NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(As Adjusted Note 14)
(Unaudited)
NOTE 1. NATURE OF OPERATIONS, HISTORY AND PRESENTATION
Nature of Operations
General Cannabis Corp, a Colorado Corporation (the Company, we, us, our, or GCC) (formerly, Advanced Cannabis Solutions, Inc.), was incorporated on June 3, 2013, and provides services and products to the regulated cannabis industry. On April 28, 2015, our common stock was uplisted and on May 6, 2015, resumed quotation on the OTC Markets OTCQB. On June 6, 2018 we began trading on the OTCQX® Best Market after upgrading from the OTCQB® Venture Market. Our operations are segregated into the following four segments:
Security and Cash Transportation Services (Security Segment)
We provide advanced security, including on-site professionals and cash transport, to licensed cannabis cultivators, cannabis processing facilities and retail shops, under the business name Iron Protection Group (IPG) in California and Colorado, and security services to non-cannabis customers in Colorado, such as hotels, apartment buildings and retail, under the business name Mile High Protection Services (MHPS). We strategically acquired MHPS in order to expand our Colorado security business into the non-cannabis space, as we believe that market provides an opportunity for growth.
In states that have recently legalized cannabis, whether medical, recreational or both, license applications require a security plan and, if approved, implementation of that security plan. Accordingly, we are assessing the opportunity to expand our security consulting business to assist companies with their application process and the subsequent implementation of security plans.
Marketing Consulting and Apparel (Marketing Segment)
Chieftons apparel business, Chiefton Supply, strives to create innovative, unique t-shirts, hats, hoodies and accessories. Our apparel is sold through our on-line shop, festivals and events, cannabis retailers, and specialty t-shirt and gift shops. We are pursuing relationships with national apparel retailers and distributors, as well as expanding our offerings nationwide within the cannabis industry.
Chiefton Design provides design, branding and marketing strategy consulting services to the cannabis industry. We assist clients in developing a comprehensive marketing strategy, as well as designing and sourcing client-specific apparel and products. Chiefton Design also supports our other segments with marketing designs and apparel.
Operations Consulting and Products (Operations Segment)
Through Next Big Crop (NBC), we deliver comprehensive consulting services to the cannabis industry that include obtaining licenses, compliance, cultivation, retail operations, logistical support, facility design and construction, and expansion of existing operations. Our business plan for NBC correlates to future growth of the regulated cannabis market in the United States.
NBC oversees our wholesale equipment and supply business, operated under the name GC Supply, which provides turnkey sourcing and stocking services to cultivation, retail and infused products manufacturing facilities. Our products include infrastructure, equipment, consumables and compliance packaging.
42.73% and 39.06%, respectively, of NBCs revenue during the three and nine months ended September 30, 2018, was derived from customers within the same ownership group.
Finance and Real Estate (Finance Segment)
Real Estate Leasing
On December 29, 2017, we sold for $625,000 in cash, a cultivation property in a suburb of Pueblo, Colorado, consisting of approximately three acres of land, which currently includes a 5,000 square foot steel building and a parking lot. We previously leased this property to a licensed medical cannabis grower.
6
Our real estate leasing business plan includes the potential future acquisition and leasing of cultivation space and related facilities to licensed marijuana growers and dispensary owners for their operations. These facilities would only be leased to tenants that possess the requisite state licenses to operate cultivation facilities. The leases with the tenants would include certain requirements that permit us to continually evaluate our tenants compliance with applicable laws and regulations.
Shared Office Space, Networking and Event Services
In October 2014, we purchased a former retail bank located at 6565 East Evans Avenue, Denver, Colorado 80224, which has been branded as The Greenhouse. The building is a 16,056 square foot facility, which we use as our corporate headquarters.
The Greenhouse has approximately 10,000 square feet of existing office space and 5,000 square feet on its ground floor that is dedicated to a consumer banking design. We continue to assess the opportunity to lease shared workspace for entrepreneurs, professionals and others serving the cannabis industry. Clients would be able to lease office, meeting, lecture, educational and networking space, and individual workstations. We expect to continue the renovation of The Greenhouse in 2018.
We plan to continue to acquire commercial real estate and lease office space to participants in the cannabis industry. These participants may include media, internet, packaging, lighting, cultivation supplies and financial services-related companies. In exchange for certain services that may be provided to these tenants, we expect to receive rental income in the form of cash. In certain cases, we may acquire equity interests or provide debt capital to these businesses.
Industry Finance
Our industry finance strategy includes evaluating opportunities to make direct term loans or to provide revolving lines of credit to businesses involved in the cultivation and sale of cannabis and related products. These loans would generally be secured to the maximum extent permitted by law. We believe there is a significant demand for this type of financing. We are assessing other finance services including customized finance, capital formation and banking, for participants in the cannabis industry.
Basis of Presentation
The accompanying (a) condensed consolidated balance sheet at December 31, 2017, has been derived from audited financial statements and (b) condensed consolidated unaudited financial statements as of September 30, 2018 and 2017, have been prepared in accordance with generally accepted accounting principles (GAAP) for interim financial information and with the instructions to Form 10-Q and Article 8 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements, and should be read in conjunction with the audited consolidated financial statements and related footnotes included in our Annual Report on Form 10-K for the year ended December 31, 2017 (the 2017 Annual Report), filed with the Securities and Exchange Commission (the SEC) on March 12, 2018. It is managements opinion, however, that all material adjustments (consisting of normal recurring adjustments), have been made which are necessary for a fair financial statement presentation. The condensed consolidated financial statements include all material adjustments (consisting of normal recurring accruals) necessary to make the condensed consolidated financial statements not misleading as required by Regulation S-X, Rule 10-01. Operating results for the three and nine months ended September 30, 2018, are not necessarily indicative of the results of operations expected for the year ending December 31, 2018.
The condensed consolidated financial statements include the results of GCC and its six wholly-owned subsidiary companies: (a) ACS Colorado Corp., a Colorado corporation formed in 2013; (b) Advanced Cannabis Solutions Corporation, a Colorado corporation formed in 2013; (c) 6565 E. Evans Avenue LLC, a Colorado limited liability company formed in 2014; (d) General Cannabis Capital Corporation, a Colorado corporation formed in 2015; (e) GC Security LLC (GCS), a Colorado limited liability company formed in 2015; and (f) GC Finance Arizona LLC (GC Finance Arizona), an Arizona limited liability company. Advanced Cannabis Solutions Corporation has one wholly-owned subsidiary company, ACS Corp., which was formed in Colorado on June 6, 2013. Intercompany accounts and transactions have been eliminated.
During the year ended December 31, 2017, we adopted Financial Accounting Standards Board, or FASB, Accounting Standards Update, or FASB ASU 2017-11, which impacts accounting for financial instruments with down round features. This change in accounting principle was applied retrospectively and, accordingly, impacted all 2017 periods presented. See Note 14.
Going Concern
The condensed consolidated financial statements have been prepared on a going concern basis, which assumes we will be able to realize our assets and discharge our liabilities in the normal course of business for the foreseeable future. Our cash reserves of $9,841,647 are not sufficient to absorb our operating losses and retire our debt of $6,896,000. The warrants associated with this debt, if exercised, would provide sufficient funds to retire the debt; however, there is no guarantee that these warrants will be exercised. Our ability to continue as a going concern is dependent upon our generating profitable operations in the future and / or obtaining the
7
necessary financing to meet our obligations and repay our liabilities arising from normal business operations when they come due. Management believes that (a) we will be successful obtaining additional capital and (b) actions presently being taken to further implement our business plan and generate additional revenues provide opportunity for the Company to continue as a going concern. While we believe in the viability of our strategy to generate additional revenues and our ability to raise additional funds, there can be no assurances to that effect. Accordingly, there is substantial doubt about our ability to continue as a going concern. The accompanying condensed consolidated financial statements do not include any adjustments that might be necessary if we are unable to continue as a going concern.
Related Parties
Related parties are any entities or individuals that, through employment, ownership or other means, possess the ability to direct or cause the direction of the management and policies of the Company. We disclose related party transactions that are outside of normal compensatory agreements, such as salaries or board of director fees. We consider the following individuals / companies to be related parties:
·
Michael Feinsod
Chairman of our Board of Directors (Board).
·
Infinity Capital West, LLC (Infinity Capital)
An investment management company that was founded and is controlled by Michael Feinsod.
·
DB Arizona
A company that borrowed $825,000 from GC Finance Arizona. Prior to our purchase in June 2017, we did not possess the ability to influence DB Arizona and DB Arizona did not have the ability to influence us. We include DB Arizona as a related party due to our relationship with Michael Feinsod and Infinity Capital, and their relationship with DB Arizona.
Significant Accounting Policy Updates
Revenue Recognition
During the first quarter of 2018, we adopted the following accounting principles related to revenue recognition: (a) FASB ASU 2016-12
Revenue from Contracts with Customers (Topic 606)
; (b) FASB ASU 2016-11
Revenue Recognition (Topic 605) and Derivatives and Hedging (Topic 815)
; and (c) FASB ASU 2016-10
Revenue from Contracts with Customers (Topic 606)
. Due to the nature of our contracts with customers, adopting the new accounting principles did not have a significant impact on our prior period results of operations, cash flows or financial position.
Our service and product revenues arise from contracts with customers. Service revenue includes (a) Security Segment, (b) Operations Segment consulting revenue, and (c) Marketing Segment revenues from design consulting, including customer-branded apparel designed and fulfilled by Chiefton. Product revenue includes (a) Operations Segment product sales and (b) Marketing Segment Chiefton-branded apparel. The majority of our revenue is derived from distinct performance obligations, such as time spent delivering a service or the delivery of a specific product.
We may also enter into contracts with customers that identify a single, or few, distinct performance obligations, but that also have non-distinct, underlying performance obligations. These contracts are typically fulfilled within one to three months. Only an insignificant portion of our revenue would be assessed for allocation between distinct (contractual) performance obligations and non-distinct deliverables between reporting periods and, accordingly, we do not record a contract asset for completed, non-distinct performance obligations prior to invoicing the customer.
We recognize revenue when the following criteria are met:
The parties to the contract have approved the contract and are committed to perform their respective obligations
our customary practice is to obtain written evidence, typically in the form of a contract or purchase order.
Each partys rights regarding the goods or services have been identified
we have rights to payment when services are completed in accordance with the underlying contract, or for the sale of goods when custody is transferred to our customers either upon shipment to or receipt at our customers locations, with no right of return or further obligations.
The payment terms for the goods or services have been identified
prices are typically fixed and no price protections or variables are offered.
The contract has commercial substance
our practice is to only enter into contracts that will positively affect our future cash flows.
Collectability is probable
we typically require a retainer for all or a portion of the goods or services to be delivered, as well as continually monitoring and evaluating customers ability to pay. Payment terms are typically zero to fifteen days within delivery of the good or service.
8
Customer deposits are contract liabilities with customers that represent our obligation to either transfer goods or services in the future, or refund the amount received. Where possible, we obtain retainers to lessen our risk of non-payment by our customers. Customer deposits are recognized as revenue as we perform under the contract.
Equity-method Investments
We use the equity method for investments when we are able to exercise significant influence over, but do not control, the investee, and are not the primary beneficiary of the investees activities. We include our portion of an equity-method investees net income or loss within other expense on the condensed consolidated statements of operations. In the event that the cost basis in an investment exceeds the fair value of the underlying business, we record an impairment charge to reduce our carrying value to the estimated fair value.
Recently Issued Accounting Standards
FASB ASU 2018-07 Compensation Stock Compensation (Topic 718) -
In June 2018, the FASB issued ASU 2018-07. This update is intended to reduce cost and complexity and to improve financial reporting for share-based payments issued to non-employees (for example, service providers, external legal counsel, suppliers, etc.). The ASU expands the scope of Topic 718, CompensationStock Compensation, which currently only includes share-based payments issued to employees, to also include share-based payments issued to non-employees for goods and services. Consequently, the accounting for share-based payments to non-employees and employees will be substantially aligned. This standard will be effective for financial statements issued by public companies for the annual and interim periods beginning after December 15, 2018. Early adoption of the standard is permitted. The standard will be applied in a retrospective approach for each period presented. We do not currently expect this ASU to have a significant impact on our consolidated financial statements and related disclosures.
FASB ASU 2017-04 Simplifying the Test for Goodwill Impairment (Topic 350)
In January 2017, the FASB issued 2017-04. The guidance removes Step Two of the goodwill impairment test, which required a hypothetical purchase price allocation. A goodwill impairment will now be the amount by which a reporting units carrying value exceeds its fair value, not to exceed the carrying amount of goodwill. The ASU is effective for annual reporting periods beginning after December 15, 2019, and for interim periods within those years, with early adoption permitted. We do not currently expect this ASU to have a significant impact on our consolidated financial statements and related disclosures.
NOTE 2.
EQUITY-METHOD INVESTMENT AND
BUSINESS ACQUISITIONS
Desert Created Company LLC / DB Products Arizona, LLC
In January 2018, we entered into a limited liability company operating agreement with DNFC LLC (DNFC), pursuant to the formation of Desert Created Company LLC (Desert Created). Each party owns a 50% interest in Desert Created, which took over the assets and operations of DB Products Arizona, LLC (DB Arizona). Desert Created produces and distributes cannabis-infused edible products in Arizona. In connection with the formation of Desert Created, we contributed 75,000 shares of our common stock and warrants to purchase 75,000 shares of our common stock, at an exercise price of $2.00 per share, to members of DNFC (collectively, the DNFC Sellers). This pricing was agreed to in November 2017, however, the transaction did not close until January 2018. In the interim, our stock price increased substantially, which was the reason for the initial impairment noted below. In October 2018, we sold our 50% interest to DNFC for cash consideration of $23,045 and, accordingly, impaired the remaining balance.
The 75,000 shares of our common stock were valued at $461,000, based on the closing price per share of our common stock on January 24, 2018, or $7.23 per share, reduced by a discount of 15% due to the restrictions on the DNFC Sellers ability to immediately sell such shares. The warrants were valued at $518,000, using the Black-Scholes model, assuming a life of 5.0 years, a risk-free interest rate of 1.2% and a volatility of 150%. The fair value of Desert Created was estimated based on the relative fair value of the underlying assets and liabilities, consisting primarily of cash, accounts receivable, equipment and accounts payable.
The purchase price allocation was as follows:
|
|
|
Common Stock
|
$
|
461,000
|
Warrants
|
|
518,000
|
Initial investment in Desert Created
|
$
|
979,000
|
|
|
|
Fair value of Desert Created
|
$
|
347,097
|
Percentage ownership
|
|
50%
|
Fair value of 50% of Desert Created
|
|
173,500
|
Initial investment in Desert Created
|
|
979,000
|
Impairment
|
$
|
805,500
|
9
The income and losses related to Desert Created are recognized using the equity method of accounting. The value of the investment as of September 30, 2018, consists of the following and is included in prepaid expenses and other current assets on the balance sheet:
|
|
|
Initial investment in Desert Created
|
$
|
979,000
|
Initial impairment
|
|
(805,500)
|
Additional investment
|
|
50,000
|
Net loss
|
|
(182,136)
|
Impairment, September 30, 2018
|
|
(18,319)
|
September 30, 2018
|
$
|
23,045
|
We loaned $26,500 and $75,000, respectively, to DB Arizona during the years ended December 31, 2017 and 2016. In June 2017, we purchased 100% of the ownership interests in GC Finance Arizona LLC (GC Finance Arizona) from Infinity Capital for $106,000 in cash. GC Finance Arizona holds a 50% ownership interest in DB Arizona, an $825,000 loan to DB Arizona, and no liabilities. We expected future positive cash flows, if any, would first go towards paying the holders of DB Arizonas notes payable. Accordingly, we allocated the entire consideration of $106,000 to the note receivable from DB Arizona. During the quarter ended December 31, 2017, DB Arizonas operations were taken over by Desert Created and, as a result, we impaired the full amount of our notes receivable from DB Arizona.
Mile High Protection Services
On August 18, 2017, we entered into an Asset Purchase Agreement (the Mile High APA) with Mile High Protection Services LLC, a Colorado limited liability company, and its sole member (together the Mile High Seller) whereby we acquired the tradename, workforce, customer contracts, and other intangible assets of the business. Pursuant to the Mile High APA, we agreed to deliver to Mile High Seller 224,359 restricted shares of our common stock. The shares vested over a six month period. The Mile High APA contained certain provisions that required Mile High Seller to forfeit a portion of such shares in the event that Mile High Seller did not meet the obligations under the Mile High APA. In accordance with the terms of the Mile High APA, the number of shares to be delivered was reduced by 120,000, to 104,359 shares of our common stock. Mile High Seller also agreed to a three year non-compete agreement.
The 104,359 shares of restricted common stock were valued based on the closing price per share of our common stock on August 18, 2017, or $1.75 per share, reduced by a discount of 15% due to the vesting period and the restrictions on the Mile High Sellers ability to immediately sell such shares. The $155,000 value of stock consideration was recorded as accrued stock payable on the December 31, 2017, consolidated balance sheet, which was reduced when the vesting requirements for the shares was met and we issued the common stock in February 2018.
The purchase price allocation was as follows:
Intangible assets:
|
|
|
Customer relationships
|
$
|
100,000
|
Tradename
|
|
55,000
|
|
$
|
155,000
|
We finalized the purchase price allocation in the quarter ended December 31, 2017.
The accompanying consolidated financial statements include the results of MHPS from the date of acquisition, August 18, 2017. The pro forma effects of the acquisition on the results of operations as if the transaction had been completed on January 1, 2017, are as follows:
|
|
|
|
|
|
|
Three months ended
September 30, 2017
|
|
Nine months ended
September 30, 2017
|
Total revenues
|
$
|
1,092,088
|
$
|
3,114,042
|
Net loss
|
|
(1,759,438)
|
|
(6,055,841)
|
Net loss per common share:
|
|
|
|
|
Basic and diluted
|
$
|
(0.09)
|
$
|
(0.30)
|
10
NOTE 3. ACCOUNTS RECEIVABLE AND CUSTOMER DEPOSITS
Our accounts receivables consisted of the following:
|
|
|
|
|
|
|
September 30,
2018
|
|
December 31,
2017
|
Accounts receivable
|
$
|
622,535
|
$
|
586,219
|
Less: Allowance for doubtful accounts
|
|
(201,000)
|
|
(140,000)
|
Total
|
$
|
421,535
|
$
|
446,219
|
We record bad debt expense when we conclude the credit risk of a customer indicates the amount due under the contract is not collectible. We recorded bad debt expense (recovery) of $(28,000) and $2,200, respectively, during the three months ended September 30, 2018 and 2017, and $82,615 and $78,700, respectively, during the nine months ended September 30, 2018 and 2017.
Our customer deposit liability had the following activity:
|
|
|
|
|
Amount
|
December 31, 2017
|
$
|
107,370
|
Additional deposits received
|
|
478,274
|
Less: Deposits recognized as revenue
|
|
(473,262)
|
September 30, 2018
|
$
|
112,382
|
NOTE 4. PREPAIDS AND OTHER CURRENT ASSETS
Our Prepaids and other current assets consisted of the following:
|
|
|
|
|
|
|
September 30,
2018
|
|
December 31,
2017
|
Prepaid insurance
|
$
|
102,907
|
$
|
53,498
|
Employee receivable payroll tax withholding for stock option exercise
|
|
|
|
499,587
|
Investment in Desert Created
|
|
23,045
|
|
|
Other
|
|
174,406
|
|
119,551
|
|
$
|
300,358
|
$
|
672,636
|
NOTE 5. NOTE RECEIVABLE
On June 6, 2018, we loaned $600,000 to Dope Media, Inc. (Dope Media) pursuant to the terms of a senior secured note (Dope Media Note), bearing interest at 10% per annum and a maturity date of May 31, 2019. The Dope Media Note was paid in full in September 2018. Dope Medias obligations under the Dope Media Note were secured by all of Dope Medias assets. In connection with the loan transaction, Dope Media also issued a warrant (Dope Media Warrant) to the Company to purchase an aggregate of 1,846,187 shares of Dope Medias common stock at an exercise price of $0.3278 per share, which represents approximately 5% of fully diluted outstanding common and preferred shares of Dope Media. Subsequent to the repayment of the Dope Media Note, the warrant expired unexercised.
NOTE 6. LONG-LIVED ASSETS
Property and Equipment
Depreciation expense was $19,196 and $15,997, respectively, for the three months ended September 30, 2018 and 2017, and $51,294 and $47,693, respectively, for the nine months ended September 30, 2018 and 2017. We have not recognized any impairment as of September 30, 2018.
Intangible Assets
Intangible assets of $61,783 as of September 30, 2018, consisted of MHPS customer relationships of $100,000, net of accumulated amortization of $60,140 and MHPS tradename of $55,000, net of accumulated amortization of $33,077, both based on an estimated useful life of two years.
11
Amortization expense was $19,536 and $23,888, respectively, for the three months ended September 30, 2018 and 2017, and $57,971 and $41,095, respectively, for the nine months ended September 30, 2018 and 2017.
NOTE 7. ACCOUNTS PAYABLE AND ACCRUED EXPENSES
Our accounts payable and accrued expenses consisted of the following:
|
|
|
|
|
|
|
September 30,
2018
|
|
December 31,
2017
|
Accounts payable
|
$
|
213,764
|
$
|
192,204
|
Accrued payroll, taxes and vacation
|
|
297,643
|
|
243,659
|
Payroll tax liability for stock option exercises
|
|
|
|
519,278
|
Property taxes and other
|
|
|
|
42,653
|
|
$
|
511,407
|
$
|
997,794
|
NOTE 8 ACCRUED STOCK PAYABLE
The following tables summarize the changes in accrued common stock payable:
|
|
|
|
|
|
|
Amount
|
|
Number of
Shares
|
December 31, 2016
|
$
|
|
|
|
Acquisition of MHPS accrual
|
|
155,000
|
|
104,359
|
Warrant exercises accrual
|
|
166,860
|
|
154,500
|
December 31, 2017
|
|
321,860
|
|
258,859
|
Acquisition of MHPS issued
|
|
(155,000)
|
|
(104,359)
|
Warrant exercises issued
|
|
(166,860)
|
|
(154,500)
|
September 30, 2018
|
$
|
|
|
|
NOTE 9. DEBT
Infinity Note Related Party
This note was paid in full in February 2018. In February 2015, we issued a senior secured note to Infinity Capital, as amended in April 2015, bearing interest at 5% payable monthly in arrears commencing September 30, 2015, until the maturity date of August 31, 2015 (the Infinity Note). On December 31, 2016, the Infinity Note was amended to aggregate principal and interest, and extend the due date of principal and interest to September 21, 2018. The Infinity Note was collateralized by a security interest in substantially all of our assets. Interest expense for the Infinity Note for the nine months ended September 30, 2018 and 2017, was $9,272 and $51,239, respectively, and $0 was accrued as of September 30, 2018.
Notes Payable
|
|
|
|
|
|
|
September 30,
2018
|
|
December 31,
2017
|
8.5% Notes
|
$
|
6,896,000
|
$
|
|
Unamortized debt discount
|
|
(2,794,979)
|
|
|
12% Notes
|
|
|
|
1,621,250
|
Unamortized debt discount
|
|
|
|
(443,917)
|
|
|
4,101,021
|
|
1,177,333
|
Less: Current portion
|
|
(4,101,021)
|
|
(1,177,333)
|
Long-term portion
|
$
|
|
$
|
|
8.5% Notes
In April 2018, we completed a $7,500,000 private placement pursuant to a promissory note (8.5% Notes) and warrant purchase agreement (the 8.5% Agreement) with certain accredited investors, bearing interest at 8.5%, with principal due May 1, 2019, and interest payable quarterly. In the event of default, the interest rate increases to 18%. The 8.5% Notes are collateralized by a security interest in substantially all of our assets. We may prepay the 8.5% Notes at any time, but in any event must pay at least one year of interest.
12
Subject to the terms and conditions of the 8.5% Agreement, each investor was granted fully-vested warrants equal to their note principal times 80%, or six million warrants, with an exercise price of $2.35 per share and a life of two years (the 8.5% Warrants). Should we issue any equity-based instruments at a price lower than the exercise price(s) of the 8.5% Warrants, other than under our Incentive Plan (as defined below), the exercise price(s) of the 8.5% Warrants will be adjusted to the lower price. If the shares underlying the 8.5% Warrants were not registered for resale on a registration statement within six months, we would have issued an additional warrant to each purchaser at the same exercise price for one-half of the shares covered by the initial 8.5% Warrants. A registration statement related to the 8.5% Warrants was declared effective on June 5, 2018. We may call the 8.5% Warrants at $0.01 per share if our stock trades above $8.00 per share for 15 consecutive days. The 8.5% Warrants may be exercised at the option of the holder by paying cash or by applying the amount due under the 8.5% Notes as consideration.
We received $7,500,000 of cash for issuing the 8.5% Notes. The relative fair value of the 8.5% Warrants was recorded as a debt discount and additional paid-in capital of $5,366,000. During the nine months ended September 30, 2018, amortization of debt discount expense includes $2,571,021 from the 8.5% Notes. The 8.5% Notes are otherwise treated as conventional debt.
For purposes of determining the debt discount, the underlying assumptions used in the binomial lattice model to determine the fair value of the 8.5% Warrants as of April 2018, were:
|
|
Current stock price
|
$ 4.18
|
Exercise price
|
$ 2.35
|
Risk-free interest rate
|
2.46 %
|
Expected dividend yield
|
|
Expected term (in years)
|
2.0
|
Expected volatility
|
134%
|
Number of iterations
|
5
|
12% Notes
The 12% Notes (as defined below) were paid off in January 2018.
In September 2016, we completed a $3,000,000 private placement pursuant to a promissory note and warrant purchase agreement (the 12% Agreement) with certain accredited investors, bearing interest at 12%, with principal due September 21, 2018, and interest payable quarterly (each such note, a 12% Note, and collectively, the 12% Notes). In the event of default, the interest rate would have increased to 18%. The 12% Notes were collateralized by a security interest in substantially all of our assets. We could have prepaid the 12% Notes at any time, but in any event must pay at least one year of interest.
Subject to the terms and conditions of the 12% Agreement, each investor was granted fully-vested warrants equal to their note principal times three (the 12% Warrants), or six million warrants, with a life of three years. 4.5 million warrants had an exercise price of $0.35 per share and the other 4.5 million warrants had an exercise price of $0.70 per share. Had we issued any equity-based instruments at a price lower than the exercise price(s) of the 12% Warrants, other than under our Incentive Plan, the exercise price(s) of the 12% Warrants would have been adjusted to the lower price. The 12% Warrants could be exercised at the option of the holder (a) by paying cash, (b) by applying the amount due under the 12% Notes as consideration, or (c) if there is no effective registration statement for the 12% Warrants within six months of being granted, the holder could exercise on a cashless basis. The registration statement related to the 12% Warrants was declared effective on December 23, 2016. If our common stock closed above $5.00 for ten consecutive days, we could call the warrants, giving the warrant holders 30 days to exercise. We called the warrants during the three months ended March 31, 2018, and all holders elected to exercise.
We received $2,450,000 of cash for issuing the 12% Notes. $300,000 of 10% Notes and $250,000 of the 14% Greenhouse Mortgage were converted into 12% Notes. We concluded that these conversions met the criteria for a debt extinguishment and, accordingly, recorded a loss on extinguishment of $1,728,280 during the year ended December 31, 2016. The loss on extinguishment represents the fair value of the 12% Warrants issued to the previous 10% Note holders and the 14% Greenhouse Mortgage lender. The initial fair value of the 12% Warrants not associated with the conversions was recorded as a debt discount of $2,450,000 and interest expense of $5,189,000. The 12% Notes are otherwise treated as conventional debt.
NOTE 10. COMMITMENTS AND CONTINGENCIES
Legal
To the best of our knowledge and belief, no material legal proceedings of merit are currently pending or threatened.
13
NOTE 11. STOCKHOLDERS EQUITY
Fall 2017 Capital Raise
During the year ended December 31, 2017, in a private placement we raised $4 million of equity by issuing four million shares of our common stock and four million warrants (Fall 2017 Warrants) to purchase shares of our common stock (together Units) for $1.00 per Unit. The Fall 2017 Warrants had an exercise price of $0.50 per share and were exercisable for two years. If our common stock closed above $5.00 for ten consecutive days, we may call the warrants, giving the warrant holders 10 days to exercise. During the quarter ended March 31, 2018, we called the warrants and all were exercised. All four million Fall 2017 Warrants were outstanding as of December 31, 2017. In consideration for the sale of the Units, we received $3,750,000 in cash and extinguished $250,000 of 12% Notes.
Share-based compensation
Share-based expense consisted of the following:
|
|
|
|
|
|
|
|
|
|
|
Three months ended
September 30,
|
|
Nine months ended
September 30,
|
|
|
2018
|
|
2017
|
|
2018
|
|
2017
|
Employee Awards
|
$
|
931,706
|
$
|
839,322
|
$
|
2,341,933
|
$
|
2,969,811
|
Consulting Awards
|
|
|
|
|
|
163,965
|
|
25,440
|
Feinsod Agreement
|
|
357,702
|
|
|
|
1,747,002
|
|
|
|
$
|
1,289,408
|
$
|
839,322
|
$
|
4,252,900
|
$
|
2,995,251
|
Employee Stock Options
On October 29, 2014, the Board authorized the adoption of and, on June 26, 2015, our stockholders ratified, our 2014 Equity Incentive Plan for the issuance of 10 million shares of our common stock and, in April 2018, stockholders approved an increase of 5 million shares of common stock that may be granted (the Incentive Plan). The Incentive Plan provides for the issuance of up to 15 million shares of our common stock, and is designed to provide an additional incentive to executives, employees, directors and key consultants, aligning our long term interests with participants. A Registration Statement on Form S-8 for the initial 10 million shares automatically became effective in May 2016, and a Registration Statement on Form S-8 for the additional 5 million shares and 900,000 shares under the Feinsod Agreement automatically became effective in June 2018 (collectively, the Registration Statements). The Registration Statements relate to 15,000,000 shares of our common stock, which are issuable pursuant to or, upon exercise of, options that have been granted or may be granted under our Incentive Plan. As of September 30, 2018, there were 13,200,206 shares available to issue under the Incentive Plan.
Share-based compensation costs for award grants to employees and directors (Employee Awards) are recognized on a straight-line basis over the service period for the entire award, with the amount of compensation cost recognized at any date equaling at least the portion of the award that is vested. The following summarizes the Black-Scholes assumptions used for Employee Awards granted:
|
|
|
|
|
|
|
|
|
Three months ended
|
|
|
September 30, 2018
|
|
June 30,
2018
|
|
March 31,
2018
|
Exercise price
|
|
$2.19 4.02
|
|
$3.71
|
|
$2.21 7.17
|
Stock price on date of grant
|
|
$2.19 4.02
|
|
$3.71
|
|
$2.21 7.17
|
Volatility
|
|
42 - 133%
|
|
133%
|
|
140%
|
Risk-free interest rate
|
|
2.69 2.89%
|
|
2.59%
|
|
2.17 2.26%
|
Expected life (years)
|
|
3.0
|
|
3.0
|
|
2.5
|
Dividend yield
|
|
|
|
|
|
|
14
The following summarizes Employee Awards activity:
|
|
|
|
|
|
|
|
|
|
|
Number of Shares
|
|
Weighted-average Exercise Price per Share
|
|
Weighted-average Remaining Contractual Term
(in years)
|
|
Aggregate Intrinsic Value
|
Outstanding at December 31, 2017
|
|
8,705,278
|
$
|
1.28
|
|
|
|
|
Granted
|
|
1,397,050
|
|
3.46
|
|
|
|
|
Exercised
|
|
(634,272)
|
|
0.99
|
|
|
|
|
Forfeited
|
|
(585,060)
|
|
3.28
|
|
|
|
|
Outstanding at September 30, 2018
|
|
8,882,996
|
|
1.51
|
|
6.4
|
$
|
20,908,000
|
|
|
|
|
|
|
|
|
|
Exercisable at September 30, 2018
|
|
7,319,446
|
$
|
1.06
|
|
7.0
|
$
|
20,298,000
|
Based on our estimated forfeiture rates, we expect 1,554,857 Employee Awards will vest. As of September 30, 2018, there was approximately $2,759,160 of total unrecognized compensation expense related to unvested Employee Awards, which is expected to be recognized over a weighted-average period of ten months.
Consulting Services
As needed, we may issue warrants, stock and/or options to third parties in exchange for consulting services. Stock-based compensation costs for award grants to third parties for consulting services (Consulting Awards) are recognized on a straight-line basis over the service period for the entire award, with the amount of compensation cost recognized at any date equaling at least the portion of the award that is vested. Consulting Awards are revalued at each reporting date until fully vested, which may generate an expense or benefit.
|
|
|
|
|
|
|
|
|
|
|
Number of Shares
|
|
Weighted-average Exercise Price per Share
|
|
Weighted-average Remaining Contractual Term
(in years)
|
|
Aggregate Intrinsic Value
|
Outstanding at December 31, 2017
|
|
127,500
|
$
|
2.40
|
|
|
|
|
Exercised
|
|
(75,000)
|
|
1.31
|
|
|
|
|
Granted
|
|
35,000
|
|
3.08
|
|
|
|
|
Expired
|
|
(30,000)
|
|
1.92
|
|
|
|
|
Outstanding and exercisable
at September 30, 2018
|
|
57,500
|
|
2.27
|
|
1.4
|
$
|
89,425
|
The following summarizes the Black-Scholes assumptions used for Consulting Awards granted:
|
|
|
|
|
|
|
|
|
Three months ended
|
|
|
September 30, 2018
|
|
June 30,
2018
|
|
March 31,
2018
|
Exercise price
|
|
|
|
$3.08
|
|
|
Stock price on date of grant
|
|
|
|
$3.08
|
|
|
Volatility
|
|
|
|
134%
|
|
|
Risk-free interest rate
|
|
|
|
2.3%
|
|
|
Expected life (years)
|
|
|
|
2.0
|
|
|
Dividend yield
|
|
|
|
|
|
|
We granted 25,000 shares of common stock with a fair value of $92,500 to a non-employee for consulting services, which were issued in July 2018.
Feinsod Agreement
On December 8, 2017, we entered into an agreement (the Feinsod Agreement) with Michael Feinsod for his continued service as our Executive Chairman of our Board of Directors. Pursuant to the agreement, Mr. Feinsod received (a) 600,000 stock options that vest on the anniversary date of the agreement for the next three years, or 200,000 per year (Time-based Options); and (b) three tranches of 100,000 stock options that vest when our stock price has an average trading price for 20 days of $3.50, $5.00 and $6.50 (Market-based Options). The options have an exercise price of $3.45 per share and a ten year life. These options were not issued under the Incentive Plan; however, the underlying shares were included in the Registration Statement on Form S-8 that automatically became effective in June 2018. During the quarter ended March 31, 2018, the $3.50 and $5.00 Market-based Options vested and, accordingly, the expense associated with those options was recognized immediately.
15
Warrants with Debt
The following summarizes warrants issued with debt:
|
|
|
|
|
|
|
|
|
|
|
Number of Shares
|
|
Weighted-average Exercise Price per Share
|
|
Weighted-average Remaining Contractual Term
(in years)
|
|
Aggregate Intrinsic Value
|
Outstanding at December 31, 2017
|
|
3,351,700
|
$
|
0.65
|
|
|
|
|
Granted
|
|
6,000,000
|
|
2.35
|
|
|
|
|
Exercised
|
|
(3,296,786)
|
|
0.76
|
|
|
|
|
Outstanding and exercisable
at September 30, 2018
|
|
6,054,914
|
$
|
2.28
|
|
1.6
|
$
|
9,453,597
|
NOTE 12. SUBSEQUENT EVENTS
In October 2018, we sold our 50% interest in Desert Created to DNFC for cash consideration of $23,045.
Subsequent to September 30, 2018, and up to the date of this filing, 20,000 shares of our common stock were issued upon the exercise of 8.5% Warrants for consideration of a $47,000 reduction in principal of the 8.5% Notes, 2,000 shares of our common stock were issued upon the exercise of stock options for consideration of $2,680 in cash, and the issuance of 44,000 shares of our common stock for services.
On November 7, 2018, we invested $250,000 in Flowhub Holdings, LLC (Flowhub) through a simple agreement for future equity (the Flowhub SAFE). The Flowhub SAFE provides us with the right to either (a) future equity in Flowhub when it completes an equity financing, or (b) future equity in Flowhub or cash proceeds if there is a liquidity event. If there is an equity financing, Flowhub would issue to us (a) a number of standard preferred units equal to our investment divided by the price per share of the standard preferred units if the pre-money valuation is less than or equal to the valuation cap ($35 million); or (b) a number of safe preferred units equal to the purchase amount divided by the safe price, if the pre-money valuation is greater than the valuation cap. If there is a liquidity event we will receive either (a) a cash payment equal to the purchase amount or (b) automatically receive a number of common units equal to the purchase amount divided by the liquidity price.
NOTE 13. SEGMENT INFORMATION
Our operations are organized into four segments: Security and Cash Transportation Services; Marketing Consulting and Apparel; Operations Consulting and Products; and Finance and Real Estate. All revenue originates and all assets are located in the United States. We have revised our disclosure to correspond to the information provided to the chief operating decision maker.
Three months ended September 30
|
|
|
|
|
|
|
|
|
|
|
2018
|
|
Security
|
|
Marketing
|
|
Operations
|
|
Finance
|
|
Total
|
Service
|
$
|
689,930
|
$
|
22,150
|
$
|
338,672
|
$
|
|
$
|
1,050,752
|
Rent and interest
|
|
|
|
|
|
|
|
16,858
|
|
16,858
|
Product
|
|
|
|
22,904
|
|
6,533
|
|
|
|
29,437
|
Total revenues
|
|
689,930
|
|
45,054
|
|
345,205
|
|
16,858
|
|
1,097,047
|
Costs and expenses
|
|
(724,558)
|
|
(190,636)
|
|
(358,556)
|
|
|
|
(1,273,750)
|
Investment in Desert Created
|
|
|
|
|
|
|
|
(80,483)
|
|
(80,483)
|
|
$
|
(34,628)
|
$
|
(145,582)
|
$
|
(13,351)
|
$
|
(63,625)
|
|
(257,186)
|
Corporate
|
|
|
|
|
|
|
|
|
|
(3,957,016)
|
|
|
|
|
|
|
|
|
Net loss
|
$
|
(4,214,202)
|
|
|
|
|
|
|
|
|
|
|
|
2017
|
|
Security
|
|
Marketing
|
|
Operations
|
|
Finance
|
|
Total
|
Service
|
$
|
533,065
|
$
|
44,862
|
$
|
354,213
|
$
|
|
$
|
932,140
|
Rent and interest
|
|
|
|
|
|
|
|
32,902
|
|
32,902
|
Product
|
|
|
|
4,532
|
|
10,417
|
|
|
|
14,949
|
Total revenues
|
|
533,065
|
|
49,394
|
|
364,630
|
|
32,902
|
|
979,991
|
Costs and expenses
|
|
(647,915)
|
|
(100,464)
|
|
(402,856)
|
|
(9,339)
|
|
(1,160,574)
|
|
$
|
(114,850)
|
$
|
(51,070)
|
$
|
(38,226)
|
$
|
23,563
|
|
(180,583)
|
Corporate
|
|
|
|
|
|
|
|
|
|
(1,562,464)
|
|
|
|
|
|
|
|
|
Net loss
|
$
|
(1,743,047)
|
16
Nine months ended September 30
|
|
|
|
|
|
|
|
|
|
|
2018
|
|
Security
|
|
Marketing
|
|
Operations
|
|
Finance
|
|
Total
|
Service
|
$
|
1,856,188
|
$
|
120,238
|
$
|
1,017,990
|
$
|
|
$
|
2,994,416
|
Rent and interest
|
|
|
|
|
|
|
|
16,858
|
|
16,858
|
Product
|
|
|
|
107,280
|
|
35,516
|
|
|
|
142,796
|
Total revenues
|
|
1,856,188
|
|
227,518
|
|
1,053,506
|
|
16,858
|
|
3,154,070
|
Costs and expenses
|
|
(2,228,504)
|
|
(572,189)
|
|
(1,238,299)
|
|
|
|
(4,038,992)
|
Investment in Desert Created
|
|
|
|
|
|
|
|
(1,005,955)
|
|
(1,005,955)
|
|
$
|
(372,316)
|
$
|
(344,671)
|
$
|
(184,793)
|
$
|
(989,097)
|
|
(1,890,877)
|
Corporate
|
|
|
|
|
|
|
|
|
|
(10,459,009)
|
|
|
|
|
|
|
|
|
Net loss
|
$
|
(12,349,886)
|
|
|
|
|
|
|
|
|
|
|
|
2017
|
|
Security
|
|
Marketing
|
|
Operations
|
|
Finance
|
|
Total
|
Service
|
$
|
1,322,509
|
$
|
121,250
|
$
|
753,924
|
$
|
|
$
|
2,197,683
|
Rent and interest
|
|
|
|
|
|
|
|
99,251
|
|
99,251
|
Product
|
|
|
|
41,966
|
|
193,801
|
|
|
|
235,767
|
Total revenue
|
|
1,322,509
|
|
163,216
|
|
947,725
|
|
99,251
|
|
2,532,701
|
Costs and expenses
|
|
(1,615,694)
|
|
(381,439)
|
|
(1,018,655)
|
|
(37,113)
|
|
(3,052,901)
|
|
$
|
(293,185)
|
$
|
(218,223)
|
$
|
(70,930)
|
$
|
62,138
|
|
(520,200)
|
Corporate
|
|
|
|
|
|
|
|
|
|
(5,450,637)
|
|
|
|
|
|
|
|
|
Net loss
|
$
|
(5,970,837)
|
|
|
|
|
|
Total assets
|
|
September 30,
2018
|
|
December 31,
2017
|
Security
|
$
|
661,740
|
$
|
488,299
|
Marketing
|
|
115,412
|
|
57,833
|
Operations
|
|
164,484
|
|
231,670
|
Finance
|
|
|
|
|
Corporate
|
|
11,226,207
|
|
6,826,124
|
|
$
|
12,167,843
|
$
|
7,603,926
|
NOTE 14. CHANGE IN ACCOUNTING PRINCIPLE
During the quarter ended December 31, 2017, we early adopted ASU 2017-11, which eliminates the requirement to consider down round features when determining whether certain equity-linked instruments or embedded features are indexed to an entitys own stock. Our 12% Warrants were treated as derivative instruments, because they include a down round feature, whereby if we issue equity-based instruments at a price below the exercise price of the 12% Warrants, the exercise price of the 12% Warrants would be adjusted. Upon adoption of the new accounting principle, the 12% Warrants qualify for the exception from derivative treatment. We have retrospectively adjusted our consolidated financial statements for each prior reporting period to reflect this change in accounting principle.
The changes to our consolidated statement of operations are as follows:
Three months ended September 30, 2017
|
|
|
|
|
|
|
|
|
Previously Reported
|
|
Currently Reported
|
|
Effect of Change
|
Amortization of debt discount
|
$
|
284,900
|
$
|
193,820
|
$
|
(91,080)
|
Gain on derivative warrant liability
|
|
(2,421,000)
|
|
|
|
2,421,000
|
Total other (income) expense, net
|
|
(2,054,537)
|
|
275,383
|
|
2,329,920
|
Net income (loss)
|
|
586,873
|
|
(1,743,047)
|
|
(2,329,920)
|
Net income (loss) per share
|
$
|
0.03
|
$
|
(0.08)
|
$
|
(0.11)
|
17
Nine months ended September 30, 2017
|
|
|
|
|
|
|
|
|
Previously Reported
|
|
Currently Reported
|
|
Effect of Change
|
Amortization of debt discount
|
$
|
1,134,432
|
$
|
750,466
|
$
|
(383,966)
|
Gain on derivative warrant liability
|
|
(10,580,000)
|
|
|
|
10,580,000
|
Total other (income) expense, net
|
|
(9,205,188)
|
|
990,846
|
|
10,196,034
|
Net income (loss)
|
|
4,225,197
|
|
(5,970,837)
|
|
(10,196,034)
|
Net income (loss) per share
|
$
|
0.21
|
$
|
(0.30)
|
$
|
(0.50)
|
The changes to our consolidated statement of cash flows for the nine months ended September 30, 2017, are as follows:
|
|
|
|
|
|
|
|
|
Previously Reported
|
|
Currently Reported
|
|
Effect of Change
|
Net income (loss)
|
$
|
4,225,197
|
$
|
(5,970,837)
|
$
|
(10,196,034)
|
Amortization of debt discount
|
|
1,134,432
|
|
750,466
|
|
(383,966)
|
Gain on derivative warrant liability
|
|
(10,580,000)
|
|
|
|
10,580,000
|
Net cash used in operating activities
|
|
(2,124,013)
|
|
(2,124,013)
|
|
|
|
|
|
|
|
|
|
Non-Cash Transactions
|
|
|
|
|
|
|
Portion of Warrant derivative liability recorded as additional paid-in capital upon exercise of warrants
|
|
7,301,000
|
|
|
|
(7,301,000)
|
18