UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended November 30, 2019
or
☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission File Number: 000-55546
CLS HOLDINGS USA, INC.
(Exact name of registrant as specified in its charter)
Nevada |
45-1352286 |
(State or other jurisdiction of incorporation or organization) |
(I.R.S. Employer Identification No.) |
11767 South Dixie Highway, Suite 115, Miami, Florida 33156
(Address of principal executive offices) (Zip Code)
(888) 438-9132
Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class | Trading Symbol(s) | Name of each exchange on which registered |
N/A | N/A | N/A |
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).
Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer”, “accelerated filer”, “smaller reporting company”, and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large Accelerated filer ☐ |
Accelerated filer ☐ |
Non-accelerated filer ☐ |
Smaller reporting company ☒ |
Emerging growth company ☐ |
|
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes ☐ No ☒
State the number of shares outstanding of each of the issuer’s classes of common stock as of the latest practicable date: 126,421,414 shares of $0.0001 par value common stock outstanding as of January 3, 2020.
CLS HOLDINGS USA, INC.
FORM 10-Q
Quarterly Period Ended November 30, 2019
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PART I. FINANCIAL INFORMATION |
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Item 1. |
4 |
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Consolidated Balance Sheets as of November 30, 2019 (Unaudited) and May 31, 2019 |
4 |
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5 |
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6 |
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7 |
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8 |
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Item 2. |
Management’s Discussion and Analysis of Financial Condition and Results of Operations |
37 |
Item 3. |
54 |
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Item 4. |
54 |
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PART II. OTHER INFORMATION |
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Item 1. |
55 |
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Item 1A. |
55 |
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Item 2. |
55 |
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Item 3. |
55 |
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Item 4. |
55 |
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Item 5. |
55 |
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Item 6. |
56 |
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57 |
Unless otherwise noted, references in this registration statement to “CLS Holdings USA, Inc.,” the “Company,” “we,” “our” or “us” means CLS Holdings USA, Inc. and its subsidiaries.
FORWARD-LOOKING STATEMENTS
This document contains forward-looking statements as that term is defined in the Private Securities Litigation Reform Act of 1995. These statements relate to anticipated future events, future results of operations or future financial performance. These forward-looking statements include, but are not limited to, statements relating to our ability to finance our planned operations and proposed acquisitions, market acceptance of our services and product offerings, our ability to commence and complete expansion plans and buildouts on schedule and on budget, and our ability to protect and commercialize our intellectual property. In some cases, you can identify forward-looking statements by terminology such as “may,” “might,” “will,” “should,” “intends,” “expects,” “plans,” “goals,” “projects,” “anticipates,” “believes,” “estimates,” “predicts,” “potential,” or “continue” or the negative of these terms or other comparable terminology.
These forward-looking statements are only predictions, are uncertain and involve substantial known and unknown risks, uncertainties and other factors which may cause our (or our industry’s) actual results, levels of activity or performance to be materially different from any expected future results, levels of activity or performance expressed or implied by these forward-looking statements.
We cannot guarantee future results, levels of activity or performance. You should not place undue reliance on these forward-looking statements, which speak only as of the date that they were made. These cautionary statements should be considered together with any written or oral forward-looking statements that we may issue in the future. Except as required by applicable law, we do not intend to update any of the forward-looking statements to conform these statements to reflect actual results, later events or circumstances or to reflect the occurrence of unanticipated events.
AVAILABLE INFORMATION
We file certain reports under the Securities Exchange Act of 1934 (the “Exchange Act”). Such filings include annual and quarterly reports. The reports we file with the SEC are available on the SEC’s website (http://www.sec.gov).
CLS HOLDINGS USA, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
November 30, |
May 31, |
|||||||
2019 |
2019 |
|||||||
ASSETS |
(Unaudited) |
|||||||
Current assets |
||||||||
Cash and cash equivalents |
$ | 4,937,013 | $ | 10,525,791 | ||||
Accounts Receivable |
273,788 | 163,571 | ||||||
Inventory |
600,956 | 746,833 | ||||||
Prepaid expenses and other current assets |
298,326 | 390,413 | ||||||
Notes receivable - current portion |
1,950,342 | 850,958 | ||||||
Interest receivable – current portion |
341,704 | - | ||||||
Total current assets |
8,402,129 | 12,677,566 | ||||||
Investment |
- | 2,709 | ||||||
Note receivable |
3,374,658 | 4,299,042 | ||||||
Interest receivable |
- | 178,258 | ||||||
Property, plant and equipment, net of accumulated depreciation of $660,092 and $546,408 |
3,500,193 | 1,910,301 | ||||||
Right of use assets, operating leases |
657,334 | - | ||||||
Intangible assets, net of accumulated amortization of $174,793 and $116,476 |
1,466,770 | 1,525,087 | ||||||
Goodwill |
25,742,899 | 25,742,899 | ||||||
Other assets |
167,455 | 167,455 | ||||||
Total assets |
$ | 43,311,438 | $ | 46,503,317 | ||||
LIABILITIES AND STOCKHOLDERS' EQUITY |
||||||||
Current liabilities |
||||||||
Accounts payable and accrued liabilities |
$ | 1,014,098 | $ | 1,517,127 | ||||
Accrued interest |
559,485 | 474,800 | ||||||
Notes payable, net of discount of $3,541 and $67,384 |
1,360,384 | 3,932,616 | ||||||
Lease liability - operating leases, current |
444,492 | - | ||||||
Contingent liability |
1,000,000 | 1,000,000 | ||||||
Total current liabilities |
4,378,459 | 6,924,543 | ||||||
Noncurrent liabilities |
||||||||
Lease liability - operating leases, non-current |
344,658 | - | ||||||
Convertible notes payable - Long Term, net of discount of $3,028,869 and $3,819,010 |
16,059,482 | 14,541,220 | ||||||
Total Liabilities |
20,782,599 | 21,465,763 | ||||||
Commitments and contingencies |
- | - | ||||||
Stockholder's equity |
||||||||
Preferred stock, $0.001 par value; 20,000,000 shares authorized; no shares issued |
- | - | ||||||
Common stock, $0.0001 par value; 750,000,000 shares authorized at November 30, 2019 and May 31, 2019; 126,421,414 and 125,839,095 shares issued and outstanding at November 30, 2019 and May 31, 2019, respectively |
12,643 | 12,585 | ||||||
Additional paid-in capital |
71,174,324 | 70,758,025 | ||||||
Common stock subscribed |
188,497 | 455,095 | ||||||
Accumulated deficit |
(48,846,625 |
) |
(46,188,151 |
) |
||||
Total stockholder's equity |
22,528,839 | 25,037,554 | ||||||
Total liabilities and stockholders' equity |
$ | 43,311,438 | $ | 46,503,317 |
See accompanying notes to these financial statements.
CLS HOLDINGS USA, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
For the Three |
For the Three |
For the Six |
For the Six |
|||||||||||||
Months Ended |
Months Ended |
Months Ended |
Months Ended |
|||||||||||||
November 30, 2019 |
November 30, 2018 |
November 30, 2019 |
November 30, 2018 |
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Revenue |
$ | 3,056,431 | $ | 1,976,910 | $ | 5,915,446 | $ | 3,156,263 | ||||||||
Cost of goods sold |
1,587,632 | 1,046,667 | 2,999,204 | 1,806,611 | ||||||||||||
Gross margin |
1,468,799 | 930,243 | 2,916,242 | 1,349,652 | ||||||||||||
Selling, general and administrative expenses |
2,021,653 | 2,977,036 | 4,319,967 | 18,369,166 | ||||||||||||
Total operating expenses |
2,021,653 | 2,977,036 | 4,319,967 | 18,369,166 | ||||||||||||
Operating loss |
(552,854 |
) |
(2,046,793 |
) |
(1,403,725 |
) |
(17,019,514 |
) |
||||||||
Other (income) expense: |
||||||||||||||||
Interest expense, net |
729,120 | 652,450 | 1,529,749 | 2,336,669 | ||||||||||||
Gain on settlement of liabilities |
- | - | (275,000 |
) |
- | |||||||||||
Total other expense |
729,120 | 652,450 | 1,254,749 | 2,336,669 | ||||||||||||
Income (Loss) before income taxes |
(1,281,974 |
) |
(2,699,243 |
) |
(2,658,474 |
) |
(19,356,183 |
) |
||||||||
Income tax expense |
- | - | - | - | ||||||||||||
Net income (loss) |
$ | (1,281,974 |
) |
$ | (2,699,243 |
) |
$ | (2,658,474 |
) |
$ | (19,356,183 |
) |
||||
Net income (loss) per share - basic |
$ | (0.01 |
) |
$ | (0.03 |
) |
$ | (0.02 |
) |
$ | (0.24 |
) |
||||
Net income (loss) per share - diluted |
$ | (0.01 |
) |
$ | (0.03 |
) |
$ | (0.02 |
) |
$ | (0.24 |
) |
||||
Weighted average shares outstanding - basic |
126,421,414 | 90,338,339 | 126,260,495 | 80,765,385 | ||||||||||||
Weighted average shares outstanding - diluted |
126,421,414 | 90,338,339 | 126,260,495 | 80,765,385 |
See accompanying notes to these financial statements.
CLS HOLDINGS USA, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(Unaudited)
Additional |
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Common Stock |
Paid In |
Stock |
Accumulated |
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Amount |
Value |
Capital |
Payable |
Deficit |
Total |
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Balance - May 31, 2018 |
50,128,972 | $ | 5,013 | $ | 17,628,717 | $ | 307,584 | $ | (18,569,094 |
) |
$ | (627,780 |
) |
|||||||||||
Common stock issued for conversion of debt |
3,057,443 | 306 | 1,039,357 | - | - | 1,039,663 | ||||||||||||||||||
Common stock issuance with Oasis acquisition |
22,058,823 | 2,206 | 15,438,970 | - | - | 15,441,176 | ||||||||||||||||||
Common stock issued to consultant |
731,250 | 73 | 515,240 | (25,313 |
) |
- | 490,000 | |||||||||||||||||
Common stock issued to officer |
600,000 | 60 | 263,940 | (213,321 |
) |
- | 50,679 | |||||||||||||||||
Common stock to be issued to officer |
- | - | - | 180,209 | 180,209 | |||||||||||||||||||
Common stock and warrants issued for cash |
14,375,000 | 1,438 | 5,748,562 | - | - | 5,750,000 | ||||||||||||||||||
Special Warrants issued for cash |
- | - | 9,785,978 | - | - | 9,785,978 | ||||||||||||||||||
Cashless exercise of warrant |
148,963 | 15 | (15 |
) |
- | - | - | |||||||||||||||||
Warrant issued due to penalty |
- | - | 941,972 | - | - | 941,972 | ||||||||||||||||||
Warrants issued as compensation for offering |
- | - | 1,495,373 | - | - | 1,495,373 | ||||||||||||||||||
Warrants issued to placement agent |
- | - | 1,413,300 | - | - | 1,413,300 | ||||||||||||||||||
Common stock shares issued for settlement |
50,000 | 5 | 47,495 | - | - | 47,500 | ||||||||||||||||||
Common stock to be issued for exercise of special warrants |
- | - | (3,347 |
) |
3,347 | - | ||||||||||||||||||
Special warrant issued due to penalty |
- | - | 7,142,550 | - | - | 7,142,550 | ||||||||||||||||||
Foreign currency transaction loss on equity offering |
- | - | 403,588 | - | - | 403,588 | ||||||||||||||||||
Discount on notes from beneficial conversion feature |
- | - | 6,047,322 | - | - | 6,047,322 | ||||||||||||||||||
Reclass derivative upon adoption of ASU 2017-11 |
- | - | 1,265,751 | - | - | 1,265,751 | ||||||||||||||||||
Imputed interest |
- | - | 539 | - | - | 539 | ||||||||||||||||||
Derivative valuation of reset event |
- | - | 35,883 | - | - | 35,883 | ||||||||||||||||||
Net loss - 6 months ended November 30, 2018 |
- | - | - | - | (19,356,183 |
) |
(19,356,183 |
) |
||||||||||||||||
Balance - November 30, 2018 (unaudited) |
91,150,451 | $ | 9,116 | $ | 69,211,175 | $ | 252,506 | $ | (37,925,277 |
) |
$ | 31,547,520 | ||||||||||||
Balance - May 31, 2019 |
125,839,095 | $ | 12,585 | $ | 70,758,025 | $ | 455,095 | $ | (46,188,151 |
) |
$ | 25,037,554 | ||||||||||||
Common stock issued to officers |
550,000 | 55 | 390,445 | (390,500 |
) |
- | - | |||||||||||||||||
Conversion of notes payable |
32,319 | 3 | 25,854 | - | - | 25,857 | ||||||||||||||||||
Vesting of Common stock to be issued to officers |
- | - | - | 93,902 | - | 93,902 | ||||||||||||||||||
Common stock to be issued to consultants |
- | - | - | 30,000 | - | 30,000 | ||||||||||||||||||
Net loss - 6 months ended November 30, 2019 |
- | - | - | - | (2,658,474 |
) |
(2,658,474 |
) |
||||||||||||||||
Balance - November 30, 2019 (unaudited) |
126,421,414 | $ | 12,643 | $ | 71,174,324 | $ | 188,497 | $ | (48,846,625 |
) |
$ | 22,528,839 |
CLS HOLDINGS USA, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
For the Six |
For the Six |
|||||||
Months Ended |
Months Ended |
|||||||
November 30, 2019 |
November 30, 2018 |
|||||||
CASH FLOWS FROM OPERATING ACTIVITIES |
||||||||
Net loss |
$ | (2,658,474 |
) |
$ | (19,356,183 |
) |
||
Adjustments to reconcile net loss to net cash used in operating activities: |
||||||||
Gain on contingent liabilities |
(275,000 |
) |
- | |||||
Imputed interest |
- | 539 | ||||||
Stock-based compensation |
93,902 | 230,888 | ||||||
Fair value of shares issued to consultants |
30,000 | 490,000 | ||||||
Warrants issued to placement agent |
- | 2,908,673 | ||||||
Amortization of debt discounts |
853,983 | 2,144,328 | ||||||
Warrants and Special Warrants issued due to penalty |
- | 8,084,522 | ||||||
Non-cash offering costs of equity financing |
- | 403,588 | ||||||
Depreciation and amortization expense |
171,497 | 128,531 | ||||||
Expense from derivative triggering event |
- | 12,659 | ||||||
Fair value of shares issued in settlement |
- | 47,500 | ||||||
Changes in assets and liabilities: |
||||||||
Accounts receivable |
(110,217 |
) |
(42,982 |
) |
||||
Prepaid expenses and other current assets |
(41,394 |
) |
(72,295 |
) |
||||
Inventory |
145,877 | (465,031 |
) |
|||||
Interest receivable |
(163,446 |
) |
(24,658 |
) |
||||
Right of use asset |
1,124,112 | - | ||||||
Accounts payable and accrued expenses |
(225,318 |
) |
(376,353 |
) |
||||
Accrued compensation |
- | (16,667 |
) |
|||||
Accrued interest, related party |
- | 5,211 | ||||||
Deferred rent |
- | 1,667 | ||||||
Accrued interest |
838,662 | 188,736 | ||||||
Due to related parties |
- | (50,000 |
) |
|||||
Operating lease liability |
(992,296 |
) |
- | |||||
Net cash used in operating activities |
(1,208,112 |
) |
(5,757,327 |
) |
||||
CASH FLOWS FROM INVESTING ACTIVITIES |
||||||||
Payments to purchase property, plant and equipment |
(1,566,882 |
) |
(35,095 |
) |
||||
Loan made to borrower under note receivable |
(175,000 |
) |
(5,000,000 |
) |
||||
Payment for investment in Alternative Solutions, net of cash received of $14,612 |
- | (5,982,710 |
) |
|||||
Net cash used in investing activities |
(1,741,882 |
) |
(11,017,805 |
) |
||||
CASH FLOWS FROM FINANCING ACTIVITIES |
||||||||
Proceeds from related party convertible notes payable |
- | 158,615 | ||||||
Proceeds from convertible notes payable |
- | 6,357,000 | ||||||
Principal payments on notes payable |
- | (310,000 |
) |
|||||
Principal payments on related party notes payable |
- | (109,877 |
) |
|||||
Principal payments on convertible notes payable |
- | (37,500 |
) |
|||||
Principal payments on notes payable |
(2,638,784 |
) |
- | |||||
Proceeds from sale of equity |
- | 15,535,978 | ||||||
Net cash (used in) provided by financing activities |
(2,638,784 |
) |
21,594,216 | |||||
Net increase in cash and cash equivalents |
(5,588,778 |
) |
4,819,084 | |||||
Cash and cash equivalents at beginning of period |
10,525,791 | 52,964 | ||||||
Cash and cash equivalents at end of period |
$ | 4,937,013 | $ | 4,872,048 | ||||
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: |
||||||||
Interest paid |
$ | 242 | $ | 8,964 | ||||
Income taxes paid |
$ | - | $ | - | ||||
NON-CASH INVESTING AND FINANCING ACTIVITIES: |
||||||||
Related party notes payable reclassified as related party convertible notes payable |
$ | - | $ | 75,000 | ||||
Beneficial conversion feature on convertible notes |
$ | - | $ | 6,047,322 | ||||
Note payable exchanged for common stock |
$ | - | $ | 1,039,663 | ||||
Charge to paid-in capital for par value of shares issued in cashless exercise of warrants |
$ | - | $ | 3,362 | ||||
Reclassify derivative liability to paid-in capital upon adoption of ASU 2017-11 |
$ | - | $ | 1,265,751 | ||||
Adoption of lease standard ASU 2016-02 |
$ | 1,781,446 | $ | - | ||||
Capitalized interest on convertible debentures |
$ | 753,977 | $ | - | ||||
Reclassification of deposit to fixed assets |
$ | 136,190 | $ | - | ||||
Shares issued for conversion of notes payable |
$ | 25,857 | $ | - | ||||
Shares issued for services from stock payable |
$ | - | $ | 25,313 |
See accompanying notes to these financial statements.
CLS HOLDINGS USA, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
November 30, 2019
(Unaudited)
Note 1 – Nature of Business and Significant Accounting Policies
Basis of Presentation
These financial statements and related notes are presented in accordance with accounting principles generally accepted in the United States and are expressed in US dollars. The Company has adopted a fiscal year end of May 31st.
Principals of Consolidation
The accompanying consolidated financial statements include the accounts of CLS Holdings USA, Inc., and its wholly owned operating subsidiaries, CLS Nevada, Inc., (“CLS Nevada”), CLS Labs, Inc. (“CLS Labs”), CLS Labs Colorado, Inc. (“CLS Colorado”), CLS Massachusetts, Inc. (“CLS Massachusetts”), and Alternative Solutions, LLC (“Alternative Solutions”). Alternative Solutions is the sole owner of the following three entities (collectively, the “Oasis LLCs”): Serenity Wellness Center, LLC (“Serenity Wellness Center”); Serenity Wellness Products, LLC (“Serenity Wellness Products”); and Serenity Wellness Growers, LLC (“Serenity Wellness Growers”). All material intercompany transactions have been eliminated upon consolidation of these entities.
Nature of Business
CLS Holdings USA, Inc. (the “Company”) was originally incorporated as Adelt Design, Inc. (“Adelt”) on March 31, 2011 to manufacture and market carpet binding art. Production and marketing of carpet binding art never commenced.
On November 12, 2014, CLS Labs, Inc. (“CLS Labs”) acquired 10,000,000 shares, or 55.6%, of the outstanding shares of common stock of Adelt from its founder, Larry Adelt. On that date, Jeffrey Binder, the Chairman, President and Chief Executive Officer of CLS Labs, was appointed Chairman, President and Chief Executive Officer of the Company. On November 20, 2014, Adelt adopted amended and restated articles of incorporation, thereby changing its name to CLS Holdings USA, Inc. Effective December 10, 2014, the Company effected a reverse stock split of its issued and outstanding common stock at a ratio of 1-for-0.625 (the “Reverse Split”), wherein 0.625 shares of the Company’s common stock were issued in exchange for each share of common stock issued and outstanding. As a result, 6,250,000 shares of the Company’s common stock were issued to CLS Labs in exchange for the 10,000,000 shares that it owned by virtue of the above-referenced purchase from Larry Adelt.
On April 29, 2015, the Company, CLS Labs and CLS Merger Inc., a Nevada corporation and wholly owned subsidiary of CLS Holdings (“Merger Sub”), entered into an Agreement and Plan of Merger (the “Merger Agreement”) and completed a merger, whereby CLS Merger Inc. merged with and into CLS Labs, with CLS Labs remaining as the surviving entity (the “Merger”). Upon the consummation of the Merger, the shares of the common stock of CLS Holdings owned by CLS Labs were extinguished and the former stockholders of CLS Labs were issued an aggregate of 15,000,000 (post Reverse Split) shares of common stock in CLS Holdings in exchange for their shares of common stock in CLS Labs. As a result of the Merger, the Company acquired the business of CLS Labs and abandoned its previous business.
The Company has been issued a U.S. patent with respect to its proprietary method of extracting cannabinoids from cannabis plants and converting the resulting cannabinoid extracts into concentrates such as oils, waxes, edibles and shatter. These concentrates may be ingested in a number of ways, including through vaporization via electronic cigarettes (“e-cigarettes”), and used for a variety of pharmaceutical and other purposes. Internal testing of this extraction method and conversion process has revealed that it produces a cleaner, higher quality product and a significantly higher yield than the cannabinoid extraction processes currently existing in the marketplace. The Company has not commercialized its patented proprietary process or otherwise earned any revenues from it. The Company plans to generate revenues through licensing, fee-for-service and joint venture arrangements related to its patented proprietary method of extracting cannabinoids from cannabis plants and converting the resulting cannabinoid extracts into saleable concentrates.
On December 4, 2017, the Company and Alternative Solutions, entered into a Membership Interest Purchase Agreement (the “Acquisition Agreement”), as amended, for the Company to acquire the Oasis LLCs from Alternative Solutions. Pursuant to the Acquisition Agreement, the Company initially contemplated acquiring all of the membership interests in the Oasis LLCs from Alternative Solutions. Just prior to closing, the parties agreed that the Company would instead acquire all of the membership interests in Alternative Solutions, the parent of the Oasis LLCs, from its members, and the membership interests in the Oasis LLCs owned by members other than Alternative Solutions.
Pursuant to the Acquisition Agreement, the Company paid a non-refundable deposit of $250,000 upon signing, which was followed by an additional payment of $1,800,000 paid in February 2018, for an initial 10% of each of the Oasis LLCs. At that time, the Company applied for regulatory approval to own an interest in the Oasis LLCs, which approval was received. On June 27, 2018, the Company made the payments to indirectly acquire the remaining 90% of the Oasis LLCs, which were equal to cash in the amount of $5,995,543, a $4.0 million promissory note due in December 2019 (the “Oasis Note”), and 22,058,823 shares of its common stock (the “Purchase Price Shares”) (collectively, the “Closing Consideration”). The cash payment of $5,995,543 was less than the $6,200,000 payment originally contemplated because the Company assumed an additional $204,457 of liabilities. The Company used the proceeds of a Canadian private securities offering to fund the cash portion of the Closing Consideration. The Company then applied for regulatory approval to own the additional 90% in membership interests in the Oasis LLCs, which it received on December 12, 2018.
On October 31, 2018, the Company, CLS Massachusetts, Inc., a Massachusetts corporation and a wholly-owned subsidiary of the Company (“CLS Massachusetts”), and In Good Health, Inc., a Massachusetts corporation (“IGH”), entered into an Option Agreement (the “IGH Option Agreement”). Under the terms of the IGH Option Agreement, CLS Massachusetts has an exclusive option to acquire all of the outstanding capital stock of IGH (the “IGH Option”) during the period beginning on the earlier of the date that is one year after the effective date of the conversion and December 1, 2019 and ending on the date that is 60 days after such date. If CLS Massachusetts exercises the IGH Option, the Company, a wholly-owned subsidiary of the Company and IGH will enter into a merger agreement (the form of which has been agreed to by the parties) (the “IGH Merger Agreement”). At the effective time of the merger contemplated by the IGH Merger Agreement, CLS Massachusetts will pay a purchase price of $47,500,000, subject to reduction as provided in the IGH Merger Agreement, payable as follows: $35 million in cash, $7.5 million in the form of a five-year promissory note, and $5 million in the form of restricted common stock of the Company, plus $2.5 million as consideration for a non-competition agreement with IGH’s President, payable in the form of a five-year promissory note. IGH and certain IGH stockholders holding sufficient aggregate voting power to approve the transactions contemplated by the IGH Merger Agreement have entered into agreements pursuant to which such stockholders have, among other things, agreed to vote in favor of such transactions. On October 31, 2018, as consideration for the IGH Option, the Company made a loan to IGH, in the principal amount of $5,000,000, subject to the terms and conditions set forth in that certain loan agreement, dated as of October 31, 2018 between IGH as the borrower and the Company as the lender. The loan is evidenced by a secured promissory note of IGH, which bears interest at the rate of 6% per annum and matures on October 31, 2021. To secure the obligations of IGH to the Company under the loan agreement and the promissory note, the Company and IGH entered into a security agreement dated as of October 31, 2018, pursuant to which IGH granted to the Company a first priority lien on and security interest in all personal property of IGH. If the Company does not exercise the Option on or prior to the date that is 30 days following the end of the option period, the loan amount will be reduced to $2,500,000 as a break-up fee, subject to certain exceptions set forth in the IGH Option Agreement. On August 26, 2019, the parties amended the IGH Option Agreement to, among other things, delay closing until January 2020.
On January 29, 2019, the Company made a line of credit loan to CannAssist, LLC (“CannAssist”), in the principal amount of up to $500,000, subject to the terms and conditions set forth in that certain Loan Agreement, dated as of January 29, 2019 between CannAssist as the Borrower and the Company as the Lender (the “CannAssist Loan Agreement”). Any draws on the line of credit in excess of $150,000 will only be made in the sole discretion of the Company. The loan is evidenced by a secured promissory note of CannAssist (the “CannAssist Note”), which bears interest at the rate of 8% per annum and is personally guaranteed by the two equity owners of CannAssist. To secure the obligations of CannAssist to the Company under the CannAssist Loan Agreement and the CannAssist Note, the Company and CannAssist entered into a security agreement dated as of January 29, 2019, pursuant to which CannAssist granted to the Company a first priority lien on and security interest in all personal property of CannAssist.
On March 11, 2019, the Company, through its wholly-owned subsidiary, CLS Massachusetts, entered into a membership interest purchase agreement (the “CannAssist Purchase Agreement”) with CannAssist, each of the members of CannAssist, and David Noble, as the members’ representative, to acquire an 80% ownership interest in CannAssist. After conducting diligence, the parties decided to terminate the CannAssist Purchase Agreement effective August 26, 2019.
On August 26, 2019, the Company and CannAssist entered into an agreement to amend the CannAssist Note. Pursuant to the amendment, there will be no additional advances under the CannAssist Note beyond the $150,000 advanced on February 4, 2019, and the $175,000 advanced on June 24, 2019. In addition, the CannAssist Note shall become due and payable in full on or before February 28, 2020. See note 15. At November 30, 2019, the Company was owed principal in the amount of $325,000 and accrued interest in the amount of $17,046 pursuant to the CannAssist Note.
On January 4, 2018, the Attorney General of the United States issued new written guidance concerning the enforcement of federal laws relating to marijuana. The Attorney General’s memorandum stated that previous DOJ guidance specific to marijuana enforcement, including the memorandum issued by former Deputy Attorney General James Cole on August 29, 2013 (as amended on February 14, 2014, the “Cole Memo”) is unnecessary and is rescinded, effective immediately. The Cole Memo told federal prosecutors that in states that had legalized marijuana, they should use their prosecutorial discretion to focus not on businesses that comply with state regulations, but on illicit enterprises that create harms like selling drugs to children, operating with criminal gangs, and selling across state lines. While the rescission did not change federal law, as the Cole Memo and other DOJ guidance documents were not themselves laws, the rescission removed the DOJ’s formal policy that state-regulated cannabis businesses in compliance with the Cole Memo guidelines should not be a prosecutorial priority. Notably, former Attorney General Sessions’ rescission of the Cole Memo has not affected the status of the U.S. Department of the Treasury’s Financial Crimes Enforcement Network (“FinCEN”) memorandum issued by the Department of Treasury, which remains in effect. This memorandum outlines Bank Secrecy Act-compliant pathways for financial institutions to service state-sanctioned cannabis businesses, which echoed the enforcement priorities outlined in the Cole Memo. In addition to his rescission of the Cole Memo, Attorney General Sessions issued a one-page memorandum known as the “Sessions Memorandum”. The Sessions Memorandum explains the DOJ’s rationale for rescinding all past DOJ cannabis enforcement guidance, claiming that Obama-era enforcement policies are “unnecessary” due to existing general enforcement guidance adopted in the 1980s, in chapter 9.27.230 of the USAM. The USAM enforcement priorities, like those of the Cole Memo, are based on the use of the federal government’s limited resources and include “law enforcement priorities set by the Attorney General,” the “seriousness” of the alleged crimes, the “deterrent effect of criminal prosecution,” and “the cumulative impact of particular crimes on the community.” Although the Sessions Memorandum emphasizes that cannabis is a federally illegal Schedule I controlled substance, it does not otherwise instruct U.S. Attorneys to consider the prosecution of cannabis-related offenses a DOJ priority, and in practice, most U.S. Attorneys have not changed their prosecutorial approach to date. However, due to the lack of specific direction in the Sessions Memorandum as to the priority federal prosecutors should ascribe to such cannabis activities, there can be no assurance that the federal government will not seek to prosecute cases involving cannabis businesses that are otherwise compliant with state law.
Use of Estimates
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amount of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Cash and Cash Equivalents
The Company considers all highly liquid investments with maturities of three months or less to be cash equivalents. The Company had cash and cash equivalents of $4,937,013 and $10,525,791 as of November 30, 2019 and May 31, 2019, respectively.
Allowance for Doubtful Accounts
The Company generates the majority of its revenues and corresponding accounts receivable from the sale of cannabis, and cannabis related products. The Company evaluates the collectability of its accounts receivable considering a combination of factors. In circumstances where it is aware of a specific customer’s inability to meet its financial obligations to it, the Company records a specific reserve for bad debts against amounts due in order to reduce the net recognized receivable to the amount it reasonably believe will be collected. For all other customers, the Company recognizes reserves for bad debts based on past write-off experience and the length of time the receivables are past due. During the three and six months ended November 30, 2019 and 2018, the Company reserved the amount of $0 for uncollectible accounts receivable.
Inventory
Inventories are stated at the lower of cost or market. Cost is determined using a perpetual inventory system whereby costs are determined by acquisition costs of individual items included in inventory. Market is determined based on net realizable value. Appropriate consideration is given to obsolescence, excessive levels, deterioration, and other factors in evaluating net realizable values. Our cannabis products consist of prepackaged purchased goods ready for resale, along with produced edibles and extracts developed under our production license.
Property, Plant and Equipment
Property and equipment is recorded at the lower of cost or estimated net recoverable amount, and is depreciated using the straight-line method over its estimated useful life. Property acquired in a business combination is recorded at estimated initial fair value. Property, plant, and equipment are depreciated using the straight-line method based on the lesser of the estimated useful lives of the assets or the lease term based upon the following life expectancy:
Years |
||||
Office equipment |
3 to 5 | |||
Furniture & fixtures |
3 to 7 | |||
Machinery & equipment |
3 to 10 | |||
Leasehold improvements |
Term of lease |
Long-Lived Assets
The Company reviews its property and equipment and any identifiable intangibles including goodwill for impairment on an annual basis utilizing the guidance set forth in the Statement of Financial Accounting Standards Board ASC 350 “Intangibles – Goodwill and Other” and ASC 360 “Property, Plant, and Equipment”. Based on Step 1 of ASC 350 and ASC 360, there were no impairments to the Company’s long-lived assets as of November 30, 2019. Long-lived assets to be disposed of are reported at the lower of carrying amount or fair value less costs to sell.
Comprehensive Income
ASC 220-10-15 “Reporting Comprehensive Income,” establishes standards for reporting and displaying of comprehensive income, its components and accumulated balances. Comprehensive income is defined to include all changes in equity except those resulting from investments by owners and distributions to owners. Among other disclosures, ASC 220-10-15 requires that all items that are required to be recognized under current accounting standards as components of comprehensive income be reported in a financial statement that is displayed with the same prominence as other financial statements. The Company does not have any items of comprehensive income in any of the periods presented.
Concentrations of Credit Risk
The Company maintains its cash in bank deposit accounts and other accounts, the balances of which at times may be uninsured or exceed federally insured limits. From time to time, some of the Company’s funds are also held by escrow agents; these funds may not be federally insured. The Company continually monitors its banking relationships and consequently has not experienced any losses in such accounts.
Advertising and Marketing Costs
All costs associated with advertising and promoting products are expensed as incurred. Total recognized advertising and marketing expenses were $218,041 and $48,284 for the three months ended November 30, 2019 and 2018, respectively. Total recognized advertising and marketing expenses were $424,019 and $175,676 for the six months ended November 30, 2019 and 2018, respectively.
Research and Development
Research and development expenses are charged to operations as incurred. The Company incurred no research and development costs for the three and six months ended November 30, 2019 and 2018, respectively.
Fair Value of Financial Instruments
Pursuant to Accounting Standards Codification (“ASC”) No. 825 - Financial Instruments, the Company is required to estimate the fair value of all financial instruments included on its balance sheets. The carrying amounts of the Company’s cash and cash equivalents, notes receivable, convertible notes payable, accounts payable and accrued expenses, none of which is held for trading, approximate their estimated fair values due to the short-term maturities of those financial instruments.
A three-tier fair value hierarchy is used to prioritize the inputs in measuring fair value as follows:
Level 1 - Quoted prices in active markets for identical assets or liabilities.
Level 2 - Quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, or other inputs that are observable, either directly or indirectly.
Level 3 - Significant unobservable inputs that cannot be corroborated by market data.
Derivative Financial Instruments
Derivatives are recorded on the condensed consolidated balance sheets at fair value. The conversion features of the convertible notes are embedded derivatives and are separately valued and accounted for on the consolidated balance sheets with changes in fair value recognized during each period of change as a separate component of other income/expense. Fair values for exchange-traded securities and derivatives are based on quoted market prices. The pricing model the Company uses for determining the fair value of its derivatives is the Lattice Model. Valuations derived from this model are subject to ongoing internal and external verification and review. The model uses market-sourced inputs such as interest rates and stock price volatilities. Selection of these inputs involves management’s judgment and may impact net income (see note 18).
On June 1, 2018, the Company adopted ASU 2017-11 and accordingly reclassified the fair value of the reset provisions embedded in convertible notes payable and certain warrants with embedded anti-dilutive provisions from liability to equity in the aggregate amount of $1,265,751.
There were no reset provisions triggered, and derivative liabilities were not revalued, during the six months ended November 30, 2019.
During the six months ended November 30, 2018, a reset event occurred in connection with one of the Company’s convertible notes (see note 15). The following assumptions were used for the valuation of the derivative liability related to the convertible notes that contain a derivative component during the six months ended November 30, 2018:
- That the quoted market price of the common stock, which increased from $0.6865 as of June 1, 2018 to $0.710 as of June 20, 2018, would fluctuate with the Company’s projected volatility;
- That the conversion price of the YAN II PN Convertible Notes would be equal to $0.40 with a full reset feature, and upon default, 75% of the lowest Variable Weighted Average Price (“VWAP”) in the 15 consecutive trading days ending on the trading day that is immediately prior to the applicable conversion date;
- That the new convertible notes issued this period with full resets were issued with conversion prices of $0.40, which were not reset as a result of subsequent transactions;
- That an event of default at 24% or 15% interest rate would occur 0% of the time, increasing 1.00% per month to a maximum of 25%, and that instead of a penalty, there would be an alternative conversion price;
- That the projected volatility curve from an annualized analysis for each valuation period would be based on the historical volatility of the Company and the remaining term for each convertible note. The projected volatility was in the range 97.4% to 242.8%.
- That the Company would redeem the convertible notes, projected initially at 0% of the time and increasing monthly by 1.0% to a maximum of 10.0% (from alternative financing);
- That the holder would automatically convert the notes at the maximum of 2 times the conversion price or the stock price if the common stock underlying certain 2017 convertible notes was eligible for sale in compliance with securities laws and the Company was not in default;
- That unless an Event of Default occurred, the holder would sell, per trading day, an amount of common stock up to the greater of (i) $5,000 or (ii) 25% multiplied by the “Aggregate Amount,” as defined in the YA II PN Convertible Notes.
Revenue Recognition
Revenue is primarily generated through the Company’s subsidiary, Serenity Wellness Center LLC, d/b/a Oasis Cannabis (“Oasis”). Oasis operates a 24-hour cannabis dispensary that recognizes revenue from the sale of medical and recreational cannabis products within the State of Nevada.
Revenue from the sale of cannabis products is recognized by Oasis at the point of sale, at which time payment is received. Management estimates an allowance for sales returns.
The Company also recognizes revenue from Serenity Wellness Products LLC and Serenity Wellness Growers LLC, d/b/a City Trees (“City Trees”). City Trees recognizes revenue from the sale of the following cannabis products and services to licensed dispensaries within the State of Nevada:
|
● |
Premium organic medical cannabis sold wholesale to licensed retailers |
|
● |
Recreational marijuana cannabis products sold wholesale to licensed distributors and retailers |
|
● |
Extraction products such as oils and waxes derived from in-house cannabis production |
|
● |
Processing and extraction services for licensed medical cannabis cultivators in Nevada |
|
● |
High quality cannabis strains in the form of vegetative cuttings for sale to licensed medical cannabis cultivators in Nevada |
Effective June 1, 2018, the Company adopted ASC 606 — Revenue from Contracts with Customers. Under ASC 606, the Company recognizes revenue from commercial sales of products, licensing agreements and contracts to perform pilot studies by applying the following steps: (1) identifying the contract with a customer; (2) identifying the performance obligations in the contract; (3) determining the transaction price; (4) allocating the transaction price to each performance obligation in the contract; and (5) recognizing revenue when each performance obligation is satisfied. For the comparative periods, revenue has not been adjusted and continues to be reported under ASC 605 — Revenue Recognition. Under ASC 605, revenue is recognized when the following criteria are met: (1) persuasive evidence of an arrangement exists; (2) the performance of the service has been rendered to a customer or delivery has occurred; (3) the amount of fee to be paid by a customer is fixed and determinable; and (4) the collectability of the fee is reasonably assured.
There was no impact on the Company’s financial statements as a result of adopting Topic 606 for the three and six months ended November 30, 2019 or 2018.
Disaggregation of Revenue
The following table represents a disaggregation of revenue for the three and six months ended November 30, 2019 and 2018:
For the Six |
For the Six |
For the Three |
For the Three |
|||||||||||||
Months Ended |
Months Ended |
Months Ended |
Months Ended |
|||||||||||||
November 30, 2019 |
November 30, 2018 |
November 30, 2019 |
November 30, 2018 |
|||||||||||||
Cannabis Dispensary |
4,398,262 | 2,459,973 | 2,312,362 | 1,683,266 | ||||||||||||
Cannabis Production |
1,517,184 | 696,290 | 744,069 | 293,644 | ||||||||||||
5,915,446 | 3,156,263 | 3,056,431 | 1,976,910 |
Basic and Diluted Earnings or Loss Per Share
Basic net earnings per share is based on the weighted average number of shares outstanding during the period, while fully diluted net earnings per share is based on the weighted average number of shares of common stock and potentially dilutive securities assumed to be outstanding during the period using the treasury stock method. Potentially dilutive securities consist of options and warrants to purchase common stock, and convertible debt. Basic and diluted net loss per share are computed based on the weighted average number of shares of common stock outstanding during the period. At November 30, 2019 and 2018, the Company excluded from the calculation of fully diluted shares outstanding the following shares because the result would have been anti-dilutive: At November 30, 2019, a total of 86,932,861 shares (54,835,145 issuable upon the exercise of warrants; 7,676,974 issuable upon the exercise of unit warrants; 24,184,074 issuable upon the conversion of convertible notes payable and accrued interest; and 236,668 in stock payable; at November 30, 2018, a total of 71,785,424 shares (57,062,190 issuable upon the exercise of warrants; 4,635,684 issuable upon the exercise of unit warrants; 4,635,684 issuable upon the conversion of convertible notes payable and accrued interest; and 164,459 in stock payable).
The Company uses the treasury stock method to calculate the impact of outstanding stock options and warrants. Stock options and warrants for which the exercise price exceeds the average market price over the period have an anti-dilutive effect on earnings per common share and, accordingly, are excluded from the calculation.
A net loss causes all outstanding stock options and warrants to be antidilutive. As a result, the basic and dilutive losses per common share are the same for the three and six months ended November 30, 2019 and 2018.
Income Taxes
The Company accounts for income taxes under the asset and liability method in accordance with ASC 740. The Company recognizes deferred tax liabilities and assets for the expected future tax consequences of events that have been included in the financial statements or tax returns. Under this method, deferred tax liabilities and assets are determined based on the difference between the financial statement and tax bases of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. The components of the deferred tax assets and liabilities are classified as current and non-current based on their characteristics. A valuation allowance is provided for certain deferred tax assets if it is more likely than not that the Company will not realize tax assets through future operations.
Section 280E of the Internal Revenue Code, as amended, prohibits businesses from deducting certain expenses associated with trafficking controlled substances (within the meaning of Schedule I and II of the Controlled Substances Act). The IRS has invoked Section 280E in tax audits against various cannabis businesses in the U.S. that are permitted under applicable state laws. Although the IRS has issued a clarification allowing the deduction of certain expenses, the bulk of operating costs and general administrative costs are generally not permitted to be deducted. The Company is in the process of evaluating the impact and application of Section 280E on its business. The Company believes that its net operating loss carryforwards will be sufficient to offset any potential income tax liability associated with Section 280E as of November 30, 2019.
Commitments and Contingencies
Certain conditions may exist as of the date the financial statements are issued, which may result in a loss to the Company but which will only be resolved when one or more future events occur or fail to occur. The Company’s management and its legal counsel assess such contingent liabilities, and such assessment inherently involves an exercise of judgment. In assessing loss contingencies related to legal proceedings that are pending against the Company or unasserted claims that may result in such proceedings, the Company’s legal counsel evaluates the perceived merits of any legal proceedings or unasserted claims brought to such legal counsel’s attention as well as the perceived merits of the amount of relief sought or expected to be sought therein.
If the assessment of a contingency indicates that it is probable that a material loss has been incurred and the amount of the liability can be estimated, then the estimated liability would be accrued in the Company’s financial statements. If the assessment indicates that a potentially material loss contingency is not probable, but is reasonably possible, or is probable but cannot be estimated, then the nature of the contingent liability, together with an estimate of the range of possible loss if determinable and material, would be disclosed.
Loss contingencies considered remote are generally not disclosed unless they involve guarantees, in which case the nature of the guarantee would be disclosed.
Recent Accounting Pronouncements
In February 2016, the Financial Accounting Standards Board (the “FASB”) issued Accounting Standards Codification (“ASC”) No. 2016-02, Leases (Topic 842): Accounting for Leases. This update requires that lessees recognize right-of-use assets and lease liabilities that are measured at the present value of the future lease payments at the lease commencement date. The recognition, measurement, and presentation of expenses and cash flows arising from a lease by a lessee will largely remain unchanged and shall continue to depend on its classification as a finance or operating lease. The Company has performed a comprehensive review in order to determine what changes were required to support the adoption of this new standard. The Company adopted the ASU and related amendments on June 1, 2019 and has elected certain practical expedients permitted under the transition guidance. The Company has elected the optional transition method that allows for a cumulative-effect adjustment in the period of adoption and will not restate prior periods. Under the new guidance, the majority of the Company’s leases continue to be classified as operating. During the first quarter of fiscal 2020, the Company completed its implementation of its processes and policies to support the new lease accounting and reporting requirements. During the first quarter of fiscal 2020, the Company completed its implementation of its processes and policies to support the new lease accounting and reporting requirements. This resulted in an initial increase in both its total assets and total liabilities in the amount of $1,781,446.
In January 2017, the FASB issued ASU No. 2017-04, Simplifying the Test for Goodwill Impairment, which simplifies the subsequent measurement of goodwill by eliminating Step 2 from the goodwill impairment test. In computing the implied fair value of goodwill under Step 2, current U.S. GAAP requires the performance of procedures to determine the fair value at the impairment testing date of assets and liabilities (including unrecognized assets and liabilities) following the procedure that would be required in determining the fair value of assets acquired and liabilities assumed in a business combination. Instead, the amendments under this ASU require the goodwill impairment test to be performed by comparing the fair value of a reporting unit with its carrying amount. An impairment charge should be recognized for the amount by which the carrying amount exceeds the reporting unit’s fair value; however, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. The ASU becomes effective for the Company on January 1, 2020. The amendments in this ASU will be applied on a prospective basis. Early adoption is permitted for interim or annual goodwill impairment tests performed. The adoption of this ASU is not expected to have a material impact on our consolidated financial statements.
In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230). The update addresses eight specific cash flow issues and is intended to reduce diversity in practice in how certain cash receipts and cash payments are presented and classified in the statement of cash flows. This update is effective for reporting periods beginning after December 15, 2017, including interim periods within the reporting period. Adoption of ASU 2016-15 did not have a material effect on our financial statements.
In May 2017, the FASB issued ASU No. 2017-09, Stock Compensation - Scope of Modification Accounting, which provides guidance on which changes to the terms or conditions of a share-based payment award require an entity to apply modification accounting. The ASU requires that an entity account for the effects of a modification unless the fair value (or calculated value or intrinsic value, if used), vesting conditions and classification (as equity or liability) of the modified award are all the same as for the original award immediately before the modification. The ASU became effective for the Company on January 1, 2018, and is applied to an award modified on or after the adoption date. Adoption of ASU 2017-09 did not have a material effect on the Company’s financial statements.
Effective June 1, 2018, the Company adopted ASC 606 — Revenue from Contracts with Customers. Under ASC 606, the Company recognizes revenue from the commercial sales of products, licensing agreements and contracts to perform pilot studies by applying the following steps: (1) identify the contract with a customer; (2) identify the performance obligations in the contract; (3) determine the transaction price; (4) allocate the transaction price to each performance obligation in the contract; and (5) recognize revenue when each performance obligation is satisfied. For the comparative periods, revenue has not been adjusted and continues to be reported under ASC 605 — Revenue Recognition. Under ASC 605, revenue is recognized when the following criteria are met: (1) persuasive evidence of an arrangement exists; (2) the performance of a service has been rendered to a customer or delivery has occurred; (3) the amount of the fee to be paid by a customer is fixed and determinable; and (4) the collectability of the fee is reasonably assured. There was no impact on the Company’s financial statements as a result of adopting ASC 606.
In July 2017, the FASB issued ASU No. 2017-11, Earnings Per Share (Topic 260), Distinguishing Liabilities from Equity (Topic 480), Derivatives and Hedging (Topic 815). The amendments in Part I of this update change the classification analysis of certain equity-linked financial instruments (or embedded features) with down round features.
When determining whether certain financial instruments should be classified as liabilities or equity instruments, a down round feature no longer precludes equity classification when assessing whether the instrument is indexed to an entity’s own stock. The amendments also clarify existing disclosure requirements for equity-classified instruments. As a result, a freestanding equity-linked financial instrument (or embedded conversion option) no longer would be accounted for as a derivative liability at fair value as a result of the existence of a down round feature. For freestanding equity classified financial instruments, the amendments require entities that present earnings per share (EPS) in accordance with Topic 260 to recognize the effect of the down round feature when it is triggered. That effect is treated as a dividend and as a reduction of income available to common shareholders in basic EPS. Convertible instruments with embedded conversion options that have down round features are now subject to the specialized guidance for contingent beneficial conversion features (in Subtopic 470-20, Debt—Debt with Conversion and Other Options), including related EPS guidance (in Topic 260). The amendments in Part II of this update recharacterize the indefinite deferral of certain provisions of Topic 480 that now are presented as pending content in the codification, to a scope exception.
Those amendments do not have an accounting effect. For public business entities, the amendments in Part I of this update are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. Early adoption is permitted for all entities, including adoption in an interim period. If an entity early adopts the amendments in an interim period, any adjustments should be reflected as of the beginning of the fiscal year that includes that interim period.
On June 1, 2018, the Company adopted ASU 2017-11 and accordingly reclassified the fair value of the reset provisions embedded in convertible notes payable and certain warrants with embedded anti-dilutive provisions from liability to equity in the aggregate amount of $1,265,751.
There are various other updates recently issued, most of which represented technical corrections to the accounting literature or application to specific industries and are not expected to a have a material impact on the Company’s consolidated financial position, results of operations or cash flows.
Note 2 – Going Concern
As shown in the accompanying financial statements, the Company has incurred net losses from operations resulting in an accumulated deficit of $48,846,625 as of November 30, 2019. The Company’s auditors stated in their opinion on the Company’s financial statements for the year ended May 31, 2019 that there was substantial doubt about the Company’s ability to continue as a going concern, and that further losses were anticipated in the development of the Company’s business raising substantial doubt about the Company’s ability to continue as a going concern. The ability to continue as a going concern is dependent upon the Company generating profitable operations in the future and/or obtaining the necessary financing to meet its obligations and repay its liabilities arising from normal business operations when they come due. The Company began generating revenue from operations with the acquisition of Alternative Solutions on June 27, 2018 (note 3). Alternative Solutions is now profitable and management intends to finance corporate level and expansion costs over the next twelve months with revenues from its operations, and if necessary, loans and/or the proceeds from the sale of securities. These financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts, or amounts and classification of liabilities that might result from this uncertainty.
Note 3 – Acquisition of Alternative Solutions
On June 27, 2018, the Company closed on the purchase of all of the membership interests in Alternative Solutions and its three operating subsidiaries (collectively, the “Oasis LLCs”) from the members of such entities (other than Alternative Solutions). The Oasis LLCs operate a fully integrated cannabis business in Las Vegas, Nevada, including a grow; extraction, conversion and processing facility; and a retail dispensary. The closing occurred pursuant to a Membership Interest Purchase Agreement (the “Acquisition Agreement”) entered into between the Company and Alternative Solutions on December 4, 2017, as amended. Pursuant to the Acquisition Agreement, the Company initially contemplated acquiring all of the membership interests in the Oasis LLCs from Alternative Solutions. Just prior to closing, the parties agreed that the Company would instead acquire all of the membership interests in Alternative Solutions, the parent of the Oasis LLCs, from its members, and the membership interests in the Oasis LLCs owned by members other than Alternative Solutions. The revised structure of the transaction is referenced in the Oasis Note, which modified the Acquisition Agreement.
Pursuant to the Acquisition Agreement, the Company paid a non-refundable deposit of $250,000 upon signing, which was followed by an additional payment of $1,800,000 paid in February 2018, for an initial 10% of each of the Oasis LLCs. At that time, the Company applied for regulatory approval to own an interest in the Oasis LLCs, which approval was received. On June 27, 2018, the Company made the payments to indirectly acquire the remaining 90% of the Oasis LLCs, which were equal to cash in the amount of $5,995,543, a $4.0 million promissory note due in December 2019 (see note 15), (the “Oasis Note”), and 22,058,823 shares of its common stock (see note 17), (the “Purchase Price Shares”) (collectively, the “Closing Consideration”). The cash payment of $5,995,543 was less than the $6,200,000 payment originally contemplated because the Company assumed an additional $204,457 of liabilities. The Company used the proceeds of a Canadian private securities offering to fund the cash portion of the Closing Consideration (see note 17). The Company then applied for regulatory approval to own the additional 90% in membership interests in the Oasis LLCs, which it received on December 12, 2018. On August 14, 2019, the Company made a prepayment in the amount of $2,500,000, which, along with certain legal fees and other costs in the aggregate amount of $138,784, was applied to the amount due under the $4.0 million promissory note.
The number of Purchase Price Shares was equal to 80% of the offering price of the Company’s common stock in its last equity offering, which price was $0.34 per share. The Oasis Note is secured by a first priority security interest over the membership interests in Alternative Solutions and the Oasis LLCs, as well as by the assets of the Oasis LLCs. The Company also delivered a confession of judgment to a representative of the sellers that will become effective, in general, if the Company defaults under the Oasis Note.
A claim was been made that Oasis owed certain amounts to a consultant at the acquisition date; Oasis disputed this claim. This claim was accrued on the Company’s balance sheet as of May 31, 2019, and was resolved during the six months ended November 30, 2019 (see note 16).
The sellers are also entitled to a $1,000,000 payment from the Company on May 30, 2020 if the Oasis LLCs have maintained an average revenue of $20,000 per day during the 2019 calendar year. The fair value of this contingent consideration was $678,111 at the acquisition date as determined by the Company’s outside valuation consultants. At May 31, 2019, the Company increased the value of this contingent consideration to $1,000,000, and charged the amount of $321,889 to operations during the year ended May 31, 2019. This amount is recorded as a contingent liability on the Company’s balance sheet at November 30, 2019 and May 31, 2019.
The acquisition date estimated fair value of the consideration transferred totaled $27,975,650, which consisted of the following:
Initial purchase price |
$ | 2,050,000 | ||
Cash paid in connection with transaction |
5,995,543 | |||
Note payable |
3,810,820 | |||
Contingent consideration |
678,111 | |||
Common stock |
15,441,176 | |||
Total purchase price |
$ | 27,975,650 | ||
Net tangible assets |
$ | 595,151 | ||
Intangible assets |
1,637,600 | |||
Goodwill |
25,742,899 | |||
Total purchase price |
$ | 27,975,650 |
The above estimated fair value of the intangible assets is based on a preliminary purchase price allocation prepared by a third party valuation expert. During the preliminary purchase price allocation period, which may be up to one year from the business combination date, the Company may record adjustments to the assets acquired and liabilities assumed, with the corresponding offset to goodwill. After the preliminary purchase price allocation period, the Company may record adjustments to assets acquired or liabilities assumed subsequent to the purchase price allocation period in its operating results in the period in which the adjustments were determined.
Pro forma results
The following table sets forth the unaudited pro forma results of the Company as if the acquisition of the Oasis LLCs was effective on June 1, 2018.
Three months ended November 30, |
||||
2018 |
||||
(unaudited) |
||||
Revenues |
$ | 1,976,910 | ||
Net loss |
$ | (10,771,264 |
) |
|
Basic net income per share |
$ | (0.12 |
) |
|
Diluted net income per share |
$ | (0.12 |
) |
|
Weighted average shares - basic |
90,338,339 | |||
Weighted average shares - diluted |
90,338,339 |
Six Months ended November 30, |
||||
2018 |
||||
(unaudited) |
||||
Revenues |
$ | 3,843,783 | ||
Net loss |
$ | (19,353,778 |
) |
|
Basic net income per share |
$ | (0.24 |
) |
|
Diluted net income per share |
$ | (0.24 |
) |
|
Weighted average shares - basic |
80,765,385 | |||
Weighted average shares - diluted |
80,765,385 |
These combined results are not necessarily indicative of the results that may have been achieved had the companies always been combined.
Note 4 – Joint Venture and Options Transaction
In Good Health
On October 31, 2018, the Company, CLS Massachusetts, and IGH, which converted to a for-profit corporation on November 6, 2018 (the “Conversion”), entered into the IGH Option Agreement. Under the terms of the IGH Option Agreement, CLS Massachusetts has an exclusive option to acquire all of the outstanding capital stock of IGH (the “IGH Option”) during the period beginning on the earlier of the date that is one year after the effective date of the Conversion and December 1, 2019, and ending on the date that is 60 days after such date (the “Option Period”). If CLS Massachusetts exercises the IGH Option, the Company, a wholly-owned subsidiary of the Company and IGH will enter into the IGH Merger Agreement (the form of which has been agreed to by the parties). At the effective time of the merger contemplated by the IGH Merger Agreement, CLS Massachusetts will pay a purchase price of $47,500,000, subject to reduction as provided in the IGH Merger Agreement, payable as follows: $35 million in cash, $7.5 million in the form of a five-year promissory note, and $5 million in the form of restricted common stock of the Company, plus $2.5 million as consideration for a non-competition agreement with IGH’s President, payable in the form of a five-year promissory note.
IGH and certain IGH stockholders holding sufficient aggregate voting power to approve the transactions contemplated by the IGH Merger Agreement have entered into agreements pursuant to which such stockholders have, among other things, agreed to vote in favor of such transactions.
On October 31, 2018, as consideration for the IGH Option, the Company made a loan to IGH (the “IGH Loan”), in the principal amount of $5,000,000 (the “IGH Loan Amount”), subject to the terms and conditions set forth in that certain Loan Agreement, dated as of October 31, 2018 between IGH as the borrower and the Company as the lender (the “IGH Loan Agreement”) (see note 8). The IGH Loan is evidenced by a secured promissory note of IGH (the “IGH Note”), which bears interest at the rate of 6% per annum and matures on October 31, 2021. The Company recorded interest income in the amount of $75,616 and $150,411 on the IGH Loan during the three and six months ended November 30, 2019, respectively.
To secure the obligations of IGH to the Company under the IGH Loan Agreement and the IGH Note, the Company and IGH entered into a Security Agreement dated as of October 31, 2018 (the “IGH Security Agreement”), pursuant to which IGH granted to the Company a first priority lien on and security interest in all personal property of IGH.
If the Company does not exercise the IGH Option on or prior to the date that is 30 days following the end of the Option Period, the IGH Loan Amount will be reduced to $2,500,000 as a break-up fee (the “Break-Up Fee”), except in the event of a Purchase Exception (as defined in the IGH Option Agreement), in which case the Break-Up Fee will not apply and there will be no reduction to the Loan Amount.
On August 26, 2019, the parties amended the IGH Option to, among other things, extend the Option Period and delay closing until January 2020.
CannAssist
On January 29, 2019, the Company made a line of credit loan to CannAssist in the principal amount of up to $500,000, subject to the terms and conditions set forth in the CannAssist Loan Agreement. Any draws on the line of credit in excess of $150,000 will only be made in the sole discretion of the Company. The loan is evidenced by the CannAssist Note, which bears interest at the rate of 8% per annum and is personally guaranteed by the two equity owners of CannAssist. On June 24, 2019, the Company advanced the sum of $175,000 to CannAssist, increasing the balance due to the Company under the CannAssist Note to $325,000 at November 30, 2019. The Company recorded interest income in the amount of $6,553 and $13,035 on the loan during the three and six months ended November 30, 2019, respectively.
To secure the obligations of CannAssist to the Company under the CannAssist Loan Agreement and the CannAssist Note, the Company and CannAssist entered into a security agreement dated as of January 29, 2019, pursuant to which CannAssist granted to the Company a first priority lien on and security interest in all personal property of CannAssist.
On March 11, 2019, the Company, through its wholly-owned subsidiary, CLS Massachusetts, entered into the CannAssist Purchase Agreement with CannAssist, each of the members of CannAssist, and David Noble, as the members’ representative.
On August 26, 2019, the Company and CannAssist amended the CannAssist Note. Pursuant to the amendment, there will be no additional advances under the CannAssist Note beyond the $150,000 advanced on February 4, 2019, and the $175,000 advanced on June 24, 2019. In addition, the CannAssist Note shall become due and payable in full on or before February 28, 2020. Finally, the Company and CannAssist terminated the CannAssist Purchase Agreement.
Note 5 – Accounts Receivable
Accounts receivable was $273,788 and $163,571 at November 30, 2019 and May 31, 2019, respectively. No allowance for doubtful accounts was necessary during the three and six months ended November 30, 2019 and 2018.
Note 6 – Prepaid Expenses and Other Current Assets
Prepaid expenses and other current assets consisted of the following:
November 30, 2019 |
May 31, 2019 |
|||||||
Deposits |
$ | 75,303 | 211,493 | |||||
Prepaid expenses |
223,023 | 178,920 | ||||||
Total |
$ | 298,326 | $ | 390,413 |
During the six months ended November 30, 2019, the Company charged the amount of $101,512 as a reserve against a receivable from a payment card company in connection with the processing of its payment card sales. Also during the six months ended November 30, 2019, the Company applied deposits in the amount of $136,190 to the acquisition of fixed assets. See note 9.
Note 7 – Inventory
Inventory, consisting of material, overhead, labor, and manufacturing overhead, is stated at the lower of cost (first-in, first-out) or market, and consists of the following:
November 30, |
May 31, |
|||||||
2019 |
2019 |
|||||||
Raw materials |
$ | 188,658 | $ | 323,635 | ||||
Finished goods |
412,298 | 423,198 | ||||||
Total |
$ | 600,956 | $ | 746,833 |
Raw materials consist of cannabis plants and the materials that are used in our production process prior to being tested and packaged for consumption. Finished goods consist of pre-packaged materials previously purchased from other licensed cultivators and the Company’s manufactured edibles and extracts.
Note 8 – Notes Receivable
PRH Note Receivable
During the year ended May 31, 2015, the Company loaned $500,000 pursuant to a promissory note (the “PRH Note”) to Picture Rock Holdings, LLC, a Colorado limited liability company (“PRH”). Pursuant to the PRH Note, as amended by the parties effective June 30, 2015, October 31, 2015, April 11, 2016, and May 31, 2016, PRH was expected to repay the principal due under the PRH Note in twenty (20) equal quarterly installments of Twenty Five Thousand Dollars ($25,000) commencing in the month following the month in which PRH commenced generating revenue at the grow facility, which commencement was originally anticipated to occur in the first quarter of 2017, and continuing until paid in full. The Company suspended its plans to operate in Colorado due to regulatory delays and has not yet determined when it will pursue them again. Interest will accrue on the unpaid principal balance of the PRH Note at the rate of twelve percent (12%) per annum and will be paid quarterly in arrears commencing after such initial payment and continuing until paid in full. All outstanding principal and any accumulated unpaid interest due under the PRH Note is due and payable on the five-year anniversary of the initial payment thereunder. In the event of default as defined in the agreements underlying the PRH Note, all amounts under the PRH Note shall be due and payable at once. During the year ended May 31, 2015, the Company recorded an impairment related to the note receivable in the amount of $500,000.
During the year ended May 31, 2018, the Company received a payment of $50,000 on the PRH Note. As a result, the Company has reduced the impairment of the PRH Note by $50,000 to reflect this payment. The receivable is recorded on the balance sheet as of November 30, 2019 in the amount of $0, net of allowance in the amount of $450,000.
IGH Note Receivable
On October 31, 2018, in connection with an option to purchase transaction (see note 4), the Company loaned $5,000,000 pursuant to the IGH Note to IGH; on November 6, 2018, IGH converted to a for-profit corporation. The IGH Note bears interest at the rate of 6% per annum. On March 1, 2020 (the “Initial Payment Date”), all accrued interest shall be added to the outstanding principal due hereunder and such amount shall be payable in eight equal quarterly installments, commencing on the Initial Payment Date, together with interest accruing after the Initial Payment Date. The IGH Note shall mature and all outstanding principal, accrued interest and any other amounts due hereunder, shall become due and payable in full on the third anniversary of the IGH Note. The IGH Note was issued in connection with a loan agreement and security agreement between the Company and IGH, and the IGH Option Agreement between the Company and IGH, among others, in both cases dated as of October 31, 2018 and the other IGH Loan Documents, and is secured by the collateral described in the IGH Loan Documents and by such other collateral as may in the future be granted to the Company to secure the IGH Note. During the three and six months ended November 30, 2019, the Company recorded interest income in the amount of $75,795 and $150,411 in connection with the IGH Note, respectively. At November 30, 2019, principal in the amount of $1,625,342 and interest receivable in the amount of $324,658 due under the IGH Note were classified as current assets and principal in the amount of $3,374,658 was classified as non-current assets on the Company’s balance sheet.
CannAssist Note Receivable
On January 29, 2019, the Company made a line of credit loan to CannAssist pursuant to the CannAssist Note, in the principal amount of up to $500,000. The loan bears interest at the rate of 8% per annum and is personally guaranteed by the two equity owners of CannAssist. Payments on the loan were to commence on July 1, 2019 and the CannAssist Note was to mature on December 1, 2019. On August 26, 2019, the Company and CannAssist amended the CannAssist Note. Pursuant to the amendment, among other things, the CannAssist Note shall become due and payable in full on or before February 28, 2020. During the three and six months ended November 30, 2019, the Company recorded interest income in the amount of $6,482 and $13,035 on the CannAssist Note, respectively. At November 30, 2019, the principal amount of $325,000 and interest receivable in the amount of $17,046 due under the CannAssist Note were classified as current assets on the Company’s balance sheet.
Note 9 – Property, Plant and Equipment
Property, plant and equipment consisted of the following at November 30, 2019 and May 31, 2019.
November 30, 2019 |
May 31, 2019 |
|||||||
Office equipment |
53,152 | 53,152 | ||||||
Furniture and fixtures |
141,984 | 140,701 | ||||||
Machinery & Equipment |
1,177,345 | 969,196 | ||||||
Leasehold improvements |
$ | 2,787,804 | $ | 1,293,660 | ||||
Less: accumulated depreciation |
(660,092 |
) |
(546,408 |
) |
||||
Property, plant, and equipment, net |
$ | 3,500,193 | $ | 1,910,301 |
During the six months ended November 30, 2019 and 2018, the Company made payments in the amount of $1,566,882 and $35,095, respectively, for property, plant, and equipment. In addition, during the six months ended November 30, 2018, the Company acquired plant, property, and equipment in the amount of $933,142 with the acquisition of Alternative Solutions. See note 3. Also during the six months ended November 30, 2019, the Company applied $136,190 of deposits to the acquisition of fixed assets. See note 6.
Depreciation of property, plant, and equipment was $57,644 and $48,658 for the three months ended November 30, 2019 and 2018 respectively. Depreciation of property, plant, and equipment was $113,180 and $76,167 for the six months ended November 30, 2019 and 2018, respectively.
Note 10 – Right to Use Assets and Liabilities – Operating Leases
The Company has operating leases for offices and warehouses. The Company’s leases have remaining lease terms of 1 year to 4 years, some of which include options to extend.
The Company’s lease expense for the three and six months ended November 30, 2019 was entirely comprised of operating leases and amounted to $106,370 and $212,741, respectively. The Company’s right of use (“ROU”) asset amortization for the three and six months ended November 30, 2019 was $89,265 and $176,578, respectively. The difference between the lease expense and the associated ROU asset amortization consists of interest.
Right to use assets – operating leases are summarized below:
November 30, 2019 |
||||
Amount at inception of leases |
$ | 1,781,446 | ||
Amount amortized |
(1,124,112 |
) |
||
Balance – November 30, 2019 |
$ | 657,334 |
Operating lease liabilities are summarized below:
Amount at inception of leases |
$ | 1,781,446 | ||
Amount amortized |
(992,296 |
) |
||
Balance – November 30, 2019 |
$ | 789,150 |
November 30, 2019 |
||||
Warehouses and offices |
$ | 789,150 | ||
Lease liability |
$ | 789,150 | ||
Less: current portion |
(444,492 |
) |
||
Lease liability, non-current |
$ | 344,658 |
Maturity analysis under these lease agreements is as follows:
Twelve months ended November 30, 2020 |
$ | 491,206 | ||
Twelve months ended November 30, 2021 |
196,085 | |||
Twelve months ended November 30, 2022 |
112,073 | |||
Twelve months ended November 30, 2023 |
66,507 | |||
Twelve months ended November 30, 2024 |
- | |||
Thereafter |
- | |||
Total |
$ | 865,871 | ||
Less: Present value discount |
(76,720 |
) |
||
Lease liability |
$ | 789,150 |
Note 11 – Intangible Assets
Intangible assets consisted of the following at November 30, 2019 and May 31, 2019:
Accumulated |
||||||||||||
November 30, 2019 |
Gross |
Amortization |
Net |
|||||||||
Intellectual Property |
$ | 319,600 | $ | (45,277 |
) |
$ | 274,323 | |||||
License & Customer Relations |
990,000 | (70,125 |
) |
919,875 | ||||||||
Tradenames - Trademarks |
301,000 | (42,642 |
) |
258,358 | ||||||||
Non-compete Agreements |
27,000 | (14,622 |
) |
12,378 | ||||||||
Domain Names |
3,963 | (2,127 |
) |
1,836 | ||||||||
Total |
$ | 1,641,563 | $ | (174,793 |
) |
$ | 1,466,770 |
Accumulated |
||||||||||||
May 31, 2019 |
Gross |
Amortization |
Net |
|||||||||
Intellectual Property |
$ | 319,600 | $ | (29,297 |
) |
$ | 290,303 | |||||
License & Customer Relations |
990,000 | (45,375 |
) |
944,625 | ||||||||
Tradenames - Trademarks |
301,000 | (27,592 |
) |
273,408 | ||||||||
Non-compete Agreements |
27,000 | (12,378 |
) |
14,622 | ||||||||
Domain names |
3,963 | (1,834 |
) |
2,129 | ||||||||
Total |
$ | 1,641,563 | $ | (116,476 |
) |
$ | 1,525,087 |
Total amortization expense charged to operations for the three months ended November 30, 2019 and 2018 was $28,030 and $31,413, respectively. Total amortization expense charged to operations for the six months ended November 30, 2019 and 2018 was $58,304 and $52,364, respectively.
Amount to be amortized during the twelve months ended November 30, |
||||
2020 |
$ | 164,156 | ||
2021 |
164,156 | |||
2022 |
164,208 | |||
2023 |
164,208 | |||
2024 |
162,786 | |||
Thereafter |
647,256 | |||
$ | 1,466,770 |
Note 12 – Goodwill
The Company recorded goodwill in the amount of $25,742,899 in connection with the acquisition of Alternative Solutions on June 27, 2018 (see note 3). Goodwill is tested for impairment on an annual basis utilizing the two-step process set forth in ASC 350 and ASC 360. The first step of this process compares the book value of the Company with its fair value. If the fair value exceeds its carrying amount (including recorded goodwill), no goodwill impairment has occurred. Since the fair value of the Company based upon the market price of the Company’s common stock exceeded the carrying value (including goodwill) at November 30, 2019 and May 31, 2019, no indication of goodwill impairment existed.
Note 13 – Other Assets
Other assets consisted of the following at November 30, 2019 and May 31, 2019:
November 30, |
May 31, |
|||||||
2019 |
2019 |
|||||||
Security deposits |
167,455 | 167,455 | ||||||
$ | 167,455 | $ | 167,455 |
Note 14 – Accounts Payable and Accrued Liabilities
Accrued accounts payable and accrued liabilities consisted of the following at November 30, 2019 and May 31, 2019:
November 30, 2019 |
May 31, 2019 |
|||||||
Trade accounts payable |
$ | 451,661 | $ | 510,210 | ||||
Accrued payroll and payroll taxes |
205,301 | 230,119 | ||||||
Accrued liabilities |
357,136 | 625,399 | ||||||
Deferred rent liability |
- | 151,399 | ||||||
Total |
$ | 1,014,098 | $ | 1,517,127 |
Note 15 – Notes Payable and Convertible Notes Payable
Notes Payable
November 30, 2019 |
May 31, 2019 |
|||||||
The Company issued a secured note payable to Serenity Wellness Enterprises, LLC, as nominee (“Oasis Note”) dated June 27, 2018 in the principal amount of $4,000,000 and bearing interest at a rate of 6% per annum pursuant to the Membership Interest Purchase Agreement with Alternative Solutions. The note is due on December 4, 2019, but may be prepaid at any time without penalty. The Oasis Note is secured by all of the membership interests in Alternative Solutions and the Oasis LLCs and by the assets of the Oasis LLCs.
The Company recognized an original issue discount of $189,180 on the Oasis Note. During the three and six months ended November 30, 2019, $10,622 and $61,843, respectively, of this discount was charged to operations. On August 14, 2019, the Company made a prepayment in the amount of $2,500,000, which was applied to the amount due under the Oasis Note; in addition, principal due under the Oasis note was further reduced by $133,389 for legal fees and $5,395 for other costs incurred by the Company in connection with a settlement agreement (see note 16). During the three and six months ended November 30, 2019, the Company accrued interest in the amount of $20,686 and $74,990, respectively, on the Oasis Note. |
1,363,925 | 4,000,000 | ||||||
Total – Notes Payable |
$ | 1,363,925 | $ | 4,000,000 | ||||
Less: Discount |
(3,541 |
) |
(67,384 |
) |
||||
Notes Payable, Net of Discounts |
$ | 1,360,384 | $ | 3,932,616 | ||||
Current portion |
$ | 1,360,384 | $ | 3,932,616 | ||||
Long term portion |
$ | - | $ | - |
Related Party Convertible Demand Notes Payable
On May 31, 2017, the Company entered into an Omnibus Loan Amendment Agreement (the “Omnibus Loan Amendment”) with Jeffrey I. Binder, Frank Koretsky, Newcan Investment Partners LLC and CLS CO 2016, LLC (collectively, the “Insiders”). Pursuant to the Omnibus Loan Amendment, the Company agreed with the Insiders to amend certain terms of loans the Insiders made to the Company for working capital purposes, which loans were initially demand loans, and, except for loans made in 2017, were later memorialized as convertible loans (the “Insider Loans”), in exchange for the agreement of the Insiders to convert all Insider Loans where funds were advanced prior to January 1, 2017, which totaled $2,537,750, plus $166,490 of accrued interest thereon, into an aggregate of 10,816,960 shares of the Company’s common stock at $0.25 per share, and forego the issuance of warrants to purchase the Company’s common stock upon conversion. This resulted in the issuance of an additional 7,609,910 shares compared to the original number of shares issuable upon conversion of the Insider Loans prior to the Omnibus Loan Amendment. The Company valued the shares at $0.125, which was the market price of the Company’s stock at the conversion date, and charged the amount of $951,239 to loss on modification of debt during the year ended May 31, 2017. The Company entered into the Omnibus Loan Amendment in order to ease the debt burden on the Company and prevent it from defaulting on the Insider Loans.
Pursuant to the Omnibus Loan Amendment, the following amendments were made to the Insider Loans: (a) the Company reduced the conversion price on the Insider Loans from between $0.75 and $1.07 per share of common stock to $0.25 per share of common stock, in those cases where the conversion price was greater than $0.25, which reduced conversion price exceeded the closing price of the common stock during the three months prior to the Omnibus Loan Amendment; (b) the Company deleted the requirement to issue warrants to purchase the Company’s common stock upon conversion of the Insider Loans; (c) the Company amended one Insider Loan to permit conversion of only the portion of the Insider Loan related to services that were provided to it prior to January 1, 2017; and (d) the Company amended the terms of the Insider Loans where funds were advanced on or after January 1, 2017, which Insider Loans were not converted into the Company’s common stock, to provide for, where not already the case, a 10% interest rate per annum, a $0.25 conversion price per share of common stock, and the deletion of the requirement that the Company issue warrants to purchase its common stock upon conversion of such Insider Loans.
On January 10, 2018, effective December 1, 2017, the Company entered into an Omnibus Amendment to Convertible Notes (the “Second Omnibus Loan Agreement”) with Jeffrey I. Binder, an officer and director of the Company, and Newcan Investment Partners LLC, an entity owned by Frank Koretsky, a director of the Company. The Second Omnibus Loan Agreement provides that the conversion price of all outstanding convertible promissory notes issued to either Mr. Binder or Newcan Investment Partners, LLC as of the date of the Agreement would be increased from $0.25 to $0.3125 per share of common stock. The remaining terms of such notes remain unchanged. There were no balances outstanding under the Insider Loans at November 30, 2019 or May 31, 2019.
Convertible Notes Payable
November 30, 2019 |
May 31, 2019 |
|||||||
Convertible debenture in the principal amount of $4,000,000 (the “U.S. Convertible Debenture 1”) dated October 31, 2018, which bears interest, payable quarterly, at a rate of 8% per annum, with interest during the first eighteen months following issuance being payable by increasing the then-outstanding principal amount of the U.S. Convertible Debenture 1. The U.S. Convertible Debenture 1 matures on a date that is three years following issuance. The U.S. Convertible Debenture 1 is convertible into units (the “Convertible Debenture Units”) at a conversion price of $0.80 per Convertible Debenture Unit. Each Convertible Debenture Unit consists of (i) one share of the Company’s common stock, and (ii) one-half of one warrant, with each warrant exercisable for three years to purchase a share of common stock at a price of $1.10. The value of the warrants will be recorded when the issuance becomes probable. On July 26, 2019, U.S. Convertible Debenture 1 was amended such that, should the Company issue or sell common stock or equity securities convertible into common stock at a price less than the conversion price of the U.S. Convertible Debenture 1, the conversion price of Convertible Debenture 1 will be reduced to such issuance price, and the exercise price of the warrant issuable in connection with Convertible Debenture 1 will be exercisable at a price equal to 137.5% of the adjusted conversion price at the time of conversion. The U.S. Convertible Debenture 1 has other features, such as mandatory conversion in the event the common stock trades at a particular price over a specified period of time and required redemption in the event of a “Change in Control” of the Company. The U.S. Convertible Debenture 1 is an unsecured obligation of the Company and ranks pari passu in right of payment of principal and interest with all other unsecured obligations of the Company. The Company recorded a discount in the amount of $3,254,896 on the U.S. Convertible Debenture 1. During the three and six months ended November 30, 2019, $271,241 and $542,483, respectively, of this discount was charged to operations. During the three and six months ended November 30, 2019, the Company accrued interest in the amount of $86,485 and $172,182, respectively, on the U.S. Convertible Debenture 1. Also during the three and six months ended November 30, 2019, the Company transferred the amounts of $86,254 and 169,879, respectively, from accrued interest to principal of the U.S. Convertible Debenture 1. |
4,305,185 | 4,135,306 |
November 30, 2019 |
May 31, 2019 |
|||||||
Convertible debenture in the principal amount of $1,000,000 (the “U.S. Convertible Debenture 2”) dated October 31, 2018, which bears interest, payable quarterly, at a rate of 8% per annum, with interest during the first eighteen months following issuance being payable by increasing the then-outstanding principal amount of the U.S. Convertible Debenture 2. The U.S. Convertible Debenture 2 matures on a date that is three years following issuance. The U.S. Convertible Debenture 2 is convertible into Convertible Debenture Units at a conversion price of $0.80 per Convertible Debenture Unit. Each Convertible Debenture Unit consists of (i) one share of the Company’s common stock, and (ii) one-half of one warrant, with each warrant exercisable for three years to purchase a share of common stock at a price of $1.10. The value of the warrants will be recorded when the issuance becomes probable. On July 26, 2019, U.S. Convertible Debenture 1 was amended such that, should the Company issue or sell common stock or equity securities convertible into common stock at a price less than the conversion price of the U.S. Convertible Debenture 2, the conversion price of Convertible Debenture 2 will be reduced to such issuance price, and the exercise price of the warrant issuable in connection with Convertible Debenture 2 will be exercisable at a price equal to 137.5% of the adjusted conversion price at the time of conversion. The U.S. Convertible Debenture 2 has other features, such as mandatory conversion in the event the common stock trades at a particular price over a specified period of time and required redemption in the event of a “Change in Control” of the Company. The U.S. Convertible Debenture 2 is an unsecured obligation of the Company and ranks pari passu in right of payment of principal and interest with all other unsecured obligations of the Company. The Company recorded a discount in the amount of $813,724 on the U.S. Convertible Debenture 2. During the three and six months ended November 30, 2019, $67,810 and $135,621, respectively, of this discount was charged to operations. During the three and six months ended November 30, 2019, the Company accrued interest in the amount of $21,621 and $43,045, respectively, on the U.S. Convertible Debenture 2. Also during the three and six months ended November 30, 2019, the Company transferred the amounts of $21,563 and $42,470, respectively, from accrued interest to principal of the U.S. Convertible Debenture 2. |
1,076,296 | 1,033,827 | ||||||
Convertible debenture in the principal amount of $100,000 (the “U.S. Convertible Debenture 3”) dated October 24, 2018, which bears interest, payable quarterly, at a rate of 8% per annum, with interest during the first eighteen months following issuance being payable by increasing the then-outstanding principal amount of the U.S. Convertible Debenture 3. The U.S. Convertible Debenture 3 matures on a date that is three years following issuance. The U.S. Convertible Debenture 3 is convertible into Convertible Debenture Units at a conversion price of $0.80 per Convertible Debenture Unit. Each Convertible Debenture Unit consists of (i) one share of the Company’s common stock, and (ii) one-half of one warrant, with each warrant exercisable for three years to purchase a share of common stock at a price of $1.10. The value of the warrants will be recorded when the issuance becomes probable. On July 26, 2019, U.S. Convertible Debenture 3 was amended such that, should the Company issue or sell common stock or equity securities convertible into common stock at a price less than the conversion price of the U.S. Convertible Debenture 3, the conversion price of Convertible Debenture 3 will be reduced to such issuance price, and the exercise price of the warrant issuable in connection with Convertible Debenture 3 will be exercisable at a price equal to 137.5% of the adjusted conversion price at the time of conversion. The U.S. Convertible Debenture 3 has other features, such as mandatory conversion in the event the common stock trades at a particular price over a specified period of time and required redemption in the event of a “Change in Control” of the Company. The U.S. Convertible Debenture 3 is an unsecured obligation of the Company and ranks pari passu in right of payment of principal and interest with all other unsecured obligations of the Company. The Company recorded a discount in the amount of $75,415 on the U.S. Convertible Debenture 3. During the three and six months ended November 30, 2019, $6,285 and $12,569, respectively, of this discount was charged to operations. During the three and six months ended November 30, 2019, the Company accrued interest in the amount of $2,146 and $4,311, respectively, on the U.S. Convertible Debenture 3. Also during the three and six months ended November 30, 2019, the Company transferred the amounts of $2,160 and $4,253, respectively, from accrued interest to principal of the U.S. Convertible Debenture 3. |
107,794 | 103,541 |
November 30, 2019 |
May 31, 2019 |
|||||||
Convertible debenture in the principal amount of $532,000 (the “U.S. Convertible Debenture 4”) dated October 25, 2018, which bears interest, payable quarterly, at a rate of 8% per annum, with interest during the first eighteen months following issuance being payable by increasing the then-outstanding principal amount of the U.S. Convertible Debenture 4. The U.S. Convertible Debenture 4 matures on a date that is three years following issuance. The U.S. Convertible Debenture 4 is convertible into Convertible Debenture Units at a conversion price of $0.80 per Convertible Debenture Unit. Each Convertible Debenture Unit consists of (i) one share of the Company’s common stock, and (ii) one-half of one warrant, with each warrant exercisable for three years to purchase a share of common stock at a price of $1.10. The value of the warrants will be recorded when the issuance becomes probable. On July 26, 2019, U.S. Convertible Debenture 4 was amended such that, should the Company issue or sell common stock or equity securities convertible into common stock at a price less than the conversion price of the U.S. Convertible Debenture 4, the conversion price of Convertible Debenture 4 will be reduced to such issuance price, and the exercise price of the warrant issuable in connection with Convertible Debenture 4 will be exercisable at a price equal to 137.5% of the adjusted conversion price at the time of conversion. The U.S. Convertible Debenture 4 has other features, such as mandatory conversion in the event the common stock trades at a particular price over a specified period of time and required redemption in the event of a “Change in Control” of the Company. The U.S. Convertible Debenture 4 is an unsecured obligation of the Company and ranks pari passu in right of payment of principal and interest with all other unsecured obligations of the Company. The Company recorded a discount in the amount of $416,653 on the U.S. Convertible Debenture 4. During the three and six months ended November 30, 2019, $34,721 and $69,442, respectively, of this discount was charged to operations. During the three and six months ended November 30, 2019, the Company accrued interest in the amount of $11,413 and $22,930, respectively, on the U.S. Convertible Debenture 4. Also during the three and six months ended November 30, 2019, the Company transferred the amounts of $11,487 and $22,624, respectively, from accrued interest to principal of the U.S. Convertible Debenture 4. |
573,343 | 550,719 | ||||||
Convertible debenture in the principal amount of $150,000 (the “U.S. Convertible Debenture 5”) dated October 26, 2018, which bears interest, payable quarterly, at a rate of 8% per annum, with interest during the first eighteen months following issuance being payable by increasing the then-outstanding principal amount of the U.S. Convertible Debenture 5. The U.S. Convertible Debenture 5 matures on a date that is three years following issuance. The U.S. Convertible Debenture 5 is convertible into Convertible Debenture Units at a conversion price of $0.80 per Convertible Debenture Unit. Each Convertible Debenture Unit consists of (i) one share of the Company’s common stock, and (ii) one-half of one warrant, with each warrant exercisable for three years to purchase a share of common stock at a price of $1.10. The value of the warrants will be recorded when the issuance becomes probable. The U.S. Convertible Debenture 5 has other features, such as mandatory conversion in the event the common stock trades at a particular price over a specified period of time and required redemption in the event of a “Change in Control” of the Company. The U.S. Convertible Debenture 5 is an unsecured obligation of the Company and ranks pari passu in right of payment of principal and interest with all other unsecured obligations of the Company. The Company recorded a discount in the amount of $120,100 on the U.S. Convertible Debenture 5. During the three and six months ended November 30, 2019, $10,008 and $20,017, respectively, of this discount was charged to operations. During the three and six months ended November 30, 2019, the Company accrued interest in the amount of $3,247 and $6,464, respectively, on the U.S. Convertible Debenture 5. Also during the three and six months ended November 30, 2019, the Company transferred the amounts of $3,238 and $6,377, respectively, from accrued interest to principal of the U.S. Convertible Debenture 5. |
161,621 | 155,244 |
November 30, 2019 |
May 31, 2019 |
|||||||
Convertible debenture payable in the principal amount of $75,000 (the “U.S. Convertible Debenture 6”) dated October 26, 2018, which bears interest, payable quarterly, at a rate of 8% per annum, with interest during the first eighteen months following issuance being payable by increasing the then-outstanding principal amount of the U.S. Convertible Debenture 6. The U.S. Convertible Debenture 6 matures on a date that is three years following issuance. The U.S. Convertible Debenture 6 is convertible into Convertible Debenture Units at a conversion price of $0.80 per Convertible Debenture Unit. Each Convertible Debenture Unit consists of (i) one share of the Company’s common stock, and (ii) one-half of one warrant, with each warrant exercisable for three years to purchase a share of common stock at a price of $1.10. The value of the warrants will be recorded when the issuance becomes probable. The U.S. Convertible Debenture 6 has other features, such as mandatory conversion in the event the common stock trades at a particular price over a specified period of time and required redemption in the event of a “Change in Control” of the Company. The U.S. Convertible Debenture 6 is an unsecured obligation of the Company and ranks pari passu in right of payment of principal and interest with all other unsecured obligations of the Company. The Company recorded a discount in the amount of $60,049 on the U.S. Convertible Debenture 6. During the three and six months ended November 30, 2019, $5,004 and $10,008, respectively, of this discount was charged to operations. During the three months ended November 30, 2019, the Company accrued interest in the amount of $1,623 and $3,232, respectively, on the U.S. Convertible Debenture 6. Also during the three and six months ended November 30, 2019, the Company transferred the amounts of $1,623 and $3,189, respectively, from accrued interest to principal of the U.S. Convertible Debenture 6. |
80,811 | 77,622 | ||||||
Convertible debentures payable in the aggregate principal amount of $12,012,000 (the “Canaccord Debentures”) dated December 12, 2018, which bear interest, payable quarterly, at a rate of 8% per annum, with interest during the first eighteen months following issuance being payable by increasing the then-outstanding principal amount of the Canaccord Debentures. The Canaccord Debentures mature on a date that is three years following issuance. The Canaccord Debentures are convertible into Convertible Debenture Units at a conversion price of $0.80 per Convertible Debenture Unit. Each Convertible Debenture Unit consists of (i) one share of the Company’s common stock, and (ii) one-half of one warrant, with each warrant exercisable for three years to purchase a share of common stock at a price of $1.10. The value of the warrants will be recorded when the issuance becomes probable. The Canaccord Debentures have other features, such as mandatory conversion in the event the common stock trades at a particular price over a specified period of time and required redemption in the event of a “Change in Control” of the Company. The Canaccord Debentures are unsecured obligations of the Company and rank pari passu in right of payment of principal and interest with all other unsecured obligations of the Company. During the three months ended November 30, 2019, in two separate transactions, principal in the aggregate amount of $25,857 was converted into an aggregate of 32,321 shares of the Company’s common stock, and warrants to purchase 16,160 shares of common stock. There were no gains or losses recorded on these conversions because they were done in accordance with the terms of the original agreement. No discount was recorded for the fair value of the warrants issued. Because the market price of the Company’s common stock was less than the conversion price on the date of issuance of the Canaccord Debentures, a discount was not recorded on the Canaccord Debentures. During the three and six months ended November 30, 2019, the Company accrued interest in the amount of $257,324 and $512,077, respectively, on the Canaccord Debentures. Also during the three and six months ended November 30, 2019, the Company transferred the amounts of $256,635, and $505,185, respectively, from accrued interest to principal of the Canaccord Debentures. |
12,783,301 | 12,303,971 |
November 30, 2019 |
May 31, 2019 |
|||||||
Total - Convertible Notes Payable |
$ | 19,088,351 | $ | 18,360,230 | ||||
Less: Discount |
(3,028,869 |
) |
(3,819,010 |
) |
||||
Convertible Notes Payable, Net of Discounts |
$ | 16,059,482 | $ | 14,541,220 | ||||
Total - Convertible Notes Payable, Net of Discounts, Current Portion |
$ | - | $ | - | ||||
Total - Convertible Notes Payable, Net of Discounts, Long-term Portion |
$ | 16,059,482 | $ | 14,541,220 |
November 30, 2019 |
November 30, 2018 |
|||||||
Discounts on notes payable amortized to interest expense – 3 months ended November 30, 2019 and 2018, respectively |
$ | 359,070 | $ | 1,598,501 |
Discounts on notes payable amortized to interest expense – 6 months ended November 30, 2019 and 2018, respectively |
$ | 790,140 | $ | 2,144,333 |
Aggregate maturities of notes payable and convertible notes payable as of November 30, 2019 are as follows:
For the twelve months ended November 30,
2020 |
$ | 1,363,925 | ||
2021 |
- | |||
2022 |
19,088,352 | |||
2023 |
- | |||
2024 |
- | |||
Thereafter |
- | |||
Total |
$ | 20,452,277 |
Beneficial Conversion Features
Certain of the Company’s convertible notes contained conversion features that create derivative liabilities. The pricing model the Company uses for determining fair value of its derivatives is the Lattice Model. Valuations derived from this model are subject to ongoing internal and external verification and review. The model uses market-sourced inputs such as interest rates and stock price volatilities. Selection of these inputs involves management’s judgment and may impact net income. The derivative components of the notes were valued at issuance, at conversion, at restructure, and at each period end.
On June 1, 2018, the Company adopted ASU 2017-11 and accordingly reclassified the fair value of the reset provisions embedded in convertible notes payable and certain warrants with embedded anti-dilutive provisions from liability to equity in the aggregate amount of $1,265,751. See note 1.
Certain of the Company’s other convertible notes payable contain beneficial conversion features that are not derivatives, but which require valuation in order to determine the discount to the related convertible note payable. The value of these conversion features is calculated using the intrinsic value method, whereby the amount of the discount is calculated as the difference between the conversion price and the market price of the underlying common stock at the date of issuance multiplied by the number of shares issuable.
Note 16 – Contingent Liability
The terms of the Company’s acquisition of Alternative Solutions, include a payment of $1,000,000 contingent upon the Oasis LLCs achieving certain revenue targets. (see note 3). The fair value of this contingent consideration at the time of the Acquisition Agreement was $678,111 as determined by the Company’s outside valuation consultants. Management has reviewed the value of the contingent consideration, and has concluded that, due to the increased revenue of Alternative Solutions, the fair value of this contingent liability was $1,000,000 at November 30, 2019 and May 31, 2019. The Company recorded a charge to operations in the amount of $321,889 during the year ended May 31, 2019.
Note 17 – Stockholders’ Equity
The Company’s authorized capital stock consists of 750,000,000 shares of common stock, par value $0.0001, at November 30, 2019 and May 31, 2019, and 20,000,000 shares of preferred stock, par value $0.001 per share. The Company had 126,421,414 and 125,839,095 shares of common stock issued and outstanding as of November 30, 2019 and May 31, 2019, respectively.
Six months ended November 30, 2019
Common Stock and Warrants Issued upon Conversion of Notes Payable:
On July 8, 2019, the Company issued 16,644 shares of common stock and three-year warrants to acquire 8,322 shares of common stock at a price of $1.10 per share to Canaccord Genuity Corp., as nominee, in connection with the conversion of a portion of the Canaccord Debentures in the principal amount of $13,315. No gain or loss was recorded on this transaction because the conversion was made pursuant to the terms of the original agreement.
On July 19, 2019, the Company issued 15,677 shares of common stock and three-year warrants to acquire 7,838 shares of common stock at a price of $1.10 per share to Canaccord Genuity Corp., as nominee, in connection with the conversion of a portion of the Canaccord Debentures in the principal in the amount of $12,542. No gain or loss was recorded on this transaction because the conversion was made pursuant to the terms of the original agreement.
Common Stock Issued and To Be Issued to Officers and Service Providers:
On July 22, 2019, the Company issued 500,000 shares of common stock to Ben Sillitoe, Chief Executive Officer of CLS Nevada, in connection with his employment agreement. The fair value of these shares in the amount of $355,000 had been charged to operations as the shares vested. At issuance, this amount was transferred from common stock subscribed; $50 was charged to common stock, and $354,950 was charged to additional paid-in capital.
On July 22, 2019, the Company issued 50,000 shares of common stock to Don Decatur, Chief Operating Officer of CLS Nevada, in connection with his employment agreement. The fair value of these shares in the amount of $35,500 had been charged to operations as the shares vested. At issuance, this amount was transferred from common stock subscribed; $5 was charged to common stock, and $35,495 was charged to additional paid-in capital.
During the six months ended November 30, 2019, the Company charged an aggregate of $93,901 to common stock subscribed representing the accrual over the vesting period of 791,668 shares of restricted common stock issuable to officers.
The Company also charged the amount of $30,000 to common stock subscribed representing the fair value of 133,332 shares of common stock to be issued to a service provider.
Six months ended November 30, 2018
Stock Issued upon Conversion of Notes Payable:
During the six months ended November 30, 2018, Darling Capital, holder of a convertible promissory note, converted a total of $565,000, which consisted of $550,000 of principal and $15,000 of accrued interest, into 1,808,000 shares of common stock.
During the six months ended November 30, 2018, Efrat Investments, holder of a convertible promissory note, converted a total of $57,200, which consisted of $55,000 of principal and $2,200 of accrued interest, into 183,040 shares of common stock.
During the six months ended November 30, 2018, David Lamadrid, holder of a convertible promissory note, converted a total of $32,497, which consisted of $31,250 of principal and $1,247 of accrued interest, into 103,989 shares of common stock.
During the six months ended November 30, 2018, Jay Lasky, holder of a convertible promissory note, converted a total of $26,185, which consisted of $25,000 of principal and $1,185 of accrued interest, into 65,462 shares of common stock.
During the six months ended November 30, 2018, Newcan, holder of a convertible promissory note, converted a total of $78,534, which consisted of $75,000 of principal and $3,534 of accrued interest, into 196,336 shares of common stock.
During the six months ended November 30, 2018, YA II PN, holder of a convertible promissory note, converted a total of $280,247, which consisted of $250,000 of principal and $30,247 of accrued interest, into 700,616 shares of common stock.
Stock Issued and To Be Issued to Officers and Service Providers:
On July 24, 2018, the Company awarded Star Associates, LLC, a limited liability company owned by Andrew Glashow, a director of the Company, a cash payment in the amount of $250,000 and 700,000 shares of the Company’s restricted common stock in recognition of Mr. Glashow’s efforts, through Star Associates, in successfully assisting the Company in negotiating and obtaining the financing necessary to acquire Alternative Solutions, LLC. The shares were valued at $490,000 and were charged to operations during the six months ended November 30, 2018.
On June 24, 2018, pursuant to the terms of a severance agreement between the Company and David Lamadrid, the Company issued 600,000 shares of restricted common stock to Mr. Lamadrid. These shares were valued at $264,000, $213,320 of which was previously expensed and the remaining $50,680 of which was charged to operations during the six months ended November 30, 2018.
On September 11, 2018, the Company issued 31,250 shares of common stock with a fair value of $25,310 in exchange for legal services previously rendered to the Company. These shares were accrued on February 8, 2018, and were issued from stock payable.
Stock Issued for Acquisition:
On June 27, 2018, the Company issued 22,058,823 shares of its common stock pursuant to the terms of the Alternative Solutions, LLC Acquisition Agreement. These shares were valued at $15,441,176. (See note 3).
Special Warrants Issued in Offering:
On June 20, 2018, the Company executed an Agency Agreement with Canaccord Genuity Corp. and closed on a private offering of its special warrants for aggregate gross proceeds of C$13,037,859 (USD$9,785,978). Pursuant to the offering, the Company issued 28,973,020 special warrants at a price of C$0.45 (USA$0.34) per special warrant. Each special warrant was automatically exercisable, for no additional consideration, into units of the Company on the earlier of: (i) the date that was five business days following the date on which the Company obtained a receipt from the applicable securities regulatory authorities in each of the jurisdictions in Canada in which the special warrants were sold for a final prospectus qualifying the distribution of the units, which was intended to be no later than November 30, 2018, and (ii) the date that was four months and one day after the completion of the Company's acquisition of all of the membership interests in Alternative Solutions, LLC, known as Oasis Cannabis.
In connection with the offering, the Company paid Canaccord Genuity Corp. a cash commission equal to C$1,043,028 (USD$799,053), a corporate finance fee equal to 1,448,651 special warrants, and 2,317,842 compensation broker warrants valued at $1,495,373. Each compensation broker warrant entitles the holder thereof to acquire one unit at a price of C$0.45 per unit for a period of 36 months from the date that the Company's common stock is listed on a recognized Canadian stock exchange, subject to adjustment in certain events. The 1,448,651 special warrants that were issued were valued at $1,413,300 and were charged to operations during the six months ended November 30, 2018.
Upon exercise of the special warrants, each unit was to consist of one share of the Company's common stock and one warrant to purchase one share of common stock. Each warrant was to be exercisable at a price of C$0.65 for three years after the Company's common stock was listed on a recognized Canadian stock exchange, subject to adjustment in certain events.
Because the Company did not receive a receipt from the applicable Canadian securities authorities for the qualifying prospectus by August 20, 2018, the unexercised special warrants were adjusted to entitle the holders to receive 1.1 units instead of one unit of the Company. This resulted in the planned issuance of an additional 3,042,167 units. This penalty was valued at $7,142,550 and was charged to operations during the six months ended November 30, 2018.
On November 30, 2018, all of the special warrants were automatically converted into 33,465,110 shares of common stock and warrants to purchase 33,465,110 shares of common stock for CD$0.65 per share.
Stock Issued in Navy Capital Offering:
On July 31, 2018, the Company entered into a Subscription Agreement with Navy Capital Green International, Ltd, (the “Navy Capital Offering”) for 7,500,000 units at a price of $0.40 per unit, or an aggregate amount of $3,000,000. The units collectively represent (i) 7,500,000 shares of common stock, and (ii) three-year warrants to purchase an aggregate of 7,500,000 shares of common stock at an exercise price of $0.60 per share of common stock.
In connection with the Navy Capital Offering, between August 8, 2018 and August 10, 2018, the Company entered into five subscription agreements for a total of 6,875,000 units at a price of $0.40 per unit, or an aggregate purchase price of $2,750,000. The units collectively represent (i) 6,875,000 shares of common stock, and (ii) three-year warrants to purchase an aggregate of 6,875,000 shares of common stock at an exercise price of $0.60 per share of common stock.
Stock Issued to Officers:
Effective August 1, 2018, the Company granted 25,000 shares of restricted common stock to its Chief Financial Officer. These shares vested four months after issuance. The shares were valued at $17,500, and were amortized over the vesting period. On April 1, 2019, these shares were issued. As of November 30, 2018, $17,500 had been charged to operations.
On July 31, 2018, the Company granted the Chief Executive Officer of CLS Nevada, Inc. a one-time signing bonus of 500,000 shares of restricted common stock, which fully vested one year from the effective date of his employment agreement. These shares were valued at $355,000 and were amortized over the vesting period. As of November 30, 2018, $355,000 had been charged to operations. The shares were issued on July 22, 2019.
On July 31, 2018, the Company granted the Chief Operating Officer of CLS Nevada, Inc. a one-time signing bonus of 50,000 shares of restricted common stock, which fully vested one year from the effective date of his employment agreement. These shares were valued at $35,500 and were amortized over the vesting period. As of November 30, 2018, $35,500 had been charged to operations. The shares were issued on July 22, 2019.
Stock Issued upon Cashless Exercise of Warrants:
On August 14, 2018, the Company issued 129,412 shares of common stock for the cashless exercise of 350,000 warrants at an exercise price of $0.75 per share.
On September 6, 2018, the Company issued 13,684 shares of common stock upon the cashless exercise of 40,000 warrants at an exercise price of $0.75 per share.
On November 14, 2018, the Company issued 5,867 shares of common stock upon the cashless exercise of 25,000 warrants at an exercise price of $0.75 per share.
Additional Paid-in Capital
Six months ended November 30, 2019
No activity other than changes to additional paid-in capital related to the issuance of common stock disclosed above.
Six months ended November 30, 2018
During the six months ended November 30, 2018, the Company recorded discounts on two convertible notes payable relating to beneficial conversion features in the aggregate amount of $362,500 on the YA II PN Note 2, and $58,594 on the Newcan Convertible Note 8. Also during the six months ended November 30, 2018, a reset event occurred with regard to the YAII PN Note.
During the six months ended November 30, 2018, the Company recorded an original issue discount on the Serenity Wellness Note in the amount of $81,961.
On June 1, 2018, the Company adopted ASU 2017-11 and accordingly reclassified the fair value of the reset provisions embedded in the previously issued convertible notes payable and certain warrants with embedded anti-dilutive provisions from liability to additional paid-in capital in the aggregate amount of $1,265,751. On June 20, 2018, a reset event occurred in connection with the YA II PN Note (see note 13), and the Company charged the change in fair value of the conversion feature in the amount of $35,833 to additional paid-in capital. This was considered a material modification of the note, and the Company created a new discount to this note in the amount of $750,000, which was charged to additional paid-in capital.
During the six months ended November 30, 2018, the Company recorded discounts on six convertible debentures relating to beneficial conversion features as follows: a discount of $3,254,863 was recorded on the U.S. Convertible Debenture 1; a discount of $813,696 was recorded on the U.S. Convertible Debenture 2; a discount of $75,395 was recorded on the U.S. Convertible Debenture 3; a discount of $416,627 was recorded on the U.S. Convertible Debenture 4; a discount of $120,078 was recorded on the U.S. Convertible Debenture 5; and a discount of $60,030 was recorded on the U.S. Convertible Debenture 6.
Warrants
On June 27, 2018, the Company incurred a penalty in connection with the WestPark Offering due to the late filing of the registration statement that included the resale of the securities that were sold in such offering. As a result of the penalty, the Company issued three-year common stock warrants to purchase an aggregate of 1,368,250 shares of the Company’s common stock at an exercise price of $0.50 per share. In addition, the Company reduced the exercise price of the common stock purchase warrants previously issued to the investors in the WestPark Offering from $0.75 per share to $0.50 per share. The fair value of the penalty was $941,972; this amount was charged to operations during the six months ended November 30, 2018.
On July 20, 2018, in connection with the Company’s sale of a convertible debenture, the Company issued to YA II PN, Ltd. a five-year common stock purchase warrant to purchase 1,250,000 shares of the Company’s common stock at an initial exercise price of $0.60 per share.
On August 6, 2018, the Company issued three-year common stock purchase warrants to purchase an aggregate of 7,500,000 shares of the Company’s common stock at an exercise price of $0.60 per share, to investors in the Navy Capital Offering.
On August 8, 2018, the Company issued three-year common stock purchase warrants to purchase an aggregate of 6,875,000 shares of the Company’s common stock at an exercise price of $0.60 per share, to investors in the Navy Capital Offering.
The following table summarizes the significant terms of warrants outstanding at November 30, 2019. This table does not include the unit warrants. See Unit Warrants section below.
Range of exercise Prices |
Number of warrants Outstanding |
Weighted average remaining contractual life (years) |
Weighted average exercise price of outstanding Warrants |
Number of warrants Exercisable |
Weighted average exercise price of exercisable Warrants |
|||||||||||||||||
$ | 0.49 | 33,465,110 | 2.00 | $ | 0.49 | 33,465,110 | $ | 0.49 | ||||||||||||||
0.50 | 2,736,500 | 2.23 | 0.50 | 2,736,500 | 0.50 | |||||||||||||||||
0.60 | 17,500,000 | 2.00 | 0.60 | 17,500,000 | 0.60 | |||||||||||||||||
0.75 | 837,500 | 1.23 | 0.75 | 837,500 | 0.75 | |||||||||||||||||
1.10 | 296,035 | 2.00 | 1.10 | 296,035 | 1.10 | |||||||||||||||||
54,837,145 | 2.00 | $ | 0.53 | 54,835,145 | $ | 0.53 |
Transactions involving warrants are summarized as follows. This table does not include the special warrants or unit warrants. See Special Warrants and Unit Warrants sections below.
Number of Shares |
Weighted Average Exercise Price |
|||||||
Warrants outstanding at May 31, 2018 |
4,497,750 | $ | 0.61 | |||||
Granted |
50,738,235 | $ | 0.53 | |||||
Exercised |
(415,000 |
) |
$ | 0.75 | ||||
Cancelled / Expired |
- | $ | - | |||||
Warrants outstanding at May 31, 2019 |
54,820,985 | $ | 0.53 | |||||
Granted |
16,160 | $ | 1.10 | |||||
Exercised |
- | $ | - | |||||
Cancelled / Expired |
- | $ | - | |||||
Warrants outstanding at November 30, 2019 |
54,837,145 | $ | 0.53 |
Unit Warrants
On June 20, 2018, in connection with the special warrant offering, the Company issued Canaccord Genuity Corp. 2,317,842 three-year broker warrants at an exercise price of C$0.45 per unit as compensation. Each warrant entitles the holder to purchase one unit, which consists of one share of common stock and a warrant to purchase one share of common stock, for C$0.65 per share. These warrants were valued at $1,495,373, and this amount was charged to operations during the six months ended November 30, 2018.
On December 12, 2018, in connection with the issuance of the Canaccord Debentures, the Company issued Canaccord Genuity Corp., as compensation, 1,074,720 three-year agent and advisory warrants. Each warrant entitles the holder to purchase a unit for $0.80, which unit consists of one share of common stock and a warrant to purchase one-half share of common stock at an exercise price of $1.10 per share. The Company, in connection with the issuance of the Canaccord Debentures, also issued to National Bank Financial Inc., as compensation, 268,680 three-year agent and advisory warrants. Each warrant entitles the holder to purchase a unit for $0.80, which unit consists of one share of common stock and a warrant to purchase one-half share of common stock at an exercise price of $1.10 per share. The aggregate value of these warrants was $874,457, which was charged to operations during the year ended May 31, 2019.
Special Warrants
On June 20, 2018, the Company sold 28,973,019 special warrants for net proceeds of US$9,785,978. Each special warrant was automatically exercisable, for no additional consideration, into units of the Company on the earlier of: (i) the date that was five business days following the date on which the Company obtained a receipt from the applicable securities regulatory authorities in each of the jurisdictions in Canada in which the special warrants were sold for a final prospectus qualifying the distribution of the units, which was intended to be no later than November 30, 2018, and (ii) the date that was four months and one day after the completion of the Company's acquisition of all of the membership interests in Alternative Solutions, known as Oasis Cannabis, which was June 28, 2018.
All of the special warrants were automatically exercised for units on November 30, 2018. Each unit consists of one share of the Company’s common stock and one three-year warrant to purchase one share of common stock at a price of C$0.65.
Note 18 – Gain on Settlement of Liabilities
On August 14, 2019, the Company made a payment to 4Front Advisors to settle its dispute with Alternative Solutions and its former owners and the Oasis Note was reduced in accordance with its terms. In addition, the amount of $275,000, which the Company had accrued with respect to this dispute, was extinguished resulting in a gain of $275,000.
Note 19 – Fair Value of Financial Instruments
The Company has issued convertible notes containing beneficial conversion features. One of the features is a ratchet reset provision which, in general, reduces the conversion price should the Company issue equity with an effective price per share that is lower than the stated conversion price in the note. The Company accounts for the fair value of the conversion feature in accordance with ASC 815- Accounting for Derivatives and Hedging and Emerging Issues Task Force (“EITF”) 07-05- Determining Whether an Instrument (or Embedded Feature) Is Indexed to an Entity’s Own Stock (“EITF 07-05”). The Company carries the embedded derivative on its balance sheet at fair value and accounts for any unrealized change in fair value as a component of its results of operations. The Company also has a contingent liability in connection with the acquisition of Alternative Solutions, (see note 16).
The following summarizes the Company’s financial liabilities that are recorded at fair value on a recurring basis at November 30, 2019 and May 31, 2019:
November 30, 2019 |
||||||||||||||||
Level 1 |
Level 2 |
Level 3 |
Total |
|||||||||||||
Liabilities |
||||||||||||||||
Derivative liabilities |
$ | - | $ | - | $ | - | $ | - |
May 31, 2019 |
||||||||||||||||
Level 1 |
Level 2 |
Level 3 |
Total |
|||||||||||||
Liabilities |
||||||||||||||||
Derivative liabilities |
$ | - | $ | - | $ | - | $ | - |
Note 20 – Related Party Transactions
On July 22, 2019, the Company issued 500,000 shares of common stock to Ben Sillitoe, Chief Executive Officer of CLS Nevada, in connection with his employment agreement.
On July 22, 2019, the Company issued 50,000 shares of common stock to Don Decatur, Chief Operating Officer of CLS Nevada, in connection with his employment agreement.
As of May 31 2019 and 2018, the Company had accrued salary due to Michael Abrams, a former officer of the Company prior to his September 1, 2015 termination, in the amount of $16,250.
Note 21 – Commitments and Contingencies
Leased Facility
In connection with the Company’s planned Colorado operations, on April 17, 2015, pursuant to an Industrial Lease Agreement (the “Lease”), CLS Labs Colorado leased 14,392 square feet of warehouse and office space (the “Leased Real Property”) in a building in Denver, Colorado where certain intended activities, including growing, extraction, conversion, assembly and packaging of cannabis and other plant materials, are permitted by and in compliance with state, city and local laws, rules, ordinances and regulations. The Lease had an initial term of seventy-two (72) months and provided CLS Labs Colorado with two options to extend the term of the lease by up to an aggregate of ten (10) additional years. In August 2017, as a result of the Company’s decision to suspend its proposed operations in Colorado, CLS Labs Colorado asked its landlord to be relieved from its obligations under the Lease, but the parties have not yet reached an agreement on how to proceed.
In August 2017, the Company’s Colorado subsidiary received a demand letter from its Colorado landlord requesting the forfeiture of the $50,000 security deposit, $10,000 in expenses, $15,699 in remaining rent due under the lease agreement and $30,000 to buy out the remaining amounts due under the lease. These expenses, which are a liability of the Company’s Colorado subsidiary, have been accrued on the balance sheet as of November 30, 2019.
Contingent Liability
At the time of closing of the Acquisition Agreement, Alternative Solutions owed certain amounts to a consultant known as 4Front Advisors, which amount was in dispute. In August 2019, the Company made a payment to this company to settle this dispute and the Oasis Note was reduced accordingly.
Employment Agreements
CLS Labs and Jeffrey Binder entered into a five-year employment agreement effective October 1, 2014. Under the agreement, Mr. Binder serves as CLS Labs’ Chairman and Chief Executive Officer and is entitled to receive an annual salary of $150,000. Under the agreement, Mr. Binder is also entitled to receive a performance bonus equal to 2% of CLS Labs’ annual EBITDA, up to a maximum annual cash compensation of $1 million (including his base salary), and annual stock options, exercisable at the fair market value of CLS Labs’ common stock on the date of grant, in an amount equal to 2% of its annual EBITDA up to $42.5 million and 4% of its annual EBITDA in excess of $42.5 million. On April 28, 2015, CLS Labs and the Company entered into an addendum to Mr. Binder’s employment agreement whereby Mr. Binder agreed that following the merger of CLS Labs and a subsidiary of the Company, in addition to his obligations to CLS Labs, he would serve the Company and its subsidiaries in such roles as the Company may request. In exchange, the Company agreed to assume the obligations of CLS Labs to grant Mr. Binder annual stock options, as referenced above. On July 20, 2016, March 31, 2017, August 23, 2017, October 9, 2017, January 5, 2018 and April 6, 2018, the Company issued Mr. Binder convertible notes in exchange for $250,000, $112,500, $62,500, $39,521, $37,500 and $37,500 respectively, in deferred salary, among other amounts owed to Mr. Binder by the Company. On October 14, 2019 but effective October 1, 2019, CLS Labs, Inc., the Company, and Jeffrey Binder entered into an amendment to Mr. Binder’s employment agreement to provide that the Company would assume all obligations of CLS Labs under the employment agreement. The amendment also extends the term of Mr. Binder’s employment agreement by three years instead of relying on the automatic one-year renewal provision in the employment agreement, and increases Mr. Binder’s annual base salary to $200,000. Additionally, the amendment provides for certain change of control provisions, including a payment of up to three years base salary and bonuses up to a maximum of $1,000,000, if Mr. Binder resigns or is terminated in connection with a change in control of the Company. In connection with the amendment, the parties also amended and restated that certain Confidentiality, Non-Compete and Property Rights Agreement entered into by and between RJF Labs, Inc. (now CLS Labs), and Mr. Binder effective as of July 16, 2014.
Effective August 1, 2015, the Company and Alan Bonsett entered into a five-year employment agreement. Pursuant to the agreement, Mr. Bonsett commenced serving as the Company’s Chief Operating Officer on August 15, 2015. Under the agreement, Mr. Bonsett was entitled to receive an annual salary of $150,000. Further, he was entitled to receive a performance bonus equal to 2% of the Company’s annual EBITDA, up to a maximum annual cash compensation of $1 million (including his base salary), and annual stock options, exercisable at the fair market value of the Company’s common stock on the date of grant, in an amount equal to 2% of its annual EBITDA up to $42.5 million and 4% of its annual EBITDA in excess of $42.5 million. Additionally, Mr. Bonsett received a one-time signing bonus of 250,000 (post Reverse-Split) shares of restricted common stock of the Company, valued at $327,500, which became fully vested one year from the effective date of the agreement. Mr. Bonsett, as an owner of Picture Rock Holdings, LLC (“PRH”), was expected to indirectly receive the benefits of the Colorado operations discussed above. Mr. Bonsett agreed to defer his salary effective July 1, 2017. No additional amounts are due to Mr. Bonsett as of November 31, 2019. On October 1, 2017, the Company and Mr. Bonsett, the Company’s Chief Operating Officer, mutually agreed to end his employment with the Company. Mr. Bonsett may provide consulting services to the Company in the future on an as needed basis.
Effective November 30, 2017, the Company and Mr. Lamadrid entered into a one-year employment agreement. Pursuant to the agreement, Mr. Lamadrid commenced serving as the Company’s President and Chief Financial Officer on December 1, 2017. Under the agreement, Mr. Lamadrid was entitled to receive an annual salary of $175,000. Further, he was entitled to receive a performance bonus equal to 2% of the Company’s annual EBITDA, and annual restricted stock awards of the Company’s common stock in an amount equal to 3% of its annual EBITDA. Additionally, Mr. Lamadrid was entitled to a one-time signing bonus of 500,000 shares of restricted common stock of the Company, which were to become fully vested one year from the effective date of the agreement. On July 24, 2018, the Company and Mr. Lamadrid mutually agreed to terminate the employment agreement. Mr. Lamadrid resigned as President and Chief Financial Officer effective as of July 13, 2018. In connection with a severance agreement between the Company and Mr. Lamadrid, the Company paid certain amounts and issued 600,000 shares of common stock to Mr. Lamadrid, and the parties further agreed that neither party would have any further obligations under the employment agreement or otherwise after such date.
On July 31, 2018, the Company and Mr. Sillitoe entered into a one-year employment agreement. Pursuant to the agreement, Mr. Sillitoe commenced serving as the Chief Executive Officer of CLS Nevada, Inc. effective July 1, 2018. Under the agreement, Mr. Sillitoe is entitled to receive an annual salary of $150,000. Further, he is entitled to receive a performance bonus equal to 2% of the annual EBITDA of CLS Nevada, Inc., and annual restricted stock awards of the Company’s common stock in an amount equal to 3% of the annual EBITDA of CLS Nevada, Inc. Additionally, Mr. Sillitoe received a one-time signing bonus of 500,000 shares of restricted common stock, which became fully vested one year from the effective date of his employment agreement. On July 31, 2019, CLS Nevada, Inc. and Mr. Sillitoe amended Mr. Sillitoe’s employment agreement to effect the original intention of the parties that the performance bonus would be based on the results of Alternative Solutions and not CLS Nevada, Inc.
The Company and Mr. Decatur entered into a one-year employment agreement effective July 31, 2018. Pursuant to the agreement, Mr. Decatur commenced serving as the Chief Operating Officer of CLS Nevada, Inc. on July 1, 2018. Under the agreement, Mr. Decatur is entitled to receive an annual salary of $150,000. Further, he is entitled to receive a performance bonus equal to 2% of the annual EBITDA of CLS Nevada, Inc., and annual restricted stock awards of the Company’ common stock in an amount equal to 3% of the annual EBITDA of CLS Nevada, Inc. Additionally, Mr. Decatur received to a one-time signing bonus of 50,000 shares of restricted common stock, which became fully vested one year from the effective date of his employment agreement. On May 14, 2019, CLS Nevada and Mr. Decatur entered into an amendment to his employment agreement to extend the term of Mr. Decatur's employment agreement by two years instead of relying on the automatic one-year renewal provision in the employment agreement. On July 31, 2019, CLS Nevada, Inc. and Mr. Decatur amended Mr. Decatur’s employment agreement to effect the original intention of the parties that the performance bonus would be based on the results of Alternative Solutions and not CLS Nevada, Inc.
On March 1, 2019, the Company and Mr. Glashow entered into a two-year employment agreement and Mr. Glashow commenced serving as the Company’s President and Chief Operating Officer. Under the agreement, Mr. Glashow is entitled to receive an annual salary of $175,000. Further, he is entitled to receive a performance bonus equal to 1% of the Company’s annual EBITDA, and annual restricted stock awards in an amount equal to 1% of the Company’s annual EBITDA. Additionally, Mr. Glashow is entitled to a one-time signing bonus of 500,000 shares of the Company’s restricted common stock, half of which shall vest on March 1, 2020, and half of which shall vest on March 1, 2021. Effective March 1, 2019, and in connection with the employment agreement, Mr. Glashow and the Company entered into a Confidentiality, Non-Compete and Proprietary Rights Agreement. Pursuant thereto, Mr. Glashow agreed (i) not to compete with us during the term of his employment and for a period of one year thereafter, (ii) not to release or disclose our confidential information, and (iii) to assign the rights to all work product to us, among other terms. On October 14, 2019, but effective October 1, 2019, the Company and Mr. Glashow entered into an amendment to his employment agreement to extend the term by one year instead of relying on the automatic one-year renewal provision in the employment agreement, and to increase Mr. Glashow’s annual base salary to $200,000. The amendment also provides that in addition to his base salary, Mr. Glashow is entitled to receive, on an annual basis, a performance-based bonus equal to two percent (2%) of the Company’s annual EBITDA up to a maximum annual cash compensation of $1 million including base salary, and annual stock options, exercisable at the fair market value of the Company’s common stock on the effective date of grant, in an amount equal to 2% of the Company’s EBITDA up to $42.5 million and 4% of its annual EBITDA in excess of $42.5 million. Additionally, the amendment provides for certain change of control provisions, including a payment of up to three years base salary and bonuses up to a maximum of $1,000,000, if Mr. Glashow resigns or is terminated in connection with a change in control of the Company.
On May 2, 2019, the Company and Gregg Carlson entered into a one-year employment agreement. Pursuant to the employment agreement, Mr. Carlson commenced serving as the Company’s Chief financial Officer on May 1, 2019 and will continue his employment with us pursuant to the terms of his one-year employment agreement with Alternative Solutions effective April 8, 2019. Mr. Carlson receives an annual salary of $110,000, and received a one-time signing bonus of 50,000 shares of restricted common stock of the Company, which shall become fully vested one year from the effective date of his employment agreement assuming Mr. Carlson remains employed by the Company on such date.
At November 30, 2019 and 2018, the Company had accrued salary due to Michael Abrams, a former officer of the Company, prior to his September 1, 2015 termination, in the amount of $16,250.
Note 22 – Subsequent Events
On December 16, 2019, Don Decatur resigned from his position as Chief Operating Officer of CLS Nevada, Inc., a wholly owned subsidiary of CLS Holdings USA, Inc., effective immediately, for personal reasons.
On December 23, 2019, the Company received payment in full on the CannAssist loan in the amount of $342,567, which is made up of $325,000 of principal and $17,567 of interest.
On December 31, 2019, the Company repaid the Oasis note in full in the amount of $1,671,296, which is made up of $1,363,925 of principal and $307,370 of interest.
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
HISTORY AND OUTLOOK
We were incorporated on March 31, 2011 as Adelt Design, Inc. to manufacture and market carpet binding art. Production and marketing of carpet binding art never commenced. On November 20, 2014, we adopted amended and restated articles of incorporation, thereby changing our name to CLS Holdings USA, Inc. Effective December 10, 2014, we effected a reverse stock split of our issued and outstanding common stock at a ratio of 1-for-0.625 (the “Reverse Split”), wherein 0.625 shares of our Common Stock were issued in exchange for each share of Common Stock issued and outstanding.
On April 29, 2015, the Company, CLS Labs and the Merger Sub consummated the Merger, whereby the Merger Sub merged with and into CLS Labs, with CLS Labs remaining as the surviving entity. As a result of the Merger, we acquired the business of CLS Labs and abandoned our previous business. As such, only the financial statements of CLS Labs are included herein.
CLS Labs was originally incorporated in the state of Nevada on May 1, 2014 under the name RJF Labs, Inc. before changing its name to CLS Labs, Inc. on October 24, 2014. It was formed to commercialize a proprietary method of extracting cannabinoids from cannabis plants and converting the resulting cannabinoid extracts into concentrates such as oils, waxes, edibles and shatter. These concentrates may be ingested in a number of ways, including through vaporization via electronic cigarettes (“e-cigarettes”), and used for a variety of pharmaceutical and other purposes. Testing in conjunction with two Colorado growers of this extraction method and conversion process has revealed that it produces a cleaner, higher quality product and a significantly higher yield than the cannabinoid extraction processes currently existing in the marketplace.
On April 17, 2015, CLS Labs took its first step toward commercializing its proprietary methods and processes by entering into the Colorado Arrangement through its wholly owned subsidiary, CLS Labs Colorado, with certain Colorado entities, including PRH. During 2017, we suspended our plans to proceed with the Colorado Arrangement due to regulatory delays and have not yet determined if or when we will pursue them again.
We have been issued a U.S. patent with respect to our proprietary method of extracting cannabinoids from cannabis plants and converting the resulting cannabinoid extracts into concentrates such as oils, waxes, edibles and shatter. These concentrates may be ingested in a number of ways, including through vaporization via electronic cigarettes, and used for a variety of pharmaceutical and other purposes. Internal testing of this extraction method and conversion process has revealed that it produces a cleaner, higher quality product and a significantly higher yield than the cannabinoid extraction processes currently existing in the marketplace. We have not yet commercialized our proprietary process. We plan to generate revenues through licensing, fee-for-service and joint venture arrangements related to our proprietary method of extracting cannabinoids from cannabis plants and converting the resulting cannabinoid extracts into saleable concentrates.
We intend to monetize our extraction and conversion method and generate revenues through (i) the licensing of our patented proprietary methods and processes to others, (ii) the processing of cannabis for others, and (iii) the purchase of cannabis and the processing and sale of cannabis-related products. We plan to accomplish this through the acquisition of companies, the creation of joint ventures, through licensing agreements, and through fee-for-service arrangements with growers and dispensaries of cannabis products. We believe that we can establish a position as one of the premier cannabinoid extraction and processing companies in the industry. Assuming we do so, we then intend to explore the creation of our own brand of concentrates for consumer use, which we would sell wholesale to cannabis dispensaries. We believe that we can create a “gold standard” national brand by standardizing the testing, compliance and labeling of our products in an industry currently comprised of small, local businesses with erratic and unreliable product quality, testing practices and labeling. We also plan to offer consulting services through Cannabis Life Sciences Consulting, LLC, which will generate revenue by providing consulting services to cannabis-related businesses, including growers, dispensaries and laboratories, and driving business to our processing facilities.
On December 4, 2017, we entered into the Acquisition Agreement with Alternative Solutions to acquire the outstanding equity interests in the Oasis LLCs. Pursuant to the Acquisition Agreement, as amended, we paid a non-refundable deposit of $250,000 upon signing, which was followed by an additional payment of $1,800,000 on February 5, 2018, for an initial 10% of Alternative Solutions and each of the subsidiaries. At the closing of our purchase of the remaining 90% of the ownership interests in Alternative Solutions and the Oasis LLCs, which occurred on June 27, 2018, we paid the following consideration: $5,995,543 in cash, a $4.0 million promissory note due in December 2019, and $6,000,000 in shares of our Common Stock. The cash payment of $5,995,543 was less than the $6,200,000 payment originally contemplated because we assumed an additional $204,457 of liabilities. The Oasis Note, which was repaid in full in December 2019, was secured by all of the membership interests in Alternative Solutions and the Oasis LLCs and by the assets of the Oasis LLCs. We received final regulatory approval to own the membership interests in the Oasis LLCs on December 12, 2018.
On October 31, 2018, the Company, CLS Massachusetts, Inc., a Massachusetts corporation and a wholly-owned subsidiary of the Company (“CLS Massachusetts”), and In Good Health, Inc., a Massachusetts corporation (“IGH”), entered into an Option Agreement (the “IGH Option Agreement”). Under the terms of the IGH Option Agreement, CLS Massachusetts has an exclusive option to acquire all of the outstanding capital stock of IGH (the “IGH Option”) during the period beginning on the earlier of the date that is one year after the effective date of the conversion and December 1, 2019 and ending on the date that is 60 days after such date. If CLS Massachusetts exercises the IGH Option, the Company, a wholly-owned subsidiary of the Company and IGH will enter into a merger agreement (the form of which has been agreed to by the parties) (the “IGH Merger Agreement”). At the effective time of the merger contemplated by the IGH Merger Agreement, CLS Massachusetts will pay a purchase price of $47,500,000, subject to reduction as provided in the IGH Merger Agreement, payable as follows: $35 million in cash, $7.5 million in the form of a five-year promissory note, and $5 million in the form of restricted Common Stock of the Company, plus $2.5 million as consideration for a non-competition agreement with IGH’s President, payable in the form of a five-year promissory note. IGH and certain IGH stockholders holding sufficient aggregate voting power to approve the transactions contemplated by the IGH Merger Agreement have entered into agreements pursuant to which such stockholders have, among other things, agreed to vote in favor of such transactions. On October 31, 2018, as consideration for the IGH Option, we made a loan to IGH, in the principal amount of $5,000,000, subject to the terms and conditions set forth in that certain loan agreement, dated as of October 31, 2018 between IGH as the borrower and the Company as the lender. The loan is evidenced by a secured promissory note of IGH, which bears interest at the rate of 6% per annum and matures on October 31, 2021. To secure the obligations of IGH to us under the loan agreement and the promissory note, the Company and IGH entered into a security agreement dated as of October 31, 2018, pursuant to which IGH granted to us a first priority lien on and security interest in all personal property of IGH. If we do not exercise the Option on or prior to the date that is 30 days following the end of the option period, the loan amount will be reduced to $2,500,000 as a break-up fee, subject to certain exceptions set forth in the IGH Option Agreement. On August 26, 2019, the parties amended the IGH Option Agreement to, among other things, delay the closing until January 2020.
On September 13, 2018, we entered into a non-binding letter of intent (the “CannAssist LOI”) with CannAssist, LLC (“CannAssist”) setting forth the terms and conditions upon which we proposed to acquire an 80% ownership interest in CannAssist.
On January 29, 2019, we made a line of credit loan to CannAssist, in the principal amount of up to $500,000, subject to the terms and conditions set forth in that certain Loan Agreement, dated as of January 29, 2019 between CannAssist as the Borrower and the Company as the Lender (the “CannAssist Loan Agreement”). The Loan , which was repaid in full in December 2019, was evidenced by a secured promissory note of CannAssist (the “CannAssist Note”), which bore interest at the rate of 8% per annum and was personally guaranteed by the two equity owners of CannAssist. CannAssist had drawn down $325,000 on the CannAssist Note.
On March 11, 2019, the Company, through our wholly-owned subsidiary, CLS Massachusetts, entered into a membership interest purchase agreement (the “CannAssist Purchase Agreement”) with CannAssist, each of the members of CannAssist, and David Noble, as the members’ representative. Mr. Noble currently serves as the President of IGH, an entity that we hold an option to acquire. After conducting diligence regarding the cost of the planned buildout of the CannAssist facility, the parties jointly decided to terminate the CannAssist Purchase Agreement effective August 26, 2019 and declare the CannAssist Note due and payable in full not later than February 28, 2020.
On January 4, 2018, the Attorney General of the United States issued new written guidance concerning the enforcement of federal laws relating to marijuana. The Attorney General’s memorandum stated that previous DOJ guidance specific to marijuana enforcement, including the memorandum issued by former Deputy Attorney General James Cole on August 29, 2013 (as amended on February 14, 2014, the “Cole Memo”) is unnecessary and is rescinded, effective immediately. The Cole Memo told federal prosecutors that in states that had legalized marijuana, they should use their prosecutorial discretion to focus not on businesses that comply with state regulations, but on illicit enterprises that create harms like selling drugs to children, operating with criminal gangs, and selling across state lines. Although the rescission did not change federal law, as the Cole Memo and other DOJ guidance documents were not themselves laws, the rescission removed the DOJ’s formal policy that state-regulated cannabis businesses in compliance with the Cole Memo guidelines should not be a prosecutorial priority. Notably, former Attorney General Sessions’ rescission of the Cole Memo has not affected the status of the FinCen memorandum issued by the Department of Treasury, which remains in effect. This memorandum outlines Bank Secrecy Act-compliant pathways for financial institutions to service state-sanctioned cannabis business, which echoed the enforcement priorities outlined in the Cole Memo. In addition to his rescission of the Cole Memo, former Attorney General Sessions issued a one-page memorandum known as the “Sessions Memorandum.” The Sessions Memorandum explains the DOJ’s rationale for rescinding all past DPJ cannabis enforcement guidance, claiming that Obama-era enforcement policies are “unnecessary” due to existing general enforcement guidance adopted in the 1980s. Although the Sessions Memorandum emphasizes that cannabis is a federally illegal Schedule I controlled substance, it does not otherwise instruct U.S. Attorneys to consider the prosecution of cannabis-related offenses a DOJ priority, and in practice, most U.S. Attorneys have not changed their prosecutorial approach to date. However, due to the lack of specific direction in the Sessions Memorandum as to the priority federal prosecutors should ascribe to such cannabis activities, there can be no assurance that the federal government will not seek to prosecute cases involving cannabis businesses that are otherwise compliant with state law.
We incurred a net loss of $27,619,057 for the year ended May 31, 2019, and $1,297,090 and $2,673,590 for the three and six months ended November 30, 2019, respectively, resulting in an accumulated deficit of $46,188,151 as of May 31, 2019, which deficit increased to $48,861,741 as of November 30, 2019. These conditions raise substantial doubt about our ability to continue as a going concern.
Results of Operations
The table below sets forth our expenses as a percentage of revenue for the applicable periods:
Three Months Ended November 30, 2019 |
Three Months Ended November 30, 2018 |
Six Months Ended November 30, 2019 |
Six Months Ended November 30, 2018 |
|||||||||||||
Revenue |
100.0 |
% |
100.0 |
% |
100.0 |
% |
100.0 |
% |
||||||||
Cost of Goods Sold |
52 |
% |
53 |
% |
51 |
% |
57 |
% |
||||||||
Gross Margin |
48 |
% |
47 |
% |
49 |
% |
43 |
% |
||||||||
Selling, General, and Administrative Expenses |
66 |
% |
151 |
% |
73 |
% |
582 |
% |
||||||||
Interest expense, net |
24 |
% |
33 |
% |
26 |
% |
74 |
% |
||||||||
Gain on Settlement of liabilities |
0 |
% |
0 |
% |
-5 |
% |
0 |
% |
Three Months Ended November 30, 2019 and 2018
Revenue
We had revenue of $3,056,431 during the three months ended November 30, 2019, an increase of $1,079,521, or 55%, compared to revenue of $1,976,910 during the three months ended November 30, 2018. We acquired the Oasis LLCs, which are our only source of revenue, effective July 1, 2018, which means that the second quarter of fiscal 2020 is the first quarter that included three months of operations of the Oasis LLCs for both the fiscal 2020 second quarter and the comparable quarter of fiscal 2019. Revenue increased during the second quarter of 2020 because our average sales per day increased from $21,724 during the second quarter of fiscal 2019 to $33,587 during the comparable quarter of fiscal 2020. Our cannabis dispensary accounted for $2,312,362, or 76%, of our revenue for the three months ended November 30, 2019, an increase of $629,096, or 37%, compared to $1,683,266 during the three months ended November 30, 2018. Our cannabis production accounted for $744,069, or 24%, of our revenue for the three months ended November 30, 2019, an increase of $450,425, or 153%, compared to $293,644 for the three months ended November 30, 2018.
Cost of goods sold
Our cost of goods sold for the three months ended November 30, 2019 was $1,587,632, an increase of $540,965, or 52%, compared to cost of goods sold of $1,046,667 for the three months ended November 30, 2018. The increase in cost of goods sold for the three months ended November 30, 2019 was due primarily to our increase in sales during the second quarter of fiscal 2020. Cost of goods sold was 52% of sales during the second quarter of fiscal 2020 compared to 53% during the second quarter of fiscal 2019. This improvement in gross margin during the second quarter of fiscal 2020 was primarily due to a decrease in the cost of purchasing product as a result of the implementation of new processes, the retention of additional skilled employees and an improvement in inventory purchasing. Cost of goods sold during the second quarter of fiscal 2020 primarily consisted of $1,404,161 of product cost, $105,975 of state and local taxes, and $26,177 of supplies and materials.
Selling, general and administrative expenses
Selling, general and administrative expenses, or SG&A, decreased by $955,383, or approximately 32%, to $2,021,653 during the three months ended November 30, 2019, compared to $2,977,036 for the three months ended November 30, 2018. The decrease in SG&A expenses for the three months ended November 30, 2019 was primarily due to the ongoing implementation of aspects of our business plan (other than the Oasis LLCs) and changes in our general corporate overhead. These costs decreased by $931,920 to an aggregate of $596,456 from $1,528,376 during the second quarter of fiscal 2019. The major components of these changes compared to the comparable quarter of fiscal 2019 are as follows: professional fees decreased by $708,638; investor relations costs decreased by $260,339; and non-cash compensation decreased by $105,070. These reductions were partially offset by an increase in payroll and related costs by $74,857 and an increase in depreciation and amortization by $26,058. The decrease in legal fees was primarily due to the reduction in acquisition and financing activity that occurred during the second quarter of fiscal 2020 compared to the second quarter of fiscal 2019.
The decrease in SG&A expense during the second quarter of fiscal 2020 was partially offset by an increase in costs associated with operating the Oasis LLCs during the three months ended November 30, 2019 by an aggregate of $169,622, or approximately 14%, compared to $1,255,589 during the three months ended November 30, 2018. This increase in operating costs is primarily due to an increase in the number of people employed by the Oasis LLCs from 74 to 79 to handle the increase in sales. The major components of the increase in the operating costs associated with the Oasis LLCs during the three months ended November 30, 2019 compared to the comparable quarter of fiscal 2019 were as follows: payroll and related costs increased by $204,378; lease, facilities and office costs increased by $32,229; and sales, marketing, and advertising increased by $28,196.
Interest expense
Interest expense for the three months ended November 30, 2019 was $729,120, an increase of $76,670, or 12%, compared to $652,450 for the three months ended November 30, 2018. This increase was primarily due to an increase in interest accrued on convertible notes, which increased by $275,414 to $404,705, compared to $129,291 in the comparable period of the prior year. The increase in interest expense is due to the addition of convertible debt during the three months ended November 30, 2018 in the amount of $5,857,000. The increase in interest expense during the three months ended November 30, 2019, was partially offset by an increase in interest income during the same period in the amount of $56,619 due to higher cash balances maintained during the period.
The increase in net interest expense during the three months ended November 30, 2019 was also partially offset by the decrease in the amortization of the discount on our convertible debentures, which decreased by $140,136 to $405,692, compared to $545,828 in the comparable period of the prior year. During the comparable period of the prior year, amortization of the discount on our convertible debentures in the amount of $303,818 was recorded in connection with the conversion of a portion of the YA II PN note.
Net loss
For the reasons above, we incurred a net loss for the three months ended November 30, 2019 of $1,281,974, which was a decrease of $1,417,269, or approximately 53%, compared to a net loss of $2,699,243 during the three months ended November 30, 2018.
Six Months Ended November 30, 2019 and 2018
Revenue
We had revenue of $5,915,446 during the six months ended November 30, 2019, an increase of $2,759,183, or 87%, compared to revenue of $3,156,293 during the six months ended November 30, 2018. We acquired the Oasis LLCs, which are our only source of revenue, effective July 1, 2018, which means that the first half of fiscal 2020 included six months of operations of the Oasis LLCs but the comparable quarter of fiscal 2019 included only five months of operations of the Oasis LLCs. This is one of the reasons for the increase in revenues for the first half of fiscal 2020. Revenue also increased during the first half of fiscal 2020 because our average sales per day increased from $20,629 during the first half of fiscal 2019 to $32,325 during the comparable half of fiscal 2020. Our cannabis dispensary accounted for $4,398,262, or 85%, of our revenue for the six months ended November 30, 2019, an increase of $1,938,289, or 79%, compared to $2,459,973 during the six months ended November 30, 2018; our cannabis production accounted for $1,517,184, or 15%, of our revenue for the six months ended November 30, 2019, an increase of $820,894, or 118%, compared to $696,290 for the six months ended November 30, 2018.
Cost of goods sold
Our cost of goods sold for the six months ended November 30, 2019 was $2,999,204, an increase of $1,192,593, or 66%, compared to cost of goods sold of $1,806,611 for the six months ended November 30, 2018. The increase in cost of goods sold for the six months ended November 30, 2019 was due primarily to our increase in sales during the first half of fiscal 2020. Cost of goods sold was 51% of sales during the first half of fiscal 2020 compared to 57% during the first half of fiscal 2019. This improvement in gross margin during the first half of fiscal 2020 was primarily due to a decrease in the cost of purchasing product as a result of the implementation of new processes, the retention of additional skilled employees and an improvement in inventory purchasing. Cost of goods sold during the first half of fiscal 2020 primarily consisted of $2,632,682 of product cost, $213,930 of state and local taxes, and $49,425 of supplies and materials.
Selling, general and administrative expenses
Selling, general and administrative expenses, or SG&A, decreased by $14,049,199, or approximately 76%, to $4,319,967 during the six months ended November 30, 2019, compared to $18,369,166 for the six months ended November 30, 2018. The decrease in SG&A expenses for the six months ended November 30, 2019 was primarily due to the absence of approximately $12,947,556 in one-time financing and acquisition (and financing) costs attributable to the acquisition of the Oasis LLCs, which were incurred during the six months ended November 30, 2018. No such comparable expenses were incurred during the first half of fiscal 2020.
The major components of these one-time cash and non-cash financing and acquisition costs incurred during the first half of fiscal 2019 were as follows: the fair value of additional warrants and special warrants issued due to our failure to meet certain registration statement filing deadlines in connection with the Westpark equity offering and the Canaccord special warrants offering in the amount of $8,084,522; the fair value of the special warrants and compensation broker warrants issued to Canaccord in connection with our sale of the special warrants in the amount of $2,908,673; broker and agent fees and commissions in the amount of $1,060,773; the fair value of 700,000 shares of common stock issued to Star Associates, which is affiliated with one of our directors, for services in connection with the Oasis transaction, of $490,000; and a foreign exchange loss on conversion of the Canaccord funds from Canadian to U.S. dollars in the amount of $403,588.
SG&A also decreased by an aggregate of $1,728,288 during the first half of fiscal 2020 as a result of the ongoing implementation of other aspects of our business plan and changes in our general corporate overhead, to an $1,485,960 from $3,214,248 during the first half of fiscal 2019. The major components of these changes compared to fiscal 2019 are as follows: legal fees decreased by $1,487,298; investor relations costs decreased by $363,986; non-cash compensation decreased by $154,486; and facilities, office, and general costs increased by $104,178. These reductions were partially offset by an increase in payroll and related costs by $111,917 and an increase in depreciation and amortization by $57,464. The decrease in legal fees was primarily due to the reduction in acquisition and financing activity that occurred during the first half of fiscal 2020 compared to the first half of fiscal 2019.
The decreases in SG&A expense during the first half of fiscal 2020 described above were partially offset by an increase in costs associated with operating the Oasis LLCs during the six months ended November 30, 2019 by an aggregate of $819,730, or approximately 41%, compared to $2,014,291 during the six months ended November 30, 2018. This increase in operating costs is primarily due to the timing of our acquisition of the Oasis LLCs, which occurred on June 27, 2018. As a result, we incurred these costs for six months during fiscal 2020 compared to approximately five months during fiscal 2019. The major components of the increase in the operating costs associated with the Oasis LLCs during the six months ended November 30, 2019 were as follows: payroll and related costs increased by $524,061; lease, facilities and office costs increased by $138,686; bad debt increased by $102,615; professional fees increased by $67,623; and sales, marketing, and advertising increased by $34,765.
Gain on settlement of liabilities
During the six months ended November 30, 2019, we made a prepayment on the Oasis Note in connection with the settlement of a dispute between the former owners of Alternative Solutions and a consultant, and the amount of $275,000 which we had accrued with respect to this dispute was extinguished.
Interest expense
Interest expense for the six months ended November 30, 2019 was $1,529,749, a decrease of $806,920, or 35%, compared to $2,336,669 for the six months ended November 30, 2018. This decrease was primarily due to a decrease in the amortization of the discount on convertible notes, which decreased by $1,290,346 to $853,983, compared to $2,144,329 in the comparable period of the prior year. During the comparable period of the prior year, a reset event occurred with respect to the YA II PN note. As a result, the conversion price of this note was reduced to $0.34 per share of common stock. This was considered a material modification of the note, resulting in the amortization of the discount on this note in the amount of $699,628 being recorded. In addition, amortization in the amount of $509,573 was recorded in connection with the conversion of the Darling Capital note to common stock. There were no comparable transactions during the six months ended November 30, 2019. During the six months ended November 30, 2019, interest expense also decreased due to an increase in interest income in the amount of $163,446 as a result of higher cash balances maintained during the period.
The decrease in net interest expense during the six months ended November 30, 2019 was partially offset by an increase in accrued interest on our outstanding notes payable and convertible debentures, which was $839,212 during the first half of fiscal 2020, an increase of $627,964, compared to $211,248 during the first half of fiscal 2019. This increase was due an increase in our outstanding debt as a result of our successful fundraising efforts during fiscal 2019.
Net loss
For the reasons above, we incurred a net loss for the six months ended November 30, 2019 of $2,658,474, which was a decrease of $16,697,709, or approximately 86%, compared to a net loss of $19,356,183 during the six months ended November 30, 2018.
Liquidity and Capital Resources
The following table summarizes our total current assets, liabilities and working capital at November 30, 2019 compared to May 31, 2019.
November 30, 2019 |
May 31, 2019 |
|||||||
Current Assets |
$ | 8,409,129 | $ | 12,677,566 | ||||
Current Liabilities |
$ | 4,378,459 | $ | 6,924,543 | ||||
Working Capital (Deficit) |
$ | 4,023,670 | $ | 5,753,023 |
At November 30, 2019, we had working capital of $4,023,670, a decrease of $1,729,353 from working capital of $5,753,023 at May 31, 2019. Our working capital at November 30, 2019, included $4,937,013 of cash. The decrease in working capital was primarily the result of our acquisition of equipment and leasehold improvements in the amount of $1,240,636 in connection with the buildout of our cannabis processing facility in Nevada. We are presently expanding the Oasis and City Trees businesses in Nevada and are considering other potential acquisitions, including our previously announced potential acquisition of IGH in Massachusetts. Our working capital needs will likely continue to increase, and if we require additional funds to meet them, we will seek additional debt or equity financing. We have operated at a loss since inception.
Cash flows used in operating activities were $1,208,112 during the six months ended November 30, 2019, a decrease of $4,549,215, or 79%, compared to $5,757,327 during the six months ended November 30, 2018. In deriving cash flows used in operating activities from the net loss for fiscal 2020, there were $874,382 of non-cash items that were added back to the net loss for fiscal 2020 compared to $14,451,228 during the six months ended November 30, 2018. Significant items were as follows: gain on contingent liabilities of $275,000 during the six months ended November 30, 2019, compared to no such comparable gain during the six months ended November 30, 2018; amortization of debt discounts in the amount of $853,983 during the six months ended November 30, 2019 in connection with discounts on the U.S. and Canaccord convertible debentures, compared to $2,144,328 during the six months ended November 30, 2018 in connection with the discounts on the Darling Capital, Efrat Investments, YA II PN and Lasky notes; stock-based compensation of $93,902 during the six months ended November 30, 2019, compared to $230,888 during the six months ended November 30, 2018; and the fair value of shares issued to consultants of $30,000 during the six months ended November 30, 2019, compared to $490,000 during the six months ended November 30, 2018. The Company also incurred approximately $11,400,000 of non-cash financing charges during the first half of fiscal 2019 and had no comparable activity during the first half of fiscal 2020. These charges consisted of a financing penalty in the amount of $8,084,522 associated with our issuance of warrants and special warrants, $2,908,673 related to the value of warrants and units issued to placement agents, and non-cash offering costs of $403,588.
Finally, our cash used in operating activities was affected by changes in the components of working capital. The overall net change in the components of working capital resulted in an increase in cash from operating activities in the amount of $575,980 during the six months ended November 30, 2019, compared to a decrease in cash from operating activities in the amount of $852,372 during the first half of fiscal 2019. The more significant changes in the components of working capital that increased the amount of cash from operating activities during the six months ended November 30, 2019 were as follows: accrued interest increased cash by $838,662, which related primarily to the increased principal outstanding on the convertible debentures of $19,088,351 at November 30, 2019 compared to $6,857,000 at November 30, 2018. In addition, right of use asset, net of operating lease liability, increased cash from operating activities by $131,816 due to lease payments made and recorded in accordance with ASU 2016-02. The more significant changes in the components of working capital that decreased the amount of cash from operating activities during the six months ended November 30, 2019 were as follows: accounts payable and accrued expenses decreased cash by $293,872, primarily due to the elimination of deferred rent in the amount of $151,399 in connection with the implementation of ASU 2016-02; and interest receivable decreased cash by $163,446 due to interest accruals on the CannAssist and IGH notes receivable, which were not yet outstanding during the first half of the year ended November 30, 2018.
Cash flows used in investing activities were $1,741,882 for the six months ended November 30, 2019, a decrease of $9,275,923, or 84%, compared to $11,017,805 during the six months ended November 30, 2018. During the six months ended November 30, 2019, we made cash payments in the amount of $1,240,636 to purchase equipment and build out our leased facilities in Nevada pursuant to our expansion plan. We also made a loan in the amount of $175,000 to CannAssist. During the six months ended November 30, 2018, we made a net cash payment in the amount of $5,982,710 in connection with the acquisition of Alternative Solutions.
Cash flows used in financing activities were $2,638,784 for the six months ended November 30, 2019, an increase of $24,233,000, or 112%, compared to cash provided by financing activities of $21,594,216 during the six months ended November 30, 2018. During the six months ended November 30, 2019, we made a cash prepayment in the amount of $2,638,784 on the Oasis Note. During the six months ended November 30, 2018, we received cash in the amount of $21,892,908 from the sale of equity to Navy Capital and convertible debentures to investors in the Canaccord Special Warrant Offering.
Third Party Debt
The table below summarizes the status of our third party debt and reflects whether such debt remains outstanding, has been repaid, or has been converted into or exchanged for our Common Stock:
Name of Note |
|
Original Principal Amount |
|
Outstanding or Repaid |
|
Payment Details |
|
|
|
|
|
|
|
|
|
FirstFire Note |
|
$ |
363,000 |
|
Repaid |
|
Repaid |
|
|
|
|
|
|
|
|
Darling Capital Note |
|
$ |
550,000 |
|
Repaid |
|
Converted into 1,808,000 shares |
|
|
|
|
|
|
|
|
Efrat Investments Note |
|
$ |
55,000 |
|
Repaid |
|
Converted into 183,040 shares |
|
|
|
|
|
|
|
|
Todd Blatt |
|
$ |
210,000 |
|
Repaid |
|
Repaid |
|
|
|
|
|
|
|
|
AJG Group |
|
$ |
100,000 |
|
Repaid |
|
Repaid |
|
|
|
|
|
|
|
|
YA II PN Note |
|
$ |
750,000 |
|
Repaid |
|
Repaid |
|
|
$ |
250,000 |
|
Repaid |
|
$250,000 plus interest converted into 700,616 shares of Common Stock. |
|
|
$ |
250,000 |
|
Repaid |
|
$250,000 plus interest converted into 640,068 shares of Common Stock. |
|
|
|
|
|
|
|
|
Oasis Note |
|
$ |
4,000,000 |
|
Outstanding |
|
Repaid |
|
|
|
|
|
|
|
|
2018 U.S. Convertible Debentures |
|
$ |
5,857,000 |
|
Outstanding |
|
Due October 26-31, 2021 |
|
|
|
|
|
|
|
|
2018 Convertible Debentures |
|
$ |
12,012,000 |
|
Outstanding |
|
Due December 2021. Principal and interest in the aggregate amount of $25,803 converted into 32,321 shares of Common Stock. |
Darling Capital Note
On February 5, 2018, we entered into a securities purchase agreement with Darling, whereby Darling agreed to purchase an 8% convertible promissory note in the aggregate principal amount of $550,000 (the “Darling Note”) from us due, subject to the terms therein, eighteen (18) months from the date of issuance, for a purchase price of $500,000.
Darling could, at its option, convert all or a portion of the Darling Note and accrued but unpaid interest into shares of Common Stock at a conversion price of $0.3125 per share. On the closing date, we also issued Darling a three-year Common Stock purchase warrant to purchase 400,000 shares of our Common Stock at an initial exercise price of $0.75 per share.
On June 12, 2018, we received a conversion notice from Darling notifying us that it had converted $550,000 in principal and $15,000 of accrued interest into 1,808,000 shares of our Common Stock.
Efrat Investments Note
On February 16, 2018, we entered into a securities purchase agreement with Efrat, whereby Efrat agreed to purchase an 8% convertible promissory note in the aggregate principal amount of $55,000 (the “Efrat Note”) from us due, subject to the terms therein, eighteen (18) months from the date of issuance, for a purchase price of $50,000.
Efrat could, at its option, convert all or a portion of the Efrat Note and accrued but unpaid interest into shares of Common Stock at a conversion price of $0.3125 per share. On the closing date, we also issued Efrat a three-year Common Stock purchase warrant to purchase 40,000 shares of our Common Stock at an initial exercise price of $0.75 per share.
On August 9, 2018, we received a conversion notice from Efrat notifying us that it had converted $55,000 in principal and $2,200 of accrued interest into 183,040 shares of our Common Stock.
The YA II PN, Ltd. Notes
On May 11, 2018, we entered into a securities purchase agreement with YA II, pursuant to which we agreed to sell to YA II, in two closings, (i) convertible debentures in the aggregate principal amount of $1,250,000, plus accrued interest, which may be converted into shares of our Common Stock, at the discretion of either YA II or us in accordance with the terms of the debentures, and (ii) five-year warrants to purchase an aggregate of 3,125,000 shares of our Common Stock at $0.60 per share of Common Stock. At the first closing, which occurred on May 14, 2018, we issued a $750,000 debenture to YA II and warrants to purchase 1,875,000 shares of our Common Stock. At the second closing, which occurred on July 20, 2018, we issued a $500,000 debenture to YA II and warrants to purchase 1,250,000 additional shares of our Common Stock.
The debentures bear interest at the rate of 8% per annum. If an event of default occurs and for so long as such event of default remains uncured, the interest rate on the debentures shall immediately become 15% per annum and shall remain at such increased interest rate until the applicable event of default is cured.
Commencing on December 1, 2018 and on the first day of each month thereafter through July 1, 2019, subject to certain exceptions, we shall pay to YA II one-eighth of the principal amount of the debentures, plus accrued and outstanding interest (the “Installment Amount”), plus 20% of the of the Installment Amount for Installment Amounts due within 180 days following the date of execution of the purchase agreement, and 25% of the Installment Amount for Installment Amounts due thereafter in cash or by converting such Installment Amount into shares of our Common Stock. if we have met the applicable conditions for such a conversion and as long as the conversion does not exceed certain maximum amounts. Each Installment Amount will be deferred to the maturity date if the daily dollar volume-weighted average price of our Common Stock equals or exceeds $0.40 per share for each of the 10 consecutive days preceding the fifth trading day prior to the respective installment date.
Pursuant to the terms of the debentures, YA II may elect to convert any portion of the principal and accrued interest under the debentures into our Common Stock at a fixed conversion price of $0.40 per share. The fixed conversion price may change if certain dilutive events or issuances occur. In addition, we may, at our sole discretion, make an Installment Payment using our Common Stock if certain conditions have been met. In such case, the applicable conversion price would be equal to 75% of the VWAP of our Common Stock during the fifteen consecutive trading days immediately preceding such conversion. During the three months ended August 31, 2018, a reset event occurred. As a result, the conversion price of the first YA II PN Note, in the principal amount of $750,000, was reduced to $0.34 per share of Common Stock.
During the year ended May 31, 2019, YA II converted a total of $280,247, which consisted of $250,000 of principal and $30,247 of accrued interest, into 700,616 shares of Common Stock. On January 8, 2019, YA II converted $256,027, of which $250,000 was principal and $6,027 was accrued interest, into 640,068 shares of Common Stock.
On February 28, 2019, we redeemed all of the convertible debentures issued to YA II in full for total cash consideration of $964,787.
Blatt Note
On February 7, 2018, we issued a note payable to Todd Blatt in the amount of $210,000. This note accrued interest at a rate of 6% per annum and was due on February 7, 2019. This note along with $5,627 of accrued interest was paid on July 20, 2018.
AJG Group Note
On February 7, 2018, we issued a note payable to AJG Group in the amount of $200,000. This note accrued interest at a rate of 6% per annum and was due on February 7, 2019. We made a principal payment in the amount of $100,000 on this note on March 30, 2018; we then made an additional principal payment of $100,000, together with accrued interest in the amount of $3,337, on July 9, 2018.
Oasis Note
On June 27, 2018, we closed on the purchase of the remaining 90% of the membership interests of Alternative Solutions and the Oasis LLCs. The closing occurred pursuant to the Acquisition Agreement dated December 4, 2017, as amended. On such date, we made the payments to indirectly acquire the remaining 90% of the Oasis LLCs, which were equal to cash in the amount of $5,995,543, a $4.0 million promissory note due in December 2019 (the “Oasis Note”), and 22,058,823 shares of our Common Stock. The cash payment of $5,995,543 was less than the $6,200,000 payment originally contemplated because we assumed an additional $204,457 in liabilities. The Oasis Note bears interest at the rate of 6% per annum. The principal amount of the Oasis Note was reduced in August 2019, in accordance with the terms of the Acquisition Agreement, as a result of the settlement of the dispute between the former owners of Alternative Solutions and 4Front Advisors, a consultant to Alternative Solutions. The terms of the settlement with 4Front Advisors are confidential. The Oasis Note was secured by all of the membership interests in Alternative Solutions and the Oasis LLCs and by the assets of the Oasis LLCs. We repaid the Oasis Note in full in December 2019.
2018 U.S. Convertible Debenture Offering
Between October 25, 2018 and November 2, 2018, we entered into six subscription agreements, pursuant to which we agreed to sell, for an aggregate purchase price of $5,857,000, $5,857,000 in original principal amount of convertible debentures in minimum denominations of $1,000 each. The debentures bear interest, payable quarterly, at a rate of 8% per annum, with interest during the first eighteen (18) months following their issuance, being payable by increasing the then-outstanding principal amount of the debentures. The debentures mature on a date that is three years following their issuance. The debentures are convertible into units at a conversion price of $0.80 per unit. Each unit consists of (i) one share of our Common Stock, par value $.001 and (ii) one-half of one warrant, with each warrant exercisable for three years to purchase a share of Common Stock at a price of $1.10. The debentures have other features, such as mandatory conversion in the event our Common Stock trades at a particular price over a specified period of time and required redemption in the event of a “Change in Control” of the Company. The debentures are unsecured obligations of the Company and rank pari passu in right of payment of principal and interest with all other unsecured obligations of the Company. Navy Capital and its affiliates purchased $5,000,000 in principal amount of debentures, with the remaining $857,000 in principal amount being purchased by several unaffiliated purchasers. The debentures include a provision for the capitalization of accrued interest on a quarterly basis; at November 30, 2019, accrued interest in the aggregate amount of $448,051 has been capitalized, and the aggregate principal amount of the debentures is $6,305,051.
If the debentures are converted, the warrants that would be issued are exercisable from time to time, in whole or in part for three years. The warrants have anti-dilution provisions that provide for an adjustment to the exercise price in the event of a future sale of our Common Stock at a lower price, subject to certain exceptions as set forth in the warrant. The warrants also provide that we can force their exercise at any time after the bid price of our Common Stock exceeds $2.20 for a period of 20 consecutive business days.
On July 26, 2019, we entered into amendments to these convertible debentures with four of the purchasers, pursuant to which we agreed to adjust the conversion price of the original debentures if, in general, we issue or sell common stock, or warrants or options exercisable for common stock, or any other securities convertible into common stock, in a capital raising transaction, at a consideration per share, or exercise or conversion price per share, as applicable, less than the conversion price of the original debentures in effect immediately prior to such issuance (a “Dilutive Issuance”). In such case, the conversion price of the original debentures will be reduced to such issuance price (the “Adjusted Conversion Price”). The amendments also provides that, if a Dilutive Issuance occurs, the warrant to be issued upon conversion will be exercisable at a price equal to 137.5% of the Adjusted Conversion Price at the time of conversion of the debenture (the “Revised Warrant Exercise Price”). If a Dilutive Issuance occurs, the form of warrant attached to the subscription agreement shall be amended to change the Initial Exercise Price, as defined therein, to be the Revised Warrant Exercise Price.
2018 Convertible Debenture Offering
On December 12, 2018, we entered into an agency agreement with two Canadian agents regarding a private offering of up to $40 million of convertible debentures of the Company at an issue price of $1,000 per debenture. The agents sold the convertible debentures on a commercially reasonable efforts private placement basis. Each debenture is convertible into units of the Company at the option of the holder at a conversion price of $0.80 per unit at any time prior to the close of business on the last business day immediately preceding the maturity date of the debentures, being the date that is three (3) years from the closing date of the offering (the “2018 Convertible Debenture Offering”). Each unit will be comprised of one share of Common Stock and a warrant to purchase one-half of a share of Common Stock. Each warrant will be exercisable for one share of Common Stock at a price of $1.10 per warrant for a period of 36 months from the closing date.
We closed the 2018 Convertible Debenture Offering on December 12, 2018, issuing $12,012,000 million in 8% senior unsecured convertible debentures at the initial closing. At the closing, we paid the agents: (A)(i) a cash fee of $354,000 for advisory services provided to us in connection with the offering; (ii) a cash commission of $720,720, equivalent to 6.0% of the aggregate gross proceeds received at the closing of the offering; (B)(i) an aggregate of 184,375 units for advisory services; and (ii) a corporate finance fee equal to 375,375 units, which is the number of units equal to 2.5% of the aggregate gross proceeds received at the closing of the offering divided by the conversion price; and (C)(i) an aggregate of 442,500 advisory warrants; and (ii) 900,900 broker warrants, which was equal to 6.0% of the gross proceeds received at the closing of the offering divided by the conversion price. The debentures include a provision for the capitalization of accrued interest on a quarterly basis; at November 30, 2019, accrued interest in the amount of $797,420 had been capitalized. During the six months ended November 30, 2019, principal in the amount of $25,856 was converted into 32,319 shares of common stock, and the principal amount of the debenture is $12,809,420.
The debentures are unsecured obligations of the Company, rank pari passu in right of payment of principal and interest and were issued pursuant to the terms of a debenture indenture, dated December 12, 2018, between the Company and Odyssey Trust Company as the debenture trustee. The debentures bear interest at a rate of 8% per annum from the closing date, payable on the last business day of each calendar quarter. For a period of 18 months from the closing date, any interest payable shall automatically accrue and be capitalized to the principal amount of the debentures and shall thereafter be deemed to be part of the principal amount of the convertible debentures.
Beginning on the date that is four (4) months plus one (1) day following the closing date, we may force the conversion of all of the principal amount of the then outstanding debentures at the conversion price on not less than 30 days’ notice should the daily volume weighted average trading price of our Common Stock be greater than $1.20 per share for the preceding 10 consecutive trading days.
Upon a change of control of the Company, holders of the debentures have the right to require us to repurchase their debentures at a price equal to 105% of the principal amount of the debentures then outstanding plus accrued and unpaid interest thereon. The debentures also contain standard anti-dilution provisions.
If, at the time of exercise of any warrant in accordance with the warrant indenture, there is no effective registration statement under the U.S. Securities Act of 1933, as amended (the “U.S. Securities Act”) covering the resale by the holder of a portion of the shares of Common Stock to be issued upon exercise of the warrant, or the prospectus contained therein is not available for the resale of the shares of Common Stock by the holder under the U.S. Securities Act by reason of a blackout or suspension of use thereof, then the warrants may be exercised, in part for that portion of the shares of Common Stock not registered for resale by the holder under an effective registration statement or in whole in the case of the prospectus not being available for the resale of such shares of Common Stock, at such time by means of a “cashless exercise” in which the holder shall be entitled to receive a number of shares of Common Stock equal to the quotient obtained by dividing [(A-B) (X)] by (A), where: A = the last volume weighted average price (“VWAP”) for the trading day immediately preceding the time of delivery of the exercise form giving rise to the applicable “cashless exercise”; B = the exercise price of the warrant; and X = the number of shares of Common Stock that would be issuable upon exercise of the warrant in accordance with the terms of such warrant if such exercise were by means of a cash exercise rather than a cashless exercise.
Pursuant to the agency agreement, we granted the agents an option to increase the offering by an additional $6 million in principal amount of debentures, which option was not exercised by the agents prior to the closing date of the offering.
Pursuant to the agency agreement and the subscription agreements signed by investors in the offering, we granted certain registration rights to the holders of the debentures pursuant to which we agreed to prepare and file a registration statement with the SEC to register the resale by the original purchasers of the debentures of the shares of Common Stock issuable upon conversion of the debentures or exercise of the warrants.
Related Party Debt
David Lamadrid Note
On February 26, 2018, we entered into a securities purchase agreement with Mr. Lamadrid, our former President and Chief Financial Officer, whereby Mr. Lamadrid agreed to purchase an 8% convertible promissory note in the aggregate principal amount of $31,250 (the “Lamadrid Note”) from us due, subject to the terms therein, eighteen (18) months from the date of issuance.
Mr. Lamadrid could, at his option, convert all or a portion of the Lamadrid Note and accrued but unpaid interest into shares of Common Stock at a conversion price of $0.3125 per share. On the closing date, we also issued Mr. Lamadrid a three-year Common Stock purchase warrant to purchase 25,000 shares of our Common Stock at an initial exercise price of $0.75 per share.
On August 21, 2018, we received a conversion notice from Mr. Lamadrid notifying us that he had converted $31,250 in principal and $1,247 of accrued interest into 103,989 shares of our Common Stock.
Koretsky and Affiliate Notes
Between August 11, 2015 and May 31, 2017, we borrowed an aggregate of $1,657,000 from Frank Koretsky, a director of the Company, and $150,000 from CLS CO 2016, LLC and $465,000 from Newcan, two entities that are affiliated with Mr. Koretsky. These loans were unsecured, accrued interest between 6% and 15% per year, were due either on demand or within three years after the date of the applicable note, and, in some cases, were convertible into shares of our Common Stock and warrants at rates between $0.25 and 1.07 per share. Effective on May 31, 2017, we entered into the Omnibus Loan Amendment Agreement, whereby the portion of these loans that was advanced prior to December 31, 2017 was converted into our Common Stock, together with accrued interest on these loans. As a result of these conversions, Mr. Koretsky, CLS CO 2016, LLC and Newcan converted an aggregate of $1,485,000, $150,000, and $460,000 in principal, and $130,069, 49,247 and $7,747 in accrued interest, into an aggregate of 6,460,276, 636,988 and 1,870,988 shares of Common Stock at $0.25 per share. Pursuant to the Omnibus Loan Amendment Agreement, the conversion rate on all of the loans made by Mr. Koretsky, CLS CO 2016, LLC and Newcan was reduced, if applicable, to $0.25 per share and Mr. Koretsky and his affiliates gave up the right to receive warrants upon conversion. Thus, each of Mr. Koretsky, CLS CO 2016, LLC and Newcan received 4,560,849, 488,159 and 1,433,841 shares of Common Stock in excess of what they would have received had they converted their loans into Common Stock prior to the effective date of the Omnibus Loan Amendment Agreement.
Between June 1, 2017 and May 31, 2018, we borrowed an aggregate of $145,000 from Newcan Investment Partners, LLC, an entity that is affiliated with Mr. Koretsky. These loans were unsecured, accrued interest at 10% per year, were due either on demand or within three years after the date of the applicable note, and were convertible into shares of our Common Stock and warrants at $0.25 per share. On January 10, 2018, effective December 1, 2017, we entered into the Second Omnibus Loan Agreement with Newcan and Mr. Binder. The Second Omnibus Loan Agreement provides that the conversion price of all outstanding convertible promissory notes issued to Newcan as of the date of the agreement would be increased from $0.25 to $0.3125 per share of Common Stock. The remaining terms of such notes remain unchanged. Following the Second Omnibus Loan Agreement, on March 12, 2018, Newcan converted all of its outstanding convertible loans, which totaled $956,658 in principal and $98,098 in accrued interest, into a total of 3,375,220 shares of our Common Stock.
On August 6, 2018, we issued a convertible promissory note to Newcan, an entity owned by Frank Koretsky, a director of the Company, in the amount of $75,000 (the “Newcan Convertible Note 8”), to finalize the terms of repayment with respect to a certain loan made to the Company by Newcan on May 4, 2018, which was converted into 196,336 shares of Common Stock on October 23, 2018.
Binder Notes
Between June 1, 2015 and May 31, 2017, we borrowed an aggregate of $251,800 from Jeffrey Binder, a director and officer of the Company. These loans were unsecured, accrued interest between 6% and 10% per year, were due either on demand or within three years after the date of the applicable note, and, in some cases, were convertible into shares of our Common Stock and warrants at rates between $.25 and 1.07 per share. Effective on May 31, 2017, we entered into the Omnibus Loan Amendment Agreement, whereby the portion of these loans that was advanced prior to May 31, 2017 was converted into our Common Stock, together with accrued interest on these loans. As a result of these conversions, Mr. Binder converted an aggregate of $442,750 in principal and $19,427 in accrued interest, into an aggregate of 1,848,708 shares of Common Stock at $.25 per share. Pursuant to the Omnibus Loan Amendment Agreement, the conversion rate on all of the loans made by Mr. Binder was reduced, if applicable, to $.25 per share and Mr. Binder gave up the right to receive warrants upon conversion. Thus, Mr. Binder received 1,127,061 shares of Common Stock in excess of what he would have received had he converted his loans into Common Stock prior to the effective date of the Omnibus Loan Amendment Agreement.
Between June 1, 2017 and March 31, 2018, we borrowed an aggregate of $204,881 from Mr. Binder. These loans were unsecured, accrued interest at 10% per year, were due either on demand or within three years after the date of the applicable note, and were convertible into shares of our Common Stock and warrants at $0.25 per share. On January 10, 2018, effective December 1, 2017, we entered into the Second Omnibus Loan Agreement with Newcan and Mr. Binder. The Second Omnibus Loan Agreement provides that the conversion price of all outstanding convertible promissory notes issued to Mr. Binder as of the date of the agreement would be increased from $0.25 to $0.3125 per share of Common Stock. The remaining terms of such notes remain unchanged. Following the Second Omnibus Loan Agreement, on March 12, 2018, Mr. Binder converted all of his outstanding convertible loans, which totaled $464,698 in principal and $43,058 in accrued interest, into a total of 1,624,819 shares of our Common Stock.
On April 6, 2018, we issued Binder Convertible Note 9, in the amount of $37,500, to Mr. Binder with respect to certain compensation payable to Mr. Binder as of February 28, 2018, which was repaid in full on August 7, 2018.
Omnibus Loan Amendment Agreements
On May 31, 2017, we entered into an Omnibus Loan Amendment Agreement (the “Omnibus Loan Amendment”) with Jeffrey Binder, Frank Koretsky, Newcan Investment Partners LLC and CLS CO 2016, LLC (collectively, the “Insiders”). Pursuant to the Omnibus Loan Amendment, we agreed with the Insiders to amend certain terms of loans the Insiders made to us for working capital purposes, which loans were initially demand loans, and, except for certain loans made in 2017, were later memorialized as convertible loans (the “Insider Loans”), in exchange for the agreement of the Insiders to convert all Insider Loans where funds were advanced prior to January 1, 2017, which total $2,537,750, plus $166,490 of accrued interest thereon, into an aggregate of 10,816,960 shares of our Common Stock, and forego the issuance of warrants to purchase our Common Stock upon conversion. This resulted in the issuance of an additional 7,609,910 shares compared to the original number of shares issuable upon conversion of the Insider Loans prior to the Omnibus Loan Agreement. We valued the shares at $0.125, which was the market price of our stock at the conversion date, and charged the amount of $951,239 to loss on modification of debt during the twelve months ended May 31, 2017.
We entered into the Omnibus Loan Amendment in order to ease the debt burden on us and prevent us from defaulting on the Insider Loans. Pursuant to the Omnibus Loan Amendment, the following amendments were made to the Insider Loans: (a) we reduced the conversion price on the Insider Loans from between $0.75 and $1.07 per share of Common Stock to $0.25 per share of Common Stock, in those cases where the conversion price was greater than $0.25, which reduced conversion price exceeds the closing price of the Common Stock during the last three months; (b) we deleted the requirement to issue warrants to purchase our Common Stock upon conversion of the Insider Loans; (c) we amended one Insider Loan to permit conversion of only the portion of the Insider Loan related to services that were provided to us prior to January 1, 2017; and (d) we amended the terms of the Insider Loans where funds were advanced on or after January 1, 2017, which Insider Loans were not converted into our Common Stock, to provide for, where not already the case, a 10% interest rate per annum, a $0.25 conversion price per share of Common Stock, and the deletion of the requirement that we issue warrants to purchase our Common Stock upon conversion of such Insider Loans.
On January 10, 2018, effective December 1, 2017, we entered into the Second Omnibus Loan Agreement with Jeffrey I. Binder, an officer and director of the Company, and Newcan, an entity owned by Frank Koretsky, a director of the Company. The Second Omnibus Loan Agreement provides that the conversion price of all outstanding convertible promissory notes issued to either Mr. Binder or Newcan as of the date of such agreement would be increased from $0.25 to $0.3125 per share of Common Stock. The remaining terms of such notes remain unchanged.
Sales of Equity
The Canaccord Special Warrant Offering
On June 20, 2018, we executed an agency agreement with Canaccord Genuity Corp. and closed on a private offering of our Special Warrants for aggregate gross proceeds of CD$13,037,859 (USD$9,785,978). In connection therewith, we also entered into a Special Warrant Indenture and a Warrant Indenture with Odyssey Trust Company, as special warrant agent and warrant agent.
Pursuant to the offering, we issued 28,973,014 special warrants at a price of CD$0.45 (USD$0.34) per Special Warrant. Each Special Warrant was automatically exercised, for no additional consideration, into Units on November 30, 2018.
Each Unit consisted of one Unit Share and one Warrant to purchase one share of Common Stock. Each Warrant was to be exercisable at a price of CD$0.65 for three years after our Common Stock was listed on a recognized Canadian stock exchange, subject to adjustment in certain events. Because we did not receive a receipt from the applicable Canadian securities authorities for the qualifying prospectus by August 20, 2018, each Special Warrant entitled the holder to receive 1.1 Units (instead of one (1) Unit); provided, however, that any fractional entitlement to Penalty Units was rounded down to the nearest whole Penalty Unit. All Special Warrants were automatically exercised on November 30, 2018.
In connection with the Special Warrant Offering, we paid a cash commission and other fees equal to CD$1,413,267 (USD$1,060,773), a corporate finance fee equal to 1,448,651 Special Warrants with a fair value of USD$1,413,300, and 2,317,842 Broker Warrants. Each Broker Warrant entitles the holder thereof to acquire one unit at a price of CD$0.45 per unit for a period of 36 months from the date that our Common Stock is listed on a recognized Canadian stock exchange, subject to adjustment in certain events. Our Common Stock commenced trading on the Canadian Stock Exchange on January 7, 2019. During the six months ended November 30, 2018, we also issued investors 3,042,167 Special Warrants with a fair value of $7,142,550 as a penalty for failure to timely effect a Canadian prospectus with regard to the securities underlying the Special Warrants.
The Navy Capital Investors
Effective July 31, 2018, we entered into a subscription agreement with Navy Capital Green International, Ltd., a British Virgin Islands limited company (“Navy Capital”), pursuant to which we agreed to sell to Navy Capital, for a purchase price of $3,000,000, 7,500,000 Units ($0.40 per unit), representing (i) 7,500,000 shares of our Common Stock, and (ii) three-year warrants to purchase an aggregate of 7,500,000 shares of our Common Stock (the “Navy Warrant Shares”) at an exercise price of $0.60 per share of Common Stock. We valued the warrants using the Black-Scholes valuation model, and allocated gross proceeds in the amount of $1,913,992 to the common stock and $1,086,008 to the warrants. The closing occurred on August 6, 2018. In the subscription agreement, we also agreed to file, on or before November 1, 2018, a registration statement with the SEC registering the shares of Common Stock and Navy Warrant Shares issued to Navy Capital. If we fail to file the registration statement on or before that date, we must issue to Navy Capital an additional number of units equal to ten percent (10%) of the units originally subscribed for by Navy Capital (which will include additional warrants at the original exercise price). The warrant is exercisable from time to time, in whole or in part for three years. The warrant has anti-dilution provisions that provide for an adjustment to the exercise price in the event of a future sale of Common Stock at a lower price, subject to certain exceptions as set forth in the warrant. The warrant also provides that it is callable at any time after the bid price of our Common Stock exceeds 120% of the exercise price of the warrant for a period of 20 consecutive business days.
Between August 8, 2018 and August 10, 2018, we entered into five subscription agreements, pursuant to which we sold, for an aggregate purchase price of $2,750,000, 6,875,000 Units ($0.40 per unit), representing (i) 6,875,000 shares of our Common Stock, and (ii) three-year warrants to purchase an aggregate of 6,875,000 shares of our Common Stock at an exercise price of $0.60 per share of Common Stock. We valued the warrants using the Black-Scholes valuation model, and allocated gross proceeds in the amount of $1,670,650 to the common stock and $1,079,350 to the warrants. The balance of the terms set forth in the subscription agreements are the same as the terms in the Navy Capital subscription agreement summarized above.
The Company valued warrants using the Black-Scholes valuation model utilizing the following variables:
November 30, |
November 30, |
|||||||
2019 |
2018 |
|||||||
Volatility |
134.8 to 144.7 |
% |
231.1-232.2 |
% |
||||
Dividends |
$ | 0 | $ | 0 | ||||
Risk-free interest rates |
1.86% to 1.87 |
% |
2.65% to 2.67 |
% |
||||
Term (years) |
3 | 3 |
Liquidity and Capital Needs
During fiscal 2020, we will likely require additional capital to cover our projected corporate level cash flow deficits, the implementation of our business plan, including the expansion of our Nevada operation, and the development of other revenue sources, including the closing of the IGH Option Agreement.
During the next twelve months we expect to expand our Nevada processing facility to utilize our patented technology. Phase 2 of our expansion plan, the substantial expansion of our grow facility in Nevada, is on hold as we monitor and evaluate wholesale marijuana prices, supply, and demand. We hold an option to purchase IGH for a purchase price that includes $35 million in cash, which we plan to fund with the proceeds of future equity sales, warrant exercise proceeds and/or loans. Although we believe we will be successful in raising the capital required to close this acquisition, we have not entered into any definitive agreements with respect to such fundraising and there can be no assurances that we will be able to raise the necessary funds. We may also pursue additional acquisitions in the next twelve months but we have not entered into any definitive agreements with respect to either additional acquisitions or the capital necessary to finance them.
Although our revenues are expected to grow as we expand our operations, our revenues only recently exceeded our Oasis and City Trees operating costs and we do not yet exceed our Oasis and City Trees operating costs and corporate overhead. Although we believe we have funds sufficient to sustain our operations at their current level, if we require additional cash, we expect to obtain the necessary funds as described above; however, our prospects must be considered in light of the risks, expenses and difficulties frequently encountered by companies in their early stage of operations. To address these risks, we must, among other things, seek growth opportunities through additional debt and/or equity investments and acquisitions in our industry, successfully execute our business strategy, including our planned expansion and acquisitions, and successfully navigate any changes that may arise in the cannabis regulatory environment. We cannot assure that we will be successful in addressing such risks, and the failure to do so could have a material adverse effect on our business prospects, financial condition and results of operations.
Oasis Cannabis Transaction
On December 4, 2017, we entered into the Acquisition Agreement, with Alternative Solutions for us to acquire all of the outstanding equity interests in Alternative Solutions and the Oasis LLCs. Pursuant to the Acquisition Agreement, we paid a non-refundable deposit of $250,000 upon signing, which was followed by an additional payment of $1,800,000 approximately 45 days thereafter and were to receive, upon receipt of applicable regulatory approvals, an initial 10% of each of the Oasis LLCs. Regulatory approvals were received and the 10% membership interests were transferred to us.
On June 27, 2018, we closed on the purchase of the remaining 90% of the membership interests in Alternative Solutions and the Oasis LLCs from the owners thereof (excluding Alternative Solutions). The closing consideration was as follows: $5,995,543 in cash, a $4.0 million promissory note due in December 2019, known as the Oasis Note, and $6,000,000 in shares of our Common Stock. The cash payment of $5,995,543 was less than the $6,200,000 payment originally contemplated because the Company assumed an additional $204,457 of liabilities.
The number of shares to be issued was computed as follows: $6,000,000 divided by the lower of $1.00 or the conversion price to receive one share of our Common Stock in our first equity offering of a certain minimum size that commenced in 2018, multiplied by 80%. This price was determined to be $0.272 per share. The Oasis Note was secured by a first priority security interest over our membership interests in Alternative Solutions and the Oasis LLCs, and by the assets of each of the Oasis LLCs and Alternative Solutions. We also delivered a confession of judgment to a representative of the former owners of Alternative Solutions and the Oasis LLCs (other than Alternative Solutions) that will generally become effective in the event of any event of default under the Oasis Note or failure to pay certain other amounts when due. We repaid the Oasis Note in full in December 2019.
At the time of closing of the Acquisition Agreement, Alternative Solutions owed certain amounts to a consultant known as 4Front Advisors, which amount was in dispute. In August 2019, we made a payment to this company to settle this dispute and the Oasis Note was reduced accordingly.
In May 2020, the former owners of Alternative Solutions and the Oasis LLCs (other than Alternative Solutions) will also be entitled to a $1,000,000 payment from us if the existing dispensary operated by an Oasis LLC has maintained an average revenue of $20,000 per day during the 2019 calendar year.
The transfer of 90% of the membership interests in Alternative Solutions and the Oasis LLCs to us was approved by the State of Nevada on December 12, 2018.
Consulting Agreements
We periodically use the services of outside investor relations consultants. During the year ended May 31, 2016, pursuant to a consulting agreement, we agreed to issue 10,000 shares of Common Stock per month, valued at $11,600 per month, to a consultant in exchange for investor relations consulting services. The consulting agreement was terminated during the first month of its term. The parties are in discussions regarding whether any shares of our Common Stock have been earned and it is uncertain whether any shares will be issued. As of November 30, 2018, we have included 20,000 shares of Common Stock, valued at $23,200 in stock payable on the accompanying balance sheets. The shares were valued based on the closing market price on the grant date.
On December 29, 2015, pursuant to a consulting agreement, we agreed to issue 25,000 shares of Common Stock per month, valued at $21,250, to a consultant in exchange for investor relations consulting services. The consulting agreement was terminated during the first month of its term. The parties are in discussions regarding whether any shares of our Common Stock have been earned and it is uncertain whether any shares will be issued. As of November 30, 2018, we had 50,000 shares of Common Stock, valued at $42,500 included in stock payable on the accompanying balance sheet. The shares were valued based on the closing market price on the grant date.
On July 24, 2018, we issued 700,000 shares of Common Stock with a fair value of $490,000 to Star Associates for services in connection with the Oasis acquisition. Star Associates is controlled by Andrew Glashow, a director (and current officer) of the Company.
On September 11, 2018, the Company issued 31,250 shares of common stock with a fair value of $25,310 in exchange for legal services previously rendered to the Company. These shares were accrued on February 8, 2018, and were issued from stock payable.
On August 16, 2019, we amended a consulting agreement whereby we agreed to issue up to 200,000 shares of common stock with a fair value of $45,000 plus pay certain amounts in exchange for the consultant’s development for us of a corporate finance and investor relations campaign, which services will be provided over a six month period. The amount of $22,500 and $30,000 was charged to operations during the three and six months ended November 30, 2019, respectively, in connection with this agreement.