PZOO Pazoo Inc (CE)

Notes to Unaudited Condensed Consolidated Financial Statements

 

Note 1—DESCRIPTION OF BUSINESS, BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

Description of Business

 

The Company is a growth stage health and wellness company. Presently, their business consists of pazoo.com, an online, content driven, ad supported health and wellness web site for people and their pets. Additionally, this site has e-commerce functionality which allows pazoo.com to be an online retailer of nutritional foods/supplements, wellness goods, and fitness apparel. Pazoo, Inc. does not have any brick and mortar establishments.

 

Further, the Company entered the pharmaceutical testing laboratory market with their acquisitions of MA & Associates, LLC which will operate pharmaceutical testing laboratories in Nevada, and Harris Lee Holdings, LLC which will operate pharmaceutical testing laboratories within other states, or license testing protocols as independently owned laboratories.  These pharmaceutical testing laboratories focus on providing quality control services to the medical cannabis industry.  The mission is to protect the public health by providing infrastructure and analytical services to legally-authorized cannabis producers and distributors as well as to regulators.  States that have legalized cannabis are developing cannabis health and safety criteria that we will fulfill through their testing laboratories.  Lastly, the Company's wholly owned subsidiary, CK Distribution LLC, provides the marketing and sales agent for the distribution of non-controlled hemp products throughout the USA. Non-controlled hemp products are the items utilized by the industry that support grow facilities, infusion companies and dispensaries.

 

Basis of Presentation

The accompanying unaudited condensed consolidated financial statements include the accounts of the Pazoo, Inc. ("Pazoo" or the "Company") and its wholly-owned subsidiaries MA & Associates, LLC, Harris Lee Holdings, LLC, and CK Distribution, LLC. These unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States ("GAAP"). All significant inter-company transactions and accounts have been eliminated in consolidation.

In March 2016, the Company effected a 1-for-100 reverse stock split of the outstanding common stock (the "Reverse Stock Split") whereby every one hundred (100) shares of outstanding common stock decreased to one (1) share of common stock. Similarly, the number of shares of common stock, par value $0.001 ("Common Stock") into which each outstanding Preferred stock and warrant to purchase common stock is to be exercisable decreased on a 1-for-100 basis and the exercise price of each outstanding preferred stock and warrant to purchase common stock increased proportionately. The impact of this reverse stock split has been retroactively applied to the financial statements and the related notes.

The accompanying unaudited condensed consolidated financial statements of the Company have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Article 8 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete consolidated financial statements. In the opinion of management, all adjustments considered necessary for a fair presentation have been included. Operating results for the nine month period ended September 30, 2016 are not necessarily indicative of the results that may be expected for the year ending December 31, 2016. The unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and footnotes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 2015 as filed on April 15, 2016.

 

Use of Estimates

 

In accordance with GAAP the preparation of these condensed consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the condensed consolidated financial statements and the reported amount of revenues and expenses during the reporting period.

 

On an ongoing basis, management evaluates its estimates and judgments, including those related to revenue recognition, accrued expenses, financing operations, and contingencies and litigation. Management bases its estimates and judgments on historical experience and on various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions and conditions. The most significant accounting estimates inherent in the preparation of the Company's financial statements include estimates as to the appropriate carrying value of certain assets and liabilities which are not readily apparent from other sources. These accounting policies are described at relevant sections in the notes to the financial statements. 

 

Principles of Consolidation

 

The condensed consolidated financial statements include the accounts of Pazoo and its subsidiaries, which are wholly owned. All significant intercompany transactions and balances have been eliminated in consolidation.

 

Fixed Asset

 

Fixed assets are presented at cost at the date of acquisition. Depreciation and amortization is calculated based on the straight-line method over the estimated useful lives of the depreciable assets, or in the case of leasehold improvements, the shorter of the lease term or the estimated useful life of the asset, a portion of which is allocated to cost of sales. Improvements are capitalized while repairs and maintenance are charged to operations as incurred. 

Impairment of Long-Lived Assets

 

The Company's intangible assets are reviewed for impairment whenever events or changes in circumstances indicate that the historical-cost carrying value of an asset may no longer be appropriate.  The Company assesses recoverability of the asset by comparing the undiscounted future net cash flows expected to result from the asset to its carrying value.  If the carrying value exceeds the undiscounted future net cash flows of the asset, an impairment loss is measured and recognized.  An impairment loss is measured as the difference between the net book value and the fair value of the long-lived asset.  The Steep Hill and MA licenses were evaluated for impairment and no impairment loss was incurred as of December 31, 2015.  

The Company, due to the uncertainties surrounding the license agreement, impaired 100% of the value of the Steep Hill Labs licenses due to the purported unsubstantiated termination of the license agreements in June 2016 between Steep Hill Labs and MA & Associates, LLC and Harris Lee, LLC respectively.  The Company strongly believes that any attempted termination of the licenses on the part of Steep Hill Labs was ineffective for many reasons, including, without limitation, Steep Hill's failure to provide key deliverables including technology, scientific know-how and lab guidance. On July 6, 2016, the Company contested the improper attempted termination of the licenses which was based on no identifiable contractual justification, and to which Steep Hill has not formally responded.  To the contrary, as of the date of this Report, Steep Hill Labs continues to list the Company as one of its "partners" and continues to display the Company's Las Vegas facility as a Steep Hill location. If Steep Hill Labs takes any further action to effectuate the ineffective termination of the licenses, this matter will be litigated under the terms and conditions of the respective license agreements, which management will vigorously defend.

 

 

 

 

Recent Accounting Pronouncements

In February 2016, the Financial Accounting Standards Board ("FASB") issued new guidance related to how an entity should recognize lease assets and lease liabilities. The guidance specifies that an entity who is a lessee under lease agreements should recognize lease assets and lease liabilities for those leases classified as operating leases under previous FASB guidance. Accounting for leases by lessors is largely unchanged under the new guidance. The guidance is effective for us beginning in the first quarter of 2019. Early adoption is permitted.  In transition, lessees and lessors are required to recognize and measure leases at the beginning of the earliest period presented using a modified retrospective approach. The Company is evaluating the impact of adopting this guidance on our consolidated financial condition, results of operations and cash flows.

In March 2016, the FASB issued new guidance which involves several aspects of the accounting for share-based payment transactions including the income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows. Under the new standard, income tax benefits and deficiencies are to be recognized as income tax expense or benefit in the income statement and the tax effects of exercised or vested awards should be treated as discrete items in the reporting period in which they occur. An entity should also recognize excess tax benefits regardless of whether the benefit reduces taxes payable in the current period. Excess tax benefits should be classified along with other income tax cash flows as an operating activity. In regards to forfeitures, the entity may make an entity-wide accounting policy election to either estimate the number of awards that are expected to vest or account for forfeitures when they occur. This ASU is effective for fiscal years beginning after December 15, 2016 including interim periods within that reporting period, however early adoption is permitted. The Company is currently evaluating the guidance to determine the Company's adoption method and the effect it will have on the Company's Consolidated Financial Statements.

Other recent accounting pronouncements issued by the FASB, including its Emerging Issues Task Force, the American Institute of Certified Public Accountants, and the Securities and Exchange Commission did not or are not believed to have a material impact on our present or future consolidated financial statements.

Fair Value of Financial Instruments

 

The Company's financial instruments consist principally of cash and cash equivalents, derivatives, convertible debt, and accounts payable. The Company believes that the recorded values of all of its other financial instruments approximate their fair values because of their nature and respective maturity dates or durations. The fair value of our long-term debt is determined by using estimated market prices. Assets and liabilities measured at fair value are categorized based on whether or not the inputs are observable in the market and the degree that the inputs are observable. The categorization of financial instruments within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement. The hierarchy is prioritized into three levels (with Level 3 being the lowest) defined as follows:

 

Level 1: Inputs are based on quoted market prices for identical assets or liabilities in active markets at the measurement date.

Level 2: Inputs include quoted prices for similar assets or liabilities in active markets and/or quoted prices for identical or similar assets or liabilities in markets that are not active near the measurement date.

Level 3: Inputs include management's best estimate of what market participants would use in pricing the asset or liability at the measurement date. The inputs are unobservable in the market and significant to the instrument's valuation.

 

 

 

Revenue Recognition

 

Revenues are recognized when evidence of an agreement exists, the price is fixed or determinable, collectability is reasonably assured and goods have been delivered or services performed.  The Company is paid revenue from various advertising, cannabis testing, and sales and distribution of non-controlled hemp products.

 

Note 2—GOING CONCERN

 

During the nine months ended September 2015 and 2016, the Company incurred net losses of $2,420,465 and $8,417,040, respectively. In addition, as of September 30, 2016, the Company had a working capital deficit of $7,337,290. These factors, among others, raise substantial doubt about the Company's ability to continue as a going concern. These consolidated financial statements do not include any adjustments relating to the recoverability and classification of assets or the amounts and classification of liabilities that might be necessary should the Company be unable to continue as a going concern. The Company's continuation as a going concern is dependent upon our ability to generate sufficient cash flow and raise additional capital to meet our obligations on a timely basis and ultimately attain profitability.  If the Company is unable to generate sufficient cash flow or raise additional capital, it could be forced to cease operations.

 

 

Costs of assets acquired under capital leases were approximately $615,000 as of September 30, 2016 and December 31, 2015.  The capital lease represents a total of three leases for testing equipment. The leases hold an interest rate of 0% and monthly payments are approximately $17,000 per month. As of September 30, 2016 and at December 31, 2015, accumulated depreciation related to assets was $211,822 and $140,046, respectively.

Note 4—INTANGIBLE ASSETS

Intangible assets as of December 31, 2015 consisted of a license agreement acquired for $307,500 from Steep Hill Labs for the right to take the Steep Hill software and methodology to states above and beyond Nevada, and the MA license derived from the acquisition of $1,345,771.  As of September 30, 2016, the Company has impaired 100% of the Steep Hill license agreement acquired for $307,500 as well as the MA license derived from acquisition of $1,345,771. The impairment was due to the uncertainties surrounding the license agreement, as well as the purported unsubstantiated termination of the license agreements in June 2016 between Steep Hill Labs and MA & Associates, LLC and Harris Lee, LLC respectively. 

 

 

Note 5—LINES OF CREDIT

The Company entered into a line of credit with Wells Fargo in December 2015 in the amount of $25,000.  The credit line bears an interest rate of 9.75% annually, compounded daily, and there is no term on the account. There are no financial covenants and the guarantor on the account is Steve Basloe, the Company's President. The line of credit has been used for general operating expenses.  The balance at December 31, 2015 and September 30, 2016 was $19,500 and $18,666, respectively.

The Company entered into a line of credit with Wells Fargo in May 2016 in the amount of $5,000. The credit line bears an interest rate of 24.24% for the first year and then 9.75% annually, compounded daily, and there is no term on the account. There are no financial covenants and the guarantor on the account is David Cunic, the Company's CEO. The balance at September 30, 2016 was $4,883. The credit has been used for general operating expenses.

Note 6—DERIVATIVE LIABILITIES

 

The Company evaluates all of its financial instruments to determine if such instruments are derivatives or contain features that qualify as embedded derivatives. For derivative financial instruments that are accounted for as liabilities, the derivative instrument is initially recorded at its fair value and is then re-valued at each reporting date, with changes in the fair value reported as charges or credits to income. For option-based derivative financial instruments, the Company uses the Black-Scholes option-pricing model to value the derivative instruments at inception and subsequent valuation dates. The classification of derivative instruments, including whether such instruments should be recorded as liabilities or as equity, is re-assessed at the end of each reporting period.

 

Derivative instrument liabilities are classified in the balance sheet as current or non-current based on whether or not net-cash settlement of the derivative instrument could be required within 12 months of the balance sheet date.

 

Under ASC-815 the conversion options embedded in the notes payable described in Note 8 require liability classification because they do not contain an explicit limit to the number of shares that could be issued upon settlement.

 

The following table summarizes the changes in the derivative liabilities during nine months ended September 30, 2016:

 

 

The Company uses the Black Scholes Option Pricing Model to value its convertible debt derivative liabilities based upon the following assumptions during the nine months ended September 30, 2016:

 

 

 

 

During the nine months ended September 30, 2016 and 2015 the aggregate gain/(loss) on change in derivative liability was ($3,796,031) and ($267,987), respectively, consisting of charges for the initial derivative value in excess of the face value of the associated debt at inception ($3,171,647) for nine months ended September 30, 2016 and the change in fair value of the derivative liabilities as noted above.

 

Note 7—STOCKHOLDERS' EQUITY

 

Preferred Stock

Total stock-based compensation recognized at September 30, 2016 totaled $1,226,131, consisting of 60,000 common shares and 2,277,500 Series C preferred shares which include 2,200,000 Series C preferred shares issued to ICPI.

 

During the nine months ended September 30, 2016, the Company issued 55 shares of Series A Preferred Stock for 2015 Dividends.

During the nine months ended September 30, 2016, investors converted 691,629 shares of Series A Preferred Stock into 34,658,826 shares of common stock.

During the nine months ended September 30, 2016, the Company sold 128,572 Series C Preferred Stock for $90,000.

During the nine months ended September 30, 2016, investors converted 1,290,000 shares of Series C Preferred Stock into 129,000,000 shares of common stock.

During the nine months ended September 30, 2016, investor converted a total of $30,652 of notes payable into 61,306 shares of Series A Preferred Stock.

 

At September 30, 2016 the Company's Series D and Series E Preferred shares terms and conditions are not yet determined and neither certificates of designation have been filed with the State of Nevada.

 

Common Stock

 

Issuances

During the nine months ended, September 30, 2016, the Company issued 892,981,123 common shares with conversion of debt valued at $364,784 and accrued interest of $12,676.

 

 

 

In April 2016, pursuant to a Settlement Agreement with ICPI, all remaining Series A Warrants have been retired in exchange for the issuance of Series C Preferred Stock.  A total of 1,700,000 Series C Preferred Shares were issued to ICPI in exchange for the retirement of all remaining Series A Warrants and the waiver of unpaid dividends on Series A Preferred stock held by ICPI for the years 2014, 2015 and 2016.  Additionally, 500,000 Series C preferred shares were issued to ICPI for settlement of liability to issue shares for services.