(10
|
)
|
|
|
(10
|
)
|
Bargain purchase
|
|
|
643
|
|
|
|
643
|
|
RSU & stock option expense
|
|
|
(2,349
|
)
|
|
|
(1,995
|
)
|
Fixed Assets and Intangibles
|
|
|
(327
|
)
|
|
|
(214
|
)
|
Charitable Contributions
|
|
|
(5
|
)
|
|
|
(5
|
)
|
Bad Debt
|
|
|
-
|
|
|
|
-
|
|
Total cumulative deferred tax assets
|
|
|
(18,339
|
)
|
|
|
(17,899
|
)
|
Valuation allowance
|
|
|
18,339
|
|
|
|
17,899
|
|
Effective income tax asset
|
|
$
|
-
|
|
|
$
|
-
|
|
For
the years ended December 31, 2017 and December 31, 2016, the deferred tax asset of $18,384,000 and $17,889,000, respectively,
has a valuation allowance of $18,384,000 and $17,899,000, respectively, since management has determined the tax benefit
cannot be reasonably assured of being used in the near future. The net operating loss carryforward, if not used, will begin to
expire in 2029, and is severely restricted as per the Internal Revenue Code if there is a change in ownership. The following is
a summary of the combined net operating loss carryforward (in thousands):
|
|
Federal
|
|
|
Colorado
|
|
12/31/16
|
|
$
|
44,035
|
|
|
$
|
44,035
|
|
12/31/17
|
|
|
4,425
|
|
|
|
4,425
|
|
Balance
|
|
$
|
48,460
|
|
|
$
|
49,460
|
|
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
31
|
NOTE
9 – IMMATERIAL ERROR CORRECTIONS
This
10-K of the Company for the twelve months ended December 31, 2017, includes the restatement of the Company’s previously
filed consolidated balance sheets for the fiscal year ended December 31, 2016.
The
Company’s management has concluded that in the Assets section of the Balance Sheet, Long Term Assets for Land and Water,
and under Liabilities the Liabilities for Discontinued Operations and Notes Payable, net of current portion were misstated and
that for comparative purposes in 2017 filings these figures should be re-stated but that the adjustments are not material modifications.
Accordingly, the Company has determined that prior financial statements should be corrected, even though such revisions are immaterial
with respect to the prior year financial statements. Furthermore, the Company has determined that correcting prior year financial
statements for immaterial changes would not require previously filed reports to be amended.
Under
Long Term Assets, while the Assets of Discontinued Operations Held for Sale as well as Total Assets were stated correctly, due
to a mis-classification of which assets were being held for sale, Land was understated by $952,000 and Water was overstated by
the same amount. Discontinued Operations - Notes Payable was overstated by $798,000, while Notes Payable, net of current portion
was understated by the same amount due to a loan that was improperly classified as a Liability of Discontinued Operations Held
for Sale. While total assets of discontinued operations held for sale was correctly stated, under Long Term Assets, Land was understated
by $952,000 and Water Assets was overstated by the same amount. Neither Net Income or Shareholders Equity were affected by these
mis-statements. The effect of these restatements on the Company’s 2016 full year balance sheet as reported on the Form 10-K
reports, are as follows:
|
|
December
31, 2016 Previously Reported
|
|
|
Net
Change
|
|
|
December
31, 2016 (Restated)
|
|
ASSETS:
|
|
|
|
|
|
|
|
|
|
|
|
|
Long
Term Assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
Land
|
|
$
|
2,851
|
|
|
$
|
952
|
|
|
$
|
3,803
|
|
Water
assets
|
|
|
32,135
|
|
|
|
(952
|
)
|
|
|
31,183
|
|
LIABILITIES
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities
of discontinued operations held for sale
|
|
|
3,639
|
|
|
|
(798
|
)
|
|
|
2,841
|
|
Notes
Payable, net of current portion
|
|
|
4,758
|
|
|
|
798
|
|
|
|
5,556
|
|
NOTE
10 – GOING CONCERN
The
consolidated financial statements have been prepared assuming the Company will continue as a going concern. The Company has not
generated significant revenues and has incurred net losses (including significant non-cash expenses) of approximately $12,924,000
and $10,727,000 during the years ended December 31, 2017 and 2016, respectively. At December 31, 2017, the Company
has a working capital deficit and an accumulated deficit of approximately $24,700,000 and $90,000,000, respectively. The
HCIC seller carry back debt and the GrowCo notes are in technical default. The $4M GrowCo Note is classified as current
due to the holders’ right to call the note upon 60-day’s notice. GrowCo has received notification of an entity holding
$2,115,000 of this debt of its intent to collect the amount of the note, plus back due interest and attorney fees.
These
factors raise doubt about the Company’s ability to continue as a going concern. The accompanying consolidated financial
statements do not include any adjustments relating to the recoverability or classification of assets or the amounts and classification
of liabilities that may result should the Company be unable to continue as a going concern. The following paragraphs describe
management’s plans to mitigate.
Since
December 31, 2017 to March 21, 2018 the Company has collected $535,000 under its financing arrangement with Powerdorn LLC under
debt/equity financing. Currently GrowCo, through GCP1 is receiving rent payments on one-half of the first greenhouse. The first
use of these funds will be to pay GCP1 accounts payable including GCP1’s obligation to GrowCo. In addition, the Company
has received $252,000 in preferred investment into its Water Redevelopment subsidiary. We are in the process of securing
additional debt financing on the land and water assets that we own that are unencumbered.
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
32
|
Additionally,
we continue to reduced our general and administrative and cash required for our operations.
Management
Plans
The
Company has implemented a new strategy involving focusing on its water assets along with associated capital raises through the
formation of Water Redevelopment Company (“WRC”). It is planned that WRC will provide the asset value necessary to
obtain additional financing.
We
believe that the actions discussed above are probable of occurring and mitigating the substantial doubt raised by our historical
operating results. We believe the actions will satisfying our estimated liquidity needs 12 months from the issuance of the financial
statements. However, we cannot predict, with certainty, the outcome of our actions to generate liquidity, including the availability
of additional financing, or whether such actions would generate the expected liquidity as currently planned.
NOTE
11 - COMMITMENTS AND CONTINGENCIES
Operating
Leases
In
January 2016, the Company entered into a new lease with the Colorado Center in Denver Colorado for the corporate headquarters.
The space is 1,775 square feet and monthly payments of $3,900, with minor escalations and common area maintenance charges. The
lease terminates on June 30, 2018. On March 1, 2017 the Company entered into a sub-lease agreement with our related party McGrow
for these office facilities.
The
amounts due at the base rate are as follows:
Period
|
|
Amount
Due
|
|
2018
|
|
$
|
32,000
|
|
In
February 2017 we entered into a new lease with Parker Road Campus, LLC in Aurora, Colorado, for our corporate headquarters. This
space is 1,554 square feet and monthly payments of $2,201 which began on April 1, 2017. The lease terminates on March 31, 2020.
The amounts due at the base rate are as follows:
Period
|
|
Amount
Due
|
|
2018
|
|
$
|
28,000
|
|
2019
|
|
$
|
28,000
|
|
2020
|
|
$
|
7,000
|
|
Defined
Contribution Plan
Two
Rivers does not have a defined contribution plan.
Employment
Agreements
Effective
January 1, 2011, the Company entered into an employment agreement with Wayne Harding, as CFO. The initial term of the contract
was one year, which renews automatically for successive one-year terms unless and until either party delivers notice of termination
within 30 days of the expiration of the then current term. The original employment agreement was modified in 2017.
The
Board determines annual incentive compensation at the Board’s sole discretion. If there is a change of control, each is
entitled to an accelerated option vesting.
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
33
|
GCP
2 Construction
The
GCP 2 greenhouse is partially completed. We estimate that the cost to complete the second greenhouse is approximately $3,000,000.
At this time we do not have the necessary funds to complete GCP2 construction.
Suncanna
Litigation
In
2016, the Suncanna lease arrangement was the subject of administrative and judicial proceedings:
|
●
|
On
April 14, 2016, we were notified that Suncanna LLC had received a notice of suspension from the Marijuana Enforcement Division
of the Colorado Department of Revenue. This suspension remains in place until a hearing.
|
|
|
|
|
●
|
Due
to the suspension order, Suncanna was in violation of its lease agreement with us. On April 25, 2016, GCP1 terminated Suncanna’s
lease and began an eviction process against Suncanna. Consequently, during the quarter ended March 31, 2016, we stopped recognizing
lease revenue and wrote off the $700,000 lease receivable and $43,000 deferred rent that had been recorded as of December
31, 2015. We also wrote off advances to Suncanna totaling $587,000.
|
|
|
|
|
●
|
On
July 22, 2016 GCP1 received a Writ of Restitution from the Pueblo County Colorado District Court ordering Suncanna to vacate
the greenhouse by September 6, 2016.
|
|
|
|
|
●
|
On
August 31, 2016, a lawsuit was filed by Aaron Van Wingerden, owner of Suncanna, in Pueblo County Colorado District Court against
GrowCo, GrowCo Business Development, LLC, GCP1, GrowCo Funding, LLC., TR Capital, Two Rivers and certain current and former
employees, and associates. We believe that the suit has no merit and will have no material impact on our financial condition.
|
|
|
|
|
●
|
On
September 6, 2016, in accordance with the Writ of Restitution, Suncanna vacated the greenhouse and GCP1 took possession and
began re-conditioning its greenhouse for a new tenant, who began growing operations in the fourth quarter of 2016.
|
|
|
|
|
●
|
On
October 27, 2016, in a contempt of court hearing, a Pueblo County Colorado District Court judge ruled in favor of plaintiff
Aaron Van Wingerden and against GCP1 in a matter regarding the prevention of Suncanna’s access to GCP1’s greenhouse
prior to Suncanna vacating the premises on September 6, 2016. We believe that this ruling was in error and are appealing this
decision.
|
Management
believes that this case is without merit and has filed a cross-complaint to recover amounts owed by Suncanna under the Suncanna
lease agreement.
Prior board of directors litigation
On
August 8, 2017, a summons was issued in the Arapahoe County District Court on behalf of former board members Dennis Channer, Rockey
Wells and John Stroh demanding the Company pay $139,000 in attorneys’ fees owed to Ryley Carlock & Applewhite for services
rendered to the former board members at their behest while members of the board. At present, the matter is scheduled for trial
in October, 2018. The $139,000 is included in our accounts payable on the balance sheet.
DFP litigation
On
October 18, 2017, at the Company filed a lawsuit against former employees of the its DFP farming operation for alleged theft.
We are in the process of gathering evidence of the theft and setting a court hearing date. A former employee of DFP has filed
a counter claim against the Company, which amount is immaterial. Management believes that claims against former employees are
in excess of any counter claims.
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
34
|
GrowCo – Blue Green litigation
On
January 19, 2018 Blue & Green, LLC (“Blue Green”) filed a complaint against GrowCo, Inc. claiming a default on
payments by GrowCo to Blue Green under the terms of the GrowCo $2,115,000 promissory note held by Blue Green. The complaint is
requesting immediate payment of the note, back due interest in excess of $300,000, and attorney fees.
State of Colorado litigation
The Company, the State of Colorado (Office
of the State Engineer and the local Division Engineer), and neighboring water rights holders have been involved in litigation
concerning water rights and claims by the State concerning an existing dam in Huerfano County, Colorado, and a demand by the State
to breach the dam structure. (
Two Rivers Water and Farming Co. vs. Welton Land and Water Co
., (Pueblo Water Court)).
As part of the litigation, Two Rivers has sought to have certain water rights demands by the neighboring water rights holders
deemed wasteful.
In the quarter ending March 31,
2016, the Company entered into a stipulation agreement with the State, settling the State's claims, whereby the Company agreed
to take the existing dam structure down to the sediment level by March 31, 2018. The Company has been able to empty all
the water in the Dam, but it will not be able to meet the requirements of the stipulation agreement by March 31. It anticipates
that it will by late 2018. The Company also intends to work with the Colorado State Engineer to construct a new dam close
to the prior dam structure, pending financing. Also as part of the litigation, Two Rivers has sought to have certain water
rights demands by the neighboring water rights holders deemed wasteful. This part of the litigation awaits a trial setting.
The State is requesting the Company to pay $100,000 as a penalty for violating the stipulation agreement. The Company’s
engineering firm estimate the cost to breach the dam structure to be between $1.8 to $2.2 million.
NOTE
12 – RELATED PARTY TRANSACTIONS
Pursuant
to ASC 850 “Related Party Disclosure”, during the year ended December 31, 2017, management has evaluated related parties
and all transactions associated with those and determined that no transactions exist which would require disclosure, except as
disclosed below:
|
●
|
Wayne
Harding, Company CEO provided a short term loan to the Company of $25,000. The loan is secured by land assets of the Company
and carried an interest rate of 12%. The loan was paid off in the third quarter of 2017.
|
|
|
|
|
●
|
Advances
totaling $34,400 resulting in a cumulative total of $72,999 for greenhouse expenses to Johnny Cannaseed, LLC which is majority
owned by former Company CEO John McKowen.
|
|
|
|
|
●
|
Revenue
totaled $620,000 has been recorded for leasing income from Johnny Cannaseed.
|
|
|
|
|
●
|
Advances
totaled $26,957 resulting in a cumulative total of $43,798 for greenhouse expense to McGrow, LLC which is partially owned
by former Company CEO John McKowen.
|
|
|
|
|
●
|
Payments
totaling $335,531 to MCG Services, LLC which is majority owned by former Company CEO John McKowen for costs associated with
a services agreement with GrowCo.
|
|
|
|
|
●
|
Advances
to MCG Services, LLC totaled $13,295. This amount was written off.
|
|
|
|
|
●
|
Payments
totaling $11,210 to John McKowen for interest expense on a loan held by Mr. McKowen to GrowCo.
|
|
|
|
|
●
|
Existing
investors, including the Thomas Prasil Trust who is a greater than 5% investor, have invested approximately $11.0M in GrowCo
securities.
|
|
|
|
|
●
|
The
Chief Executive Officer of Two Rivers serve as the only members of the Sunset Metropolitan District (Sunset). Sunset is a
quasi-governmental agency operating under Title 32 of the State of Colorado Constitution. As of December 31, 2017, the Company
had advanced $81,000 to Sunset.
|
|
|
|
|
●
|
On
June 29, 2017, a mediation session was held in Colorado Springs between all parties involved with the Suncanna lawsuit along
with each party’s legal counsel. To date, no settlement has been proposed.
|
|
|
|
|
●
|
The
Company leases its former corporate headquarters office space to McGrow. Total lease payments are $47,000 per year.
|
|
|
|
|
●
|
Wayne
Harding, Company CEO provided a long-term loan to the Company of $50,000. The loan is secured by land assets of the Company
and carries an interest rate of 18%.
|
|
|
|
|
●
|
Wayne
Harding provided a short-term loan to the Company of $32,500 in the quarter ended December 31, 2017. $17,500 was repaid before
the year ended December 31, 2017. The remainder, $15,000 plus interest was paid in February 2018.
|
NOTE
13 – SUBSEQUENT EVENTS
Pursuant
to FASB ASC 855, management has evaluated all events and transactions that occurred from December 31, 2017 through
the date of issuance of these financial statements. During this period, the Company did not have any significant subsequent
events, except as disclosed below.
Effective
February 1, 2018, our CFO and Secretary, Bill Gregorak resigned his positions and employment with the Company.
On
February 9, 2018, Two Rivers entered into a securities purchase agreement, or the SPA, with Powderhorn, LLC, pursuant to
which we issued to Powderhorn a 12.5% original issue discount convertible promissory note, or the Note, in the principal amount
of $675,000 in exchange for $600,000 in cash. Under the SPA, we agreed to file a registration statement to register the sale of
up to 8,000,000 shares of common stock by Powderhorn and to use our reasonable best efforts to have the registration statement
declared effective by the Securities and Exchange Commission by April 11, 2018. On February 9, 2018, we filed a registration statement
on Form S-1 with the Securities and Exchange Commission in accordance with the SPA. On April 2, 2018, Powderhorn agreed that,
provided the Company makes a specified amortization payment by the close of business on April 9, 2018, Powderhorn will waive any
and all obligations of the Company to have an effective Form S-1 until May 8, 2018. Subject to certain permitted exceptions, if
the SEC does not declare the registration statement effective by May 8, 2018 or if we fail to keep the registration statement
effective, we will be required to pay liquidated damages to Powderhorn.
As described above under “State of
Colorado litigastion” in Note 11, the Company, the State of Colorado (Office of the State Engineer and the local Division
Engineer), and neighboring water rights holders have been involved in litigation concerning water rights and claims by the State
concerning an existing dam in Huerfano County, Colorado, and a demand by the State to breach the dam structure. (Two Rivers Water
and Farming Co. vs. Welton Land and Water Co., (Pueblo Water Court)). On April 3, 2018, the Company was notified that the State
of Colorado had filed a motion for the issuance of a contempt of court citation based upon the Company’s failure to comply
with a consent decree to bring the Cucharas #5 reservoir down to silt level by March 31, 2018. The Company was unable to fully
comply with the consent decree due to lack of capital. The Company intends to defend against the sanctions sought in the contempt
motion, based in part upon those sanctions being unnecessary and unduly punitive. A hearing has been set for the contempt proceedings
on May 10, 2018.
The State is requesting the Company
to pay $100,000 as a penalty for violating the stipulation agreement. The Company’s engineering firm estimate the cost to
breach the dam structure to be between $1.8 to $2.2 million.
Two Rivers Water & Farming Company
|
2017 Financials
|
Page F-
35
|