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GROWLIFE, INC. - Quarter Report: 2020 September (Form 10-Q)

 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 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 September 30, 2020
OR
 
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from _______ to _______
 
Commission file number 000-50385
GrowLife, Inc. 
(Exact name of registrant as specified in its charter)
 
Delaware
(State or other jurisdiction of
incorporation or organization)
90-0821083
(I.R.S. Employer Identification No.)
 
5400 Carillon Point
Kirkland, WA 98033
(Address of principal executive offices and zip code)
 
(866) 781-5559
 (Registrant’s telephone number, including area code)
 
Securities registered pursuant to Section 12(b) of the Act: None
 
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 ☐ 
 
CURRENT REQ BY SEC. 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, 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
 
Large accelerated filer
Accelerated filer
Non-accelerated filer (Do not check if a smaller reporting company)
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 by Rule 12b-2 of the Exchange Act). Yes ☐ No ☒
 
As of November 13, 2020, there were 44,715,790 shares of the issuer’s common stock, $0.0001 par value per share, outstanding.
 


 
 
TABLE OF CONTENTS
 
 
 
Page Number
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 44
 
 48
 
 
 
 
 
 
 
 
 
2
 
 
ITEM 1.        
FINANCIAL STATEMENTS
 
GROWLIFE, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS 
 
 
 
September 30,
2020
 
 
December 31,
2019
 
ASSETS
 
 
 
 
 (Audited)
 
 
 
 
 
 
 
 
CURRENT ASSETS:
 
 
 
 
 
 
Cash and cash equivalents
 $634,664 
 $40,834 
Accounts receivable - trade, net of allowance for doubtful accounts of $5,690 as of 9/30/2020 and 12/31/2019
  326,792 
  101,806 
Inventory, net
  675,063 
  600,674 
Deposits
  18,995 
  18,995 
Total current assets
  1,655,514 
  762,309 
 
    
    
PROPERTY AND EQUIPMENT, NET
  138,618 
  166,482 
INTANGIBLE ASSETS, NET
  1,298,647 
  1,802,434 
GOODWILL
  781,749 
  781,749 
OPERATING LEASE RIGHT OF USE ASSET
  422,205 
  537,522 
TOTAL ASSETS
 $4,296,733 
 $4,050,496 
 
    
    
LIABILITIES AND STOCKHOLDERS' (DEFICIT)
    
    
 
    
    
CURRENT LIABILITIES:
    
    
Accounts payable - trade
 $1,038,597 
 $1,157,090 
Accrued expenses
  290,891 
  259,093 
Accrued expenses - related parties
  97,061 
  31,485 
Derivative liability
  1,329,089 
  1,300,915 
Convertible notes payable
  2,786,632 
  2,884,279 
Notes payable, current portion
  941,557 
  104,144 
Acquisition of EZ-CLONE Enterprises, Inc. payable in cash
  1,026,000 
  1,026,000 
Current portion of operating lease right of use liability
  140,772 
  140,772 
Total current liabilities
  7,650,599 
  6,903,778 
 
    
    
LONG TERM LIABILITIES:
    
    
Deferred tax liability
  382,037 
  470,200 
Notes payable, less current portion
  398,679 
  - 
Long term acquisition of EZ-CLONE Enterprises, Inc. payable in common stock
  1,105,000 
  900,000 
Non-current portion of operating lease right of use liability
  305,155 
  410,734 
Total long term liabilities
  2,190,871 
  1,780,934 
 
    
    
COMMITMENTS AND CONTINGENCIES (Note 15)
  - 
  - 
 
    
    
STOCKHOLDERS' DEFICIT
    
    
Preferred stock - $0.0001 par value, 10,000,000 shares authorized, no shares
    
    
 issued and outstanding at 9/30/2020 and 12/31/2019, respectively
  - 
  - 
Common stock - $0.0001 par value, 120,000,000 shares authorized, 38,905,790 and 28,677,147
    
    
shares issued and outstanding at 9/30/2020 and 12/31/2019, respectively
  387,293 
  386,269 
Additional paid in capital
  145,495,095 
  143,441,047 
Accumulated deficit
  (151,427,125)
  (148,461,532)
Total stockholders' deficit
  (5,544,737)
  (4,634,216)
 
    
    
TOTAL LIABILITIES AND STOCKHOLDERS' DEFICIT
 $4,296,733 
 $4,050,496 
 
The accompanying notes are an integral part of these consolidated financial statements.
 
 
3
 
 
GROWLIFE, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
 
 
 
Three Months Ended,
 
 
Nine Months Ended,
 
 
 
September 30,
2020
 
 
September 30,
2019
 
 
September 30,
2020
 
 
September 30,
2019
 
 
 
 
 
 
 
 
 
 
 
 
 
 
NET REVENUE
 $1,415,999 
 $2,298,792 
 $4,927,636 
 $6,743,804 
COST OF GOODS SOLD
  919,421 
  1,552,892 
  3,049,782 
  4,551,223 
GROSS PROFIT
  496,578 
  745,900 
  1,877,854 
  2,192,581 
GENERAL AND ADMINISTRATIVE EXPENSES
  1,249,077 
  2,366,085 
  3,741,325 
  6,548,810 
OPERATING LOSS
  (752,499)
  (1,620,185)
  (1,863,471)
  (4,356,229)
 
    
    
    
    
OTHER INCOME (EXPENSE):
    
    
    
    
Change in fair value of derivative
  130,268 
  (147,331)
  (28,174)
  361,179 
Interest expense, net
  (324,752)
  (182,323)
  (765,999)
  (409,666)
Loss on debt conversions
  (143,799)
  (132,131)
  (435,111)
  (1,706,740)
Gain on extinguishment of debt
  - 
  - 
  39,000 
  - 
Total other expense, net
  (338,283)
  (461,785)
  (1,190,284)
  (1,755,227)
 
    
    
    
    
LOSS BEFORE INCOME TAXES
  (1,090,782)
  (2,081,970)
  (3,053,755)
  (6,111,456)
 
    
    
    
    
Income taxes - current benefit
  29,388 
  - 
  88,163 
  - 
 
    
    
    
    
NET LOSS
  (1,061,394)
  (2,081,970)
  (2,965,592)
  (6,111,456)
 
    
    
    
    
Net loss attrituable to noncontrolling interest in EZ-CLONE Enterprises, Inc.
  - 
  82,219 
  - 
  88,938 
 
    
    
    
    
NET LOSS ATTRIBUTABLE TO GROWLIFE, INC. AND SUBSIDIARIES
 $(1,061,394)
 $(1,999,751)
 $(2,965,592)
 $(6,022,518)
COMMON SHAREHOLDERS
    
    
    
    
 
    
    
    
    
Basic and diluted loss per share
 $(0.03)
 $(0.08)
 $(0.08)
 $(0.25)
 
    
    
    
    
Weighted average shares of common stock outstanding- basic and diluted
  36,670,186 
  25,408,052 
  36,385,060 
  24,664,128 
 
The accompanying notes are an integral part of these consolidated financial statements.
 
 
4
 
 
GROWLIFE, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' DEFICIT
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Total
 
 
 
 Common Stock
 
 
 Additional Paid
 
 
 Accumulated
 
 
 Stockholders'
 
 
 
 Shares
 
 
 Amount
 
 
 in Capital
 
 
 Deficit
 
 
 (Deficit)
 
Balance as of January 1, 2019
  22,917,327 
 $343,749 
 $139,331,067 
 $(141,176,087)
 $(1,501,271)
Stock based compensation for stock options
  - 
  - 
  16,016 
  - 
  16,016 
Stock based compensation for warrants
  - 
  - 
  24,000 
  - 
  24,000 
Shares issued for debt conversion
  - 
  - 
  - 
  - 
  - 
Shares issued for services rendered
  139,441 
  2,092 
  163,308 
  - 
  165,400 
Shares issued for convertible note and interest conversion
  561,041 
  8,416 
  726,731 
  - 
  735,147 
Shares issued for purchase of warrant
  833,333 
  12,500 
  987,500 
  - 
  1,000,000 
Noncontrolling interest in EZ-Clone Enterprises, Inc.
  - 
  - 
  - 
  (25,528)
  (25,528)
Net loss for the three months ended March 31, 2019
  - 
  - 
  - 
  (2,338,325)
  (2,338,325)
Balance as of March 31, 2019
  24,451,143 
  366,757 
  141,248,622 
  (143,539,940)
  (1,924,561)
Stock based compensation for stock options
  - 
  - 
  16,231 
  - 
  16,231 
Stock based compensation for warrants
  - 
  - 
  24,000 
  - 
  24,000 
Shares issued for services rendered
  8,448 
  126 
  8,908 
  - 
  9,034 
Shares issued for convertible note and interest conversion
  579,078 
  8,685 
  589,413 
  - 
  598,098 
Warrant exercise
  26,111 
  392 
  (392)
  - 
  - 
Noncontrolling interest in EZ-Clone Enterprises, Inc.
  - 
  - 
  - 
  32,247 
  32,247 
Net loss for the three months ended June 30, 2019
  - 
  - 
  - 
  (1,690,941)
  (1,690,941)
Balance as of June 30, 2019
  25,064,781 
  375,960 
  141,886,782 
  (145,198,634)
  (2,935,892)
Stock based compensation for stock options
  - 
  - 
  16,356 
  - 
  16,356 
Stock based compensation for warrants
  - 
  - 
  24,000 
  - 
  24,000 
Shares issued for convertible note and interest conversion
  623,140 
  9,347 
  422,784 
  - 
  432,131 
Shares issued for convertible note and commitment shares
  33,333 
  500 
  24,500 
  - 
  25,000 
Noncontrolling interest in EZ-Clone Enterprises, Inc.
  - 
  - 
  - 
  81,999 
  81,999 
Net loss for the three months ended September 30, 2019
  - 
  - 
  - 
  (2,081,970)
  (2,081,970)
 
    
    
    
    
    
Balance as of September 30, 2019
  25,721,254 
 $385,807 
 $142,374,422 
 $(147,198,605)
 $(4,438,376)
 
    
    
    
    
    
Balance as of January 1, 2020
  28,677,147 
 $386,269 
 $143,441,047 
 $(148,461,532)
 $(4,634,216)
Stock based compensation for stock options
  - 
  - 
  13,439 
  - 
  13,439 
Stock based compensation for warrants
  - 
  - 
  24,000 
  - 
  24,000 
Shares issued for convertible note and interest conversion
  605,294 
  61 
  149,510 
  - 
  149,571 
Warrant exercise
  146 
  - 
  460 
  - 
  460 
Fractional shares issued related to reverse stock split
  15 
  - 
  - 
  - 
  - 
Net loss for the three months ended March 31, 2020
  - 
  - 
  - 
  (1,293,675)
  (1,293,675)
Balance as of March 31, 2020
  29,282,602 
  386,330 
  143,628,456 
  (149,755,207)
  (5,740,421)
Stock based compensation for stock options
  - 
  - 
  13,439 
  - 
  13,439 
Stock based compensation for warrants
  - 
  - 
  24,000 
  - 
  24,000 
Shares issued for services rendered
  40,000 
  4 
  11,797 
  - 
  11,801 
Shares issued for convertible note and interest conversion
  3,991,108 
  400 
  835,007 
  - 
  835,407 
Warrant exercise
  8 
  - 
  25 
  - 
  25 
Net loss for the three months ended June 30, 2020
  - 
  - 
  - 
  (610,524)
  (610,524)
Balance as of June 30, 2020
  33,313,718 
  386,734 
  144,512,724 
  (150,365,731)
  (5,466,273)
Stock based compensation for stock options
  - 
  - 
  12,708 
  - 
  12,708 
Stock based compensation for warrants
  - 
  - 
  24,000 
  - 
  24,000 
Shares issued for convertible note and interest conversion
  5,592,072 
  559 
  945,664 
  - 
  946,223 
Net loss for the three months ended September 30, 2020
  - 
  - 
  - 
  (1,061,394)
  (1,061,394)
Balance as of September 30, 2020
  38,905,790 
 $387,293 
 $145,495,096 
 $(151,427,125)
 $(5,544,737)
 
The accompanying notes are an integral part of these consolidated financial statements.
 
 
5
 
 
GROWLIFE, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
 
 
 
Nine Months Ended,
 
 
 
September 30,
2020
 
 
September 30,
2019
 
 
 
 
 
 
 
 
CASH FLOWS FROM OPERATING ACTIVITIES:
 
 
 
 
 
 
Net loss
 $(2,965,592)
 $(6,022,518)
Adjustments to reconcile net loss to net cash (used in)
    
    
operating activities
    
    
Depreciation
  27,864 
  68,655 
Restructuring Expense - stores & flooring
  - 
  555,895 
Amortization of intangible assets
  503,787 
  855,771 
Stock based compensation
  111,586 
  120,603 
Common stock issued for services
  11,801 
  174,435 
Non cash interest and amortization of debt discount
  793,970 
  185,032 
Change in fair value of derivative liability
  28,174 
  (361,179)
Loss on debt conversions
  396,110 
  1,706,740 
Noncontrolling interest in EZ-CLONE Enterprises, Inc.
  - 
  88,938 
Changes in operating assets and liabilities:
    
    
Accounts receivable
  (224,986)
  (409,575)
Inventory
  (74,389)
  86,982 
Prepaids costs
  - 
  (37,459)
Deposits
  - 
  8,500 
Right of use, net
  9,738 
  9,738 
Accounts payable
  (79,494)
  336,010 
Accrued expenses
  97,766 
  110,811 
Deferred revenue
  - 
  (89,504)
Change in deferred taxes
  (88,163)
  - 
 CASH (USED IN) OPERATING ACTIVITIES
  (1,451,828)
  (2,612,125)
 
    
    
CASH FLOWS FROM INVESTING ACTIVITIES:
    
    
Investment in purchased assets
  - 
  (5,319)
NET CASH (USED IN) INVESTING ACTIVITIES:
  - 
  (5,319)
 
    
    
CASH FLOWS FROM FINANCING ACTIVITIES:
    
    
Repayment of convertible notes payable
  (167,846)
  (659,205)
Proceeds from Crossover Capital Fund I LLC Secured Advance Note
  - 
  250,000 
Proceeds from notes payable
  2,213,019 
  900,637 
Repayment on capital lease
  - 
  (7,293)
Proceeds from the issuance of common stock
  485 
  - 
NET CASH PROVIDED BY FINANCING ACTIVITIES
  2,045,658 
  484,139 
 
    
    
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
  593,830 
  (2,133,305)
 
    
    
CASH AND CASH EQUIVALENTS, beginning of period
  40,834 
  2,334,377 
 
    
    
CASH AND CASH EQUIVALENTS, end of period
 $634,664 
 $201,072 
 
    
    
Supplemental disclosures of cash flow information:
    
    
 
    
    
Non-cash investing and financing activities:
    
    
Shares issued for convertible note and interest conversion
 $1,049,506 
 $745,000 
Issuance of shares for issuance costs
 $349,020 
 $- 
Shares issued for purchase of warrant from CANX USA LLC
 $- 
 $1,000,000 
 
The accompanying notes are an integral part of these consolidated financial statements.
 
 
6
 
 
GROWLIFE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 
The accompanying unaudited consolidated condensed financial statements have been prepared by GrowLife, Inc. (“the Company”, “us,” “we,” or “our”) in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial reporting and rules and regulations of the Securities and Exchange Commission. Accordingly, certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted. In the opinion of our management, all adjustments, consisting of only normal recurring accruals, necessary for a fair presentation of the financial position, results of operations, and cash flows for the fiscal periods presented have been included.
 
These financial statements should be read in conjunction with the audited financial statements and related notes included in our Annual Report filed on Form 10-K for the year ended December 31, 2019, filed with the Securities and Exchange Commission (“SEC”) on April 1, 2020. The results of operations for the three or nine months ended September 30, 2020 are not necessarily indicative of the results expected for the full fiscal year, or for any other fiscal period. 
 
NOTE 1 – DESCRIPTION OF BUSINESS AND ORGANIZATION
 
GrowLife, Inc. (“GrowLife” or the “Company”) is incorporated under the laws of the State of Delaware and is headquartered in Kirkland, Washington. The Company was founded in 2012 with the Closing of the Agreement and Plan of Merger with SGT Merger Corporation.
 
On June 7, 2013, GrowLife Hydroponics completed the purchase of Rocky Mountain Hydroponics, LLC, a Colorado limited liability company (“RMC”), and Evergreen Garden Center, LLC, a Maine limited liability company (“EGC”). The effective date of the purchase was June 7, 2013. This is our commercial business.
 
The Company primarily sells its products through its wholly owned subsidiary, GrowLife Hydroponics, Inc. GrowLife companies distribute and sell over products through its e-commerce distribution channels, www.shopgrowlife.com, www.growlifeinc.com, and www.greners.com, and through its direct sales force. GrowLife and its business units are organized and directed to operate strictly in accordance with all applicable state and federal laws.
 
On October 15, 2018, the Company closed the Purchase and Sale Agreement with EZ-CLONE Enterprises, Inc., a California corporation (the “Agreement”).  On November 5, 2019, the Company amended the Agreement with one 24.5% shareholder of EZ-CLONE Enterprises, Inc. (“EZ-CLONE”), to extend the date to purchase the remaining 49% of stock of EZ-CLONE in exchange for a 20% extension fee (a total of $171,000 for the 49% or $85,500 for each 24.5% shareholder) of the $855,000 cash payable at the earlier of the closing of $2,000,000 in funding or nine months (July 2020). The Company did not close the purchase of the remaining 49% of stock of EZ-CLONE by the extended deadline.
 
On September 15, 2020, the Company received notice that William Blackburn and Brad Mickelsen (“Plaintiffs”), minority shareholders of EZ-CLONE Enterprises, Inc., a majority owned subsidiary of the Company, filed a complaint against the Company and its officers Marco Hegyi and Mark Scott (“Officers”), in the Superior Court of California, County of Sacramento (“Complaint”) for claims related to breach under the Purchase and Sale Agreement dated October 15, 2018 between the Company and Plaintiffs. See Note 17 for description of Legal Proceedings.
 
As of September 30, 2020, the Company has recorded a liability of $2,131,000 for acquisition payable of which a $1,105,000 is payable in stock and $1,026,000 is payable in cash.
 
As of March 4, 2019, the Company began to trade on the Pink Sheet stocks system. Our bid price had closed below $0.01 for more than 30 consecutive calendar days. As of March 17, 2020, the Company commenced trading on the OTCQB Market ("OTCQB") after successfully up-listing from the OTC Pink Market.
 
On October 9, 2019, the Company approved the reduction of authorized capital stock, whereby the total number of the Company’s authorized common stock decreased from 6,000,000,000 by a ratio of 1 for 50, to 120,000,000 shares. On November 20, 2019, the Company filed a Certificate of Amendment of Certificate of Incorporation with the Secretary of State of the State of Delaware. As a result of the reduction, the Company an aggregate 130,000,000 authorized shares consisting of: (i) 120,000,000 shares of common stock, par value $0.0001 per share, and (ii) 10,000,000 shares of preferred stock, par value $0.0001 per share.
 
The reverse stock split of 1 for 150 was effective at the open of business on November 27, 2019 whereupon the shares of common stock began trading on a split-adjusted basis. The Company’s CUSIP number for the Company’s common stock changed to 39985X203. All warrant, option, share and per share information in this Form 10-Q gives retroactive effect to the 1-for-150 reverse split with all numbers rounded up to the nearest whole share.
 
 
7
 
 
NOTE 2 GOING CONCERN
 
The accompanying financial statements have been prepared on a going concern basis, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. The Company incurred net losses of $2,860,592 and $7,374,383 and $11,473,136 for the nine months ended September 30, 2020 and the years ended December 31, 2019 and 2018, respectively. Net cash used in operating activities was $1,451,828, $2,909,811 and $3,854,505 for the nine months ended September 30, 2020 and the years ended December 31, 2019 and 2018, respectively.
 
The Company anticipates that it will record losses from operations for the foreseeable future. As of September 30, 2020, the Company’s accumulated deficit was $151,322,125. The Company has limited capital resources, and operations to date have been funded with the proceeds from private equity and debt financings. These conditions raise substantial doubt about our ability to continue as a going concern. The audit report prepared by the Company’s independent registered public accounting firm relating to our consolidated financial statements for the year ended December 31, 2019 includes an explanatory paragraph expressing the substantial doubt about the Company’s ability to continue as a going concern.
 
The Company believes that its cash on hand will be sufficient to fund our operations only until December 31, 2020. The Company needs additional financing to implement our business plan and to service our ongoing operations and pay our current debts. There can be no assurance that we will be able to secure any needed funding, or that if such funding is available, the terms or conditions would be acceptable to us. If we are unable to obtain additional financing when it is needed, we will need to restructure our operations, and divest all or a portion of our business. We may seek additional capital through a combination of private and public equity offerings, debt financings and strategic collaborations. Debt financing, if obtained, may involve agreements that include covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, and could increase our expenses and require that our assets secure such debt. Equity financing, if obtained, could result in dilution to the Company’s then-existing stockholders and/or require such stockholders to waive certain rights and preferences. If such financing is not available on satisfactory terms, or is not available at all, the Company may be required to delay, scale back, eliminate the development of business opportunities and our operations and financial condition may be materially adversely affected.
 
NOTE 3 – SIGNIFICANT ACCOUNTING POLICIES: ADOPTION OF ACCOUNTING STANDARDS
 
Basis of Presentation - The accompanying consolidated financial statements include the accounts of the Company. Intercompany accounts and transactions have been eliminated. The preparation of these consolidated financial statements in conformity with U.S. generally accepted accounting principles (“GAAP”).
 
Principles of Consolidation - The consolidated financial statements include the accounts of the Company and its wholly owned and majority-owned subsidiaries. Inter-Company items and transactions have been eliminated in consolidation. Non-controlling interest represents the portion of ownership which the Company does not own.
 
Cash and Cash Equivalents - We classify highly liquid temporary investments with an original maturity of three months or less when purchased as cash equivalents. The Company maintains cash balances at various financial institutions. Balances at US banks are insured by the Federal Deposit Insurance Corporation up to $250,000. The Company has not experienced any losses in such accounts and believes it is not exposed to any significant risk for cash on deposit.  At September 30, 2020, the Company had uninsured deposits in the amount of $384,664.
 
Accounts Receivable and Revenue – The company recognizes revenue in accordance with ASC Topic 606, Revenue from Contracts with Customers, which requires the application of the five-step-principles-based-accounting-model for revenue recognition. These steps include (1) a legally enforceable contract, written or unwritten is identified; (2) performance obligations in the contracts are identified; (3) the transaction price reflecting variable consideration, if any, is identified; (4) the transaction price is allocated to the performance obligations; and (5) revenue is recognized when the control of goods is transferred to the customer at a particular time or over time. Our hydroponic sales are cash or credit card. Our EZ-CLONE sales include credit cash, payments in advance, 3% discount upon receipt and, we extend thirty day terms to select customers. Accounts receivable are reviewed periodically for collectability. As of September 30, 2020 and December 31, 2019, the Company has an allowance for doubtful accounts totaling $5,690.
 
Sales Returns - We allow customers to return defective products when they meet certain established criteria as outlined in our sales terms and conditions. It is our practice to regularly review and revise, when deemed necessary, our estimates of sales returns, which are based primarily on actual historical return rates. We record estimated sales returns as reductions to sales, cost of goods sold, and accounts receivable and an increase to inventory. Returned products which are recorded as inventory are valued based upon the amount we expect to realize upon its subsequent disposition. As of September 30, 2020 and December 31, 2019, there was a reserve for sales returns of $20,000, respectively, which is minimal based upon our historical experience.
 
 
8
 
 
Inventories - Inventories are recorded on a first in first out basis Inventory consists of raw materials, work in process and finished goods and components sold by EZ-CLONE to it distribution customers. The Company reviews its inventory on a periodic basis to identify products that are slow moving and/or obsolete, and if such products are identified, the Company records the appropriate inventory impairment charge at such time.
 
Property and Equipment – Equipment consists of machinery, equipment, tooling, computer equipment and leasehold improvements, which are stated at cost less accumulated depreciation and amortization. Depreciation is computed by the straight-line method over the estimated useful lives or lease period of the relevant asset, generally 3-10 years, except for leasehold improvements which are depreciated over the lesser of the life of the lease or 10 years. 
 
Long Lived Assets – The Company reviews its long-lived assets for impairment annually or when changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Long-lived assets under certain circumstances are reported at the lower of carrying amount or fair value. Assets to be disposed of and assets not expected to provide any future service potential to the Company are recorded at the lower of carrying amount or fair value (less the projected cost associated with selling the asset). To the extent carrying values exceed fair values, an impairment loss is recognized in operating results.
 
Intangible Assets – Intangible assets are capitalized and amortized on a straight-line basis over their estimated useful life, if the life is determinable. If the life is not determinable, amortization is not recorded. We regularly perform reviews to determine if facts and circumstances exist which indicate that the useful lives of our intangible assets are shorter than originally estimated or the carrying amount of these assets may not be recoverable. When an indication exists that the carrying amount of intangible assets may not be recoverable, we assess the recoverability of our assets by comparing the projected undiscounted net cash flows associated with the related asset or group of assets over their remaining lives against their respective carrying amounts. Such impairment test is based on the lowest level for which identifiable cash flows are largely independent of the cash flows of other groups of assets and liabilities. Impairment, if any, is based on the excess of the carrying amount over the estimated fair value of those assets.
 
Goodwill-The Company reviews its acquired goodwill for impairment annually or more frequently if events or changes in circumstances indicate that the carrying amount may not be recoverable. In reviewing its goodwill, the Company performs a qualitative analysis to determine if it is more-likely-than-not that the goodwill is impaired. If the qualitative analysis indicates that goodwill is likely impaired, the Company calculates the fair value of its goodwill by allocating the fair value of the business unit containing the goodwill to all its tangible and intangible assets and liabilities, with the residual fair value allocated to goodwill. The excess, if any, of the goodwill carrying value in excess of its fair value would be recognized as an impairment loss. Management has concluded that, based on a qualitative analysis, it is more-likely-than-not that goodwill has not been impaired as of September 30, 2020 and December 31, 2019.
 
Fair Value Measurements and Financial Instruments  ASC Topic 820, Fair Value Measurement and Disclosures, defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date.  This topic also establishes a fair value hierarchy, which requires classification based on observable and unobservable inputs when measuring fair value.  The fair value hierarchy distinguishes between assumptions based on market data (observable inputs) and an entity’s own assumptions (unobservable inputs).  The hierarchy consists of three levels:
 
Level 1 – Quoted prices in active markets for identical assets and liabilities;
 
Level 2 – Inputs other than level one inputs that are either directly or indirectly observable; and.
 
Level 3 - Inputs to the valuation methodology are unobservable and significant to the fair value measurement.
 
The recorded value of other financial assets and liabilities, which consist primarily of cash and cash equivalents, accounts receivable, other current assets, and accounts payable and accrued expenses approximate the fair value of the respective assets and liabilities as of September 30, 2020 and December 31, 2019 are based upon the short-term nature of the assets and liabilities. 
 
Derivative Financial Instruments –Pursuant to ASC 815 “Derivatives and Hedging”, the Company evaluates all of its financial instruments to determine if such instruments are derivatives or contain features that qualify as embedded derivatives. The Company then determines if embedded derivative must bifurcated and separately accounted for. For derivative financial instruments that are accounted for as liabilities, the derivative instrument is initially recorded at its fair value and is then re-valued at each reporting date, with changes in the fair value reported in the consolidated statements of operations. For stock-based derivative financial instruments, the Company uses a Black-Scholes-Merton option pricing model to value the derivative instruments at inception and on subsequent valuation dates. The classification of derivative instruments, including whether such instruments should be recorded as liabilities or as equity, is evaluated at the end of each reporting period. Derivative instrument liabilities are classified in the balance sheet as current or non-current based on whether or not net-cash settlement of the derivative instrument could be required within twelve months of the balance sheet date.
 
 
9
 
 
Stock Based Compensation – We have share-based compensation plans under which employees, consultants, suppliers and directors may be granted restricted stock, as well as options to purchase shares of our common stock at the fair market value at the time of grant. Stock-based compensation cost is measured by us at the grant date, based on the fair value of the award, over the requisite service period using an estimated forfeiture rate. For options issued to employees, we recognize stock compensation costs utilizing the fair value methodology over the related period of benefit.  Grants of stock options and stock to non-employees and other parties are accounted for in accordance with the ASC 718.
 
Convertible Securities – Based upon ASC 815-15, we have adopted a sequencing approach regarding the application of ASC 815-40 to convertible securities issued subsequent to September 30, 2015. We will evaluate our contracts based upon the earliest issuance date.
 
Net Loss Per Share - Under the provisions of ASC Topic 260, “Earnings per Share,” basic loss per common share is computed by dividing net loss available to common shareholders by the weighted average number of shares of common stock outstanding for the periods presented. Diluted net loss per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that would then share in the income of the Company, subject to anti-dilution limitations. The common stock equivalents have not been included because their impact is antidilutive.
 
As of September 30, 2020, there are also (i) stock option grants outstanding for the purchase of 506,667 common shares at a $1.496 average exercise price; and (ii) warrants for the purchase of 2,418,680 shares of common shares at a $3.465 average exercise price. In addition, we have an unknown number of common shares to be issued under the Crossover, 12% convertible promissory note financing and Labrys agreements in the case of default. In addition, we have an unknown number of common shares to be issued under the Chicago Venture, Iliad and St. George financing agreements because the number of shares ultimately issued to Chicago Venture depends on the price at which Chicago Venture converts its debt to shares and exercises its warrants. The lower the conversion or exercise prices, the more shares that will be issued to Chicago Venture upon the conversion of debt to shares. We will not know the exact number of shares of stock issued to Chicago Venture until the debt is actually converted to equity.
 
As of September 30, 2019, there are also (i) stock option grants outstanding for the purchase of 550,000 common shares at a $1.491 average exercise price; (ii) warrants for the purchase of 2,418,680 common shares at a $3.465 average exercise price; and (iii) 789,565 shares related to convertible debt that can be converted at $0.38 per share.
 
In addition, we have an unknown number of common shares to be issued under the Crossover financing agreements in the case of default. In addition, we have an unknown number of common shares to be issued under the Chicago Venture, Iliad and St. George financing agreements because the number of shares ultimately issued to Chicago Venture depends on the price at which Chicago Venture converts its debt to shares and exercises its warrants. The lower the conversion or exercise prices, the more shares that will be issued to Chicago Venture upon the conversion of debt to shares. We will not know the exact number of shares of stock issued to Chicago Venture until the debt is actually converted to equity.
 
Dividend Policy - The Company has never paid any cash dividends and intends, for the foreseeable future, to retain any future earnings for the development of our business. Our future dividend policy will be determined by the board of directors on the basis of various factors, including our results of operations, financial condition, capital requirements and investment opportunities.
 
Use of Estimates - In preparing these consolidated financial statements in conformity with GAAP, management is required to make estimates and assumptions that may affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the consolidated financial statements and the reported amount of revenues and expenses during the reporting periods. Actual results could differ from those estimates. Significant estimates and assumptions included in our consolidated financial statements relate to the valuation of long-lived assets, estimates of sales returns, inventory reserves and accruals for potential liabilities, and valuation assumptions related to derivative liability, equity instruments and share based compensation. 
 
Recent Accounting Pronouncements
 
The Company has not adopted any new accounting pronouncements. A variety of proposed or otherwise potential accounting standards are currently under study by standard setting organizations and various regulatory agencies. Due to the tentative and preliminary nature of those proposed standards, management has not determined whether implementation of such proposed standards would be material to the Company’s consolidated financial statements.
 
 
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NOTE 4 –BUSINESS COMBINATIONS, ACQUISITION PAYABLE AND OTHER TRANSACTION
 
Acquisition of EZ-CLONE Enterprises, Inc.
 
On October 15, 2018, the Company closed the Purchase and Sale Agreement with EZ-CLONE Enterprises, Inc. (“EZ-CLONE”), a California corporation (the “Agreement”).  The total purchase price was $4 million of which $1,500,000 is payable in cash and $2.5 million payable in stock. At closing, we paid 51% of this amount totaling $2,040,000 via a (i) a cash payment of $645,000; and (ii) the issuance of 715,385 restricted shares of our common stock valued $1,395,000. The Agreement called for the Company, upon delivery of the remaining 49% of EZ-Clone stock, to acquire such stock within one year for $1,960,000, payable as follows: (i) a cash payment of $855,000; and (ii) the issuance of Company’s common stock at a value of $1,105,000.
 
On November 5, 2019, the Company amended the Agreement with one 24.5% shareholder of EZ-CLONE to extend the date to purchase the remaining 49% of stock of EZ-CLONE in exchange for a 20% extension fee (a total of $171,000 for the 49% or $85,500 for each 24.5% shareholder) of the $855,000 cash payable at the earlier of the closing of $2,000,000 in funding or nine months (July 2020). The Company did not close the purchase of the remaining 49% of stock of EZ-CLONE by the extended deadline.
 
On September 15, 2020, the Company received notice that William Blackburn and Brad Mickelsen (“Plaintiffs”), minority shareholders of EZ-CLONE Enterprises, Inc., a majority owned subsidiary of the Company, filed a complaint against the Company and its officers Marco Hegyi and Mark Scott (“Officers”), in the Superior Court of California, County of Sacramento (“Complaint”) for claims related to breach under the Purchase and Sale Agreement dated October 15, 2018 between the Company and Plaintiffs. See Note 17 for description of Legal Proceedings.
 
As of September 30, 2020 and December 31, 2019, the Company has recorded a liability of $2,131,000 for acquisition payable of which a $1,105,000 is payable in stock and $1,026,000 is payable in cash.
 
This acquisition has accelerated the Company’s revenue growth, increased the Company gross margins and added additional manufacturing and research and development personnel.
 
The Company accounted for the acquisition in accordance with ASC 805, “Business Combinations”. ASC 805 defines the acquirer in a business combination as the entity that obtains control of one or more businesses in a business combination and establishes the acquisition date as the date that the acquirer achieves control. ASC 805 requires an acquirer to recognize the assets acquired, the liabilities assumed, and any non-controlling interest in the acquiree at the acquisition date, measured at their fair values as of that date.
 
For accounting purposes, from the October 15, 2018 acquisition date and through November 4, 2019, the Company consolidated EZ-Clone given their control and treated its ability to acquire the remaining 49% interest in EZ-Clone as a de facto option to buy and has thus categorized it as a non-controlling interest until November 5, 2019 when the amended purchase agreement obligates the Company to purchase the remaining 49%. Effective in the quarter beginning October 1, 2019, the Company for accounting purposes, considers EZ-Clone to be 100% owned and thus eliminated the non-controlling interest and recorded an acquisition payable related to the balance owed. As of December 31, 2019, the Company has an acquisition payable totaling $1,926,000, of which $1,026,000 is current and $900,000 is categorized as long term since stock is expected to be issued to settle this and will not utilize current assets. The total liability consists of the discounted value of the future payments of $1,960,000 and the $171,000 extension fee payable. The Company accreted the difference between the carrying value of the acquisition payable and the contractual obligations as interest expense through July 2020 when payment was due. The Company recorded the $171,000 as a financing fee and expensed it as interest expense in 2019. During the fourth quarter of 2019, the Company recorded a noncash financing charge as interest expense totaling approximately $410,000 to recognize the acquisition payable and to eliminate the non-controlling interest. During the nine months ended September 30, 2020 the Company recognized an additional $205,000 of interest expense to accrete the acquisition payable to $1,105,000.
 
As of the acquisition date in October 2018, the Company recognized approximately $3.4 million of intangible assets and began amortizing them over 3 years. In the fourth quarter of 2019, the Company completed its evaluation of assets acquired and finalized its asset valuation. The finalized valuation resulted in lower intangible assets from the original assessment, allocating some of the intangible to Goodwill and determined that the life of definite life intangibles to be 5 years (See Note 7). The Company adjusted the cost basis and accumulated amortization, reducing both, but did not change 2019 amortization expense that had been recorded through September 30, 2019 which was in excess of $800,000.The change in the purchase accounting also resulted in the recording of a deferred tax liability and the lowering of non-controlling interest by $587,750 and such reclassification was made to the December 31, 2018 balance sheet. During the nine months ended September 30, 2020, the Company recorded a tax benefit of $88,163 related to book versus tax basis difference from the purchase accounting.
 
 
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The summary of assets acquired and liabilities assumed is based upon the Company final evaluation done in the fourth quarter of 2019 and is detailed below.
 
Intangible assets
 $2,351,000 
Goodwill
  781,749 
Net working capital
  551,000 
Propety and equipment
  318,000 
Deferred tax liability
  (587,750)
 
 $3,413,999 
 
The fair value of the intangible assets associated with the assets acquired was $2,351,000 estimated by using a discounted cash flow approach based on future economic benefits. In summary, the estimate was based on a projected income approach and related discounted cash flows over five years, with applicable risk factors assigned to assumptions in the forecasted results.
 
NOTE 5 – INVENTORY
 
Inventory as of September 30, 2020 and December 31, 2019 consisted of the following:
 
 
 
September 30,
 
 
December 31,
 
 
 
2020
 
 
2019
 
 
 
 
 
 
 
 
Raw materials
 $486,024 
 $329,482 
Work in process
  85,293 
  49,253 
Finished goods
  21,581 
  92,703 
Inventory deposits
  82,166 
  129,236 
   Total
 $675,063 
 $600,674 
 
Raw materials consist of supplies for product lines at EZ-CLONE.
 
Finished goods inventory relates to product lines at EZ- CLONE.
 
NOTE 6 – PROPERTY AND EQUIPMENT
 
Property and equipment as of September 30, 2020 and December 31, 2019 consists of the following:
 
 
 
September 30,
 
 
December 31,
 
 
 
2020
 
 
2019
 
 
 
 
 
 
 
 
Machinery, equipment and tooling
 $356,867 
 $356,867 
Computer equipment
  16,675 
  16,675 
Leasehold improvements
  14,702 
  14,702 
     Total property and equipment
  388,244 
  388,244 
Less accumulated depreciation and amortization
  (249,626)
  (221,763)
     Net property and equipment
 $138,618 
 $166,482 
 
Total depreciation expense was $27,864 and $68,655 for the nine months ended September 30, 2020 and 2019, respectively. All equipment is used for manufacturing, selling, general and administrative purposes and accordingly all depreciation is classified in cost of goods sold, selling, general and administrative expenses.
 
 
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NOTE 7 – INTANGIBLE ASSETS
 
Intangible assets as of September 30, 2020 and December 31, 2019 consisted of the following: 
 
 
 
Estimated Useful Lives
 
 
September 30,
2020
 
 
December 31,
2019
 
 
 
 
 
 
 
 
 
 
 
Customer Lists
 
5 Years
 
 $1,297,000 
 $1,297,000 
Intellectual Property
 
5 Years
 
  1,054,000 
  1,054,000 
less accumulated amortization
 
 
 
  (1,052,353)
  (548,566)
Net Intangible assets-definitive life
 
 
 
  1,298,647 
  1,802,434 
 
 
 
    
    
Goodwill-indefinite life
    N/A 
  781,749 
  781,749 
 
       
    
    
Total intangible assets and goodwill
       
 $2,080,396 
 $2,584,183 
 
As of the acquisition date in October 2018, the Company originally recognized approximately $3.4 million of intangible assets and began amortizing them over 3 years. In the fourth quarter of 2019, the Company completed its evaluation of assets acquired and finalized its asset valuation. The finalized valuation resulted in lower intangible assets from the original assessment, allocated some of the intangible to Goodwill and determined that the life of definite life intangibles to be 5 years. In the 4th quarter of 2019, The Company adjusted the cost basis and accumulated amortization, reducing both, but did not change 2019 amortization expense that had been recorded through September 30, 2019 which was in excess of $800,000.
 
Total amortization expense was $503,787 and $855,771 for the nine months ended September 30, 2020 and 2019, respectively.
 
NOTE 8- LEASES
 
The Company previously entered into operating leases for retail and corporate facilities. These leases have terms which range from two to five years, and often include options to renew. These operating leases are listed as separate line items on the Company's December 31, 2018 Consolidated Balance Sheet and represent the Company’s right to use the underlying asset for the lease term. The Company’s obligation to make lease payments are also listed as separate line items on the Company's December 31, 2018 Consolidated Balance Sheet. Based on the present value of the lease payments for the remaining lease term of the Company's existing leases, the Company recognized right-of-use assets and lease liabilities for operating leases of approximately $1,378,000 on January 1, 2019. Operating lease right-of-use assets and liabilities commencing after January 1, 2019 are recognized at commencement date based on the present value of lease payments over the lease term. During the three months ended September 30, 2019 the Company cancelled all but one lease and has recognized the rent and termination fees related to the cancelled leases as an expense in the quarter ended September 30, 2019. As of September 30, 2020 and December 31, 2019, total right-of-use assets and operating lease liabilities for remaining long term lease was $445,927 and $481,120, respectively. During the nine months ended September 30, 2020 and 2019, the Company recognized approximately $167,000 in total lease costs for the lease.
 
Because the rate implicit in each lease is not readily determinable, the Company uses its incremental borrowing rate to determine the present value of the lease payments.
 
Information related to the Company's operating right-of-use assets and related lease liabilities as of and for the nine months ended September 30, 2020 were as follows:
 
Cash paid for ROU operating lease liability $157,500  
Weighted-average remaining lease term 3 years
Weighted-average discount rate 10%
 
Year Ended
 
 
 
September 30, 2020
 
$
 
2021
 $216,300 
2022
  222,792 
2023
  117,984 
 
    
 
  557,076 
Imputed interest
  (111,149)
Total lease liability
 $445,927 
 
 
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NOTE 9- ACCOUNTS PAYABLE
 
Accounts payable were $1,038,597 and $1,157,090 as of September 30, 2020 and December 31, 2019, respectively. Such liabilities consisted of amounts due to vendors for inventory purchases, audit, legal and other expenses incurred by the Company.
 
NOTE 10- ACCRUED EXPENSES
 
Accrued expenses were $290,891 and $259,093 as of September 30, 2020 and December 31, 2019, respectively. Such liabilities consisted of amounts due to sales tax, payroll and restructuring expense liabilities. As of September 30, 2019, the Company closed retail stores in Portland, Maine, Encino, California and Calgary, Canada. The Company is negotiating with the landlords and the Company has recorded restructuring reserves of $209,577 as of September 30, 2020 and December 31, 2019, respectively.
 
NOTE 11 – CONVERTIBLE NOTES PAYABLE AND NOTES PAYABLE
 
Convertible notes payable as of September 30, 2020 consisted of the following:
 
 
 
Principal
 
 
Accrued
Interest
 
 
Debt
Discount
 
 
Balance
As of
September 30,
2020
 
Convertible Notes Payable-
 
 
 
 
 
 
 
 
 
 
 
 
10% OID Convertible Promissory Notes
 $2,040,907 
 $427,400 
 $- 
 $2,468,307 
Secured Advance Note
  87,526 
  10,251 
  - 
  97,777 
12% Convertible Promissory Notes
  221,100 
  7,759 
  (8,311)
  220,548 
Total Convertible Notes Payable, short term
 $2,349,533 
 $445,410 
 $(8,311)
 $2,786,632 
 
Convertible notes payable as of December 31, 2019 consisted of the following:
 
 
 
Principal
 
 
Accrued
Interest
 
 
Debt
Discount
 
 
Balance
As of
December 31,
2019
 
Convertile Notes Payable-
 
 
 
 
 
 
 
 
 
 
 
 
10% OID Convertible Promissory Notes
 $2,195,007 
 $220,980 
 $- 
 $2,415,987 
Secured Advance Note
  205,228 
  - 
  - 
  205,228 
12% Convertible Promissory Notes
  281,600 
  3,055 
  (21,591)
  263,064 
 
 $2,681,835 
 $224,035 
 $(21,591)
 $2,884,279 
 
10% OID Convertible Promissory Notes
 
Funding from Chicago Venture Partners, L.P. (“Chicago Venture”), Iliad Research and Trading, L.P. (“Iliad”) and Odyssey Research and Trading, LLC, (“Odyssey”). The Company typically issues original issuance discount notes with these parties that has a stated interest rate of typically 10%. Accrued interest represents the interest to be accreted over the remaining term of the notes. These notes contain terms and conditions that are deemed beneficial conversion features and the Company recognizes a derivative liability related to these terms until the notes are converted. Upon the conversion of these notes, the Company records a loss on debt conversion and reduces their derivative liability. The notes may be converted to common stock after six months until they are converted.
 
As of December 31, 2019, the outstanding principal balance due to Chicago Venture, Iliad and Odyssey was $2,195,007 and accrued interest was $220,980, which results in a total amount of $2,415,987.
 
During the year ended December 31, 2019, Chicago Venture and Iliad converted principal and accrued interest of $1,357,872 into 3,120,521 shares of our common stock at a per share conversion price of $0.766 with a fair value of $2,284,081. The Company recognized $926,208 loss on debt conversions during the year ended December 31, 2019.
 
As of September 30, 2020, the outstanding principal balance due to Chicago Venture, Iliad and Odyssey was $1,650,007 and accrued interest was $423,888, which results in a total amount of $2,073,895.
 
 
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During the nine months ended September 30, 2020, the Company received loans of $500,000 from Chicago Venture. Also, Chicago Venture converted principal and accrued interest of $600,000 into 4,882,919 shares of our common stock at a per share conversion price of $0.123 with a fair value of $1,006,518. The Company recognized $287,466 loss on debt conversions during the nine months ended September 30, 2020.
 
On September 1, 2020, Iliad sold a Note for $500,000 to Silverback Capital Corporation. As of September 30, 2020, the outstanding principal balance due to Silverback was $390,900 and accrued interest was $3,512, which results in a total amount of $394,412. During the nine months ended September 30, 2020, Silverback converted principal and accrued interest of $109,100 into 1,000,000 shares of our common stock at a per share conversion price of $0.109 with a fair value of $158,000. The Company recognized $44,900 loss on debt conversions during the nine months ended September 30, 2020.
 
Securities Purchase Agreement, Secured Promissory Notes and Security Agreement with Chicago Venture Partners, L.P (Chicago Venture or CVP)
 
On January 30, 2020, the Company executed the following agreements with Chicago Venture: (i) Securities Purchase Agreement; (ii) Secured Convertible Promissory Notes (“Notes”); and (iii) Security Agreement (collectively the “Chicago Venture Agreements”). The Company entered into the Chicago Venture Agreements with the intent to acquire working capital to grow the Company’s businesses.
 
The total amount of funding under the CVP Agreements is $500,000 in various tranches. The Notes carry an original issue discount of $50,000 and a transaction expense amount of $5,000, for total debt of $555,000 (“Debt”). The Company agreed to reserve 53,333 shares of its common stock for issuance upon conversion of the Debt, if that occurs in the future. If not converted sooner, the Debt is due on or before January 29, 2021. The Debt carries an interest rate of ten percent (10%). The Debt is convertible, at CVP’s option, into the Company’s common stock at $0.30 per share subject to adjustment as provided for in the Notes. The Company received approximately $500,000 of funding under the CVP agreements in 2020.
 
The Company’s obligation to pay the Debt, or any portion thereof, is secured by all of the Company’s assets.
 
Secured Advance Note with Crossover Capital Fund I LLC (“Crossover”)
 
On September 20, 2019, the Company closed a Secured Advance Note with Crossover Capital Fund I LLC (the “Crossover Note”). The Company entered into the Crossover Note with the intent to acquire working capital to grow the Company’s businesses. The total amount of funding under the Crossover Note is $250,000. The Crossover Note carries an original issue discount of $57,400 and a transaction expense amount of $7,000, for total debt of $308,400. On December 22, 2019, the Note increased by $25,700. The original issue discount was immediately recorded as interest expense due to the note maturity being less than one year. The Company agreed to reserve three times the number of shares based on the conversion value in case of default under the Crossover Note, if that occurs in the future. The Crossover Note is due in nine months and is repayable weekly at $9,205. The Crossover Note is convertible into the Company’s common stock at the market value share price subject to adjustment as provided for in the Crossover Note in the case of default. The Company’s obligation to pay the Crossover Note, or any portion thereof, is secured by all of the Company’s assets. As of December 31, 2019, the outstanding principal balance due Crossover was $205,228. The Company also issued 33,333 shares of common stock to Crossover as a commitment fee that was valued at fair market value at $25,000 or $0.75 per share and expensed as interest expense during the year ended December 31, 2019.
 
On January 14, 2020, the Note increased by $25,700. On August 31, 2020, Crossover converted debt and accrued interest of $95,000 into 500,000 shares of common stock at $0.19 per share. As of September 30, 2020, $66,412 was recorded for late and default fees. As of September 30, 2020, the outstanding principal balance due to Crossover was $87,526 and accrued interest was $10,251, which results in a total amount of $97,777. The Company recognized no loss on debt conversions during the nine months ended September 30, 2020.
 
The Company’s obligation to pay the Debt, or any portion thereof, is secured by all of the Company’s assets.
 
12% Convertible Promissory Notes
 
The Company entered into Convertible Promissory Notes with PowerUp Lending Group Ltd on November 18, 2019 for $140,800 to fund short-term working capital. The Notes accrues interest at a rate of 12% per annum and became due in one year and are convertible into common stock at 75% of market value after six months. The Company received cash of $125,000, and recorded interest expense of $2,037, a transaction expense amount of $3,000 and amortization of debt discount of $15,191. The Company recorded as interest expense in 2019 the value of the beneficial conversion feature of $46,933 related to the potential conversion at a discount after six months. During the nine months ended September 30, 2020, the Company recorded interest expense of $5,643 and amortization of debt discount of $10,409. During the nine months ended September 30, 2020, the Company issued 1,004,625 shares of the Company’s common stock at $0.148 related to conversion of principal and interest under the $140,800 Promissory Note.
 
 
15
 
 
The Company entered into Convertible Promissory Notes with PowerUp Lending Group Ltd on December 9, 2019 for $140,800 to fund short-term working capital. The Notes accrues interest at a rate of 12% per annum and became due in one year and are convertible into common stock at 75% of market value after six months. The Company received cash of $125,000, and recorded interest expense of $1,018, a transaction expense amount of $3,000 and amortization of debt discount of $14,418. The Company recorded as interest expense in 2019 the value of the beneficial conversion feature of $46,933 related to the potential conversion at a discount after six months. During the nine months ended September 30, 2020, the Company recorded interest expense of $22,001 and amortization of debt discount of $11,182. During the nine months ended September 30, 2020, the Company repaid $85,000 and issued 628,659 shares of the Company’s common stock at $0.125 related to conversion of principal and interest under the remaining $78,819 Promissory Note.
 
The Company entered into Convertible Promissory Note with PowerUp Lending Group Ltd on January 14, 2020 for $58,300 to fund short-term working capital. The Notes accrues interest at a rate of 12% per annum and became due in one year and are convertible into common stock at 75% of market value after six months. The Company received cash of $50,000, and recorded interest expense of $1,495, a transaction expense amount of $3,000 and beneficial conversion feature of $19,433 related to the potential conversion at a discount after six months. During the nine months ended September 30, 2020, the Company recorded interest expense of $3,180 and amortization of debt discount of $5,300. During the nine months ended September 30, 2020, the Company issued 510,271 shares of the Company’s common stock at $0.12 related to conversion of principal and interest under the remaining $61,480 Promissory Note.
 
The Company entered into Convertible Promissory Notes with PowerUp Lending Group Ltd on June 1, 2020 for $140,800 to fund short-term working capital. The Notes accrues interest at a rate of 12% per annum and became due in one year and are convertible into common stock at 75% of market value after six months. The Company received cash of $125,000, and recorded interest expense of $1,389, a transaction expense amount of $3,000 and amortization of debt discount of $14,910. The Company recorded as interest expense in 2020 the value of the beneficial conversion feature of $46,933 related to the potential conversion at a discount after six months. During the nine months ended September 30, 2020, the Company recorded interest expense of $5,647 and amortization of debt discount of $8,540.
 
The Company entered into Convertible Promissory Notes with PowerUp Lending Group Ltd on July 13, 2020 for $80,300 to fund short-term working capital. The Notes accrues interest at a rate of 12% per annum and became due in one year and are convertible into common stock at 75% of market value after six months. The Company received cash of $70,000, and recorded interest expense of $2,112, a transaction expense amount of $3,000 and an original interest discount of 7,300. The Company recorded amortization of debt discount of $3,209. The Company recorded as interest expense in 2020 the value of the beneficial conversion feature of $26,767 related to the potential conversion at a discount after six months.
 
During the nine months ended September 30, 2020, PowerUp Lending Group Ltd converted principal and accrued interest of $288,779 into 2,143,555 shares of our common stock at a per share conversion price of $0.135 with a fair value of $410,029. The Company recognized $107,746 loss on debt conversions during the nine months ended September 30, 2020.
 
Notes Payable
 
Notes payable as of September 30, 2020 consisted of the following:
 
 
 
Principal
 
 
Accrued
Interest
 
 
Debt
Discount
 
 
Balance
As of
September 30,
2020
 
Notes Payable-
 
 
 
 
 
 
 
 
 
 
 
 
1% Note Payble under Paycheck Protection Program
 $565,829 
 $2,529 
 $- 
 $568,358 
3.75% Economic Injury Disaster Loan
  299,800 
  3,204 
  - 
  303,004 
12% Self-Amortizing Promissory Note
  750,000 
  7,644 
  (392,914)
  364,730 
Parties related to shareholders of EZ-CLONE Enterprises, Inc.
  104,144 
  - 
  - 
  104,144 
Total Notes Payable
  1,719,773 
  13,377 
  (392,914)
  1,340,236 
Less Long Term Notes Payable
  (401,883)
  3,204 
  - 
  (398,679)
Short Term Notes Payable
 $1,317,890 
 $16,581 
 $(392,914)
 $941,557 
 
 
16
 
 
Notes payable as of December 31, 2019 consisted of the following:
 
 
 
Principal
 
 
Accrued
Interest
 
 
Debt
Discount
 
 
Balance
As of
December 31,
2020
 
Notes Payable -
 
 
 
 
 
 
 
 
 
 
 
 
Parties related to shareholders of EZ-CLONE Enterprises, Inc.
 $104,144 
 $- 
 $- 
 $104,144 
 
On April 17, 2020, the Company received $362,500 under the Paycheck Protection Program of the U.S. Small Business Administration’s (SBA) 7(a) Loan Program pursuant to the Coronavirus, Aid, Relief and Economic Security Act (CARES Act), Pub. Law 116-136, 134 Stat. 281 (2020). During the nine months ended September 30, 2020, the Company recorded interest expense of $1,688 at 1%. The Company is utilizing the funds in accordance with the legal requirements and expects this loan to be forgiven during 2020.
 
On May 7, 2020, EZ-CLONE received $203,329 under the Paycheck Protection Program of the U.S. Small Business Administration’s 7(a) Loan Program pursuant to the Coronavirus, Aid, Relief and Economic Security Act (CARES Act), Pub. Law 116-136, 134 Stat. 281 (2020). During the nine months ended September 30, 2020, the Company recorded interest expense of $841 at 1%. The Company is utilizing the funds in accordance with the legal requirements and expects this loan to be forgiven during 2020.
 
On June 19, 2020, the Company received $299,800 under the Economic Injury Disaster Loan Program of the U.S. Small Business Administration’s 7(a) Loan Program pursuant to the Coronavirus, Aid, Relief and Economic Security Act (CARES Act), Pub. Law 116-136, 134 Stat. 281 (2020). Repayment terms on the loans are over a 30-year term at 3.75%. In addition, the loan contains a 12-month payment deferral beginning on the loan date. There is no prepayment penalty on an EIDL loan. During the nine months ended September 30, 2020, the Company recorded interest expense of $3,204. These loans were long term as of September 30, 2020.
 
12% Self-Amortization Promissory Note with Labrys Fund, L.P, a Delaware limited partnership (“Labrys”)
 
On August 31, 2020, we executed the following agreements with Labrys: (i) Securities Purchase Agreement; and (ii) Self-Amortization Promissory Note (“Note”); (collectively the “Labrys Agreements”). The Company entered into the Labrys Agreements with the intent to acquire working capital to grow the Company’s businesses and complete the EZ-CLONE Enterprises, Inc. acquisition.
 
The total amount of funding under the Labrys Agreements is $632,750. The Notes carry an original issue discount of $75,000, a transaction expense amount of $8,500, and a fee to J. H. Darbie & Co. of $33,750, for total debt of $750,000 (“Debt”). The Note has an amortization schedule of $250,000 on November 30, 2020 and $51,042 at each month end from December 2020 through November 30, 2021. The Company issued commitment shares of 1,662,000 shares related to the Labrys Agreements at $0.21 or $349,020. We agreed to reserve 5,043,859 shares of its common stock for issuance if any Debt is converted. The Debt is due on or before November 30, 2021. The Debt carries an interest rate of twelve percent (12%). In the case of default, the debt is convertible into the Company’s common stock at the closing price the day before the conversion, subject to adjustment as provided for in the Note.
 
As of September 30, 2020, the outstanding principal balance due Labrys was $750,000, accrued interest was $7,644 and the unamortized debt discount of $392,914, which results in a total amount of $364,730. During the nine months ended September 30, 2020, the Company recorded interest expense of $7,644 and amortization of debt discount of $74,250.
 
EZ-CLONE has $104,144 due to relatives of the two selling shareholders as of September 30, 2020 and December 31, 2019, respectively.
 
 
17
 
 
NOTE 12 – DERIVATIVE LIABILITY
 
The Convertible Notes payable include a conversion feature that pursuant ASC 815 “Derivatives and Hedging”, has been identified as an embedded derivative financial instrument and which the Company accounts for under the fair value method of accounting.  
 
If the conversion features of conventional convertible debt provide for a rate of conversion that is below market value, this feature is characterized as a beneficial conversion feature (BCF). A BCF is recorded by the Company as a debt discount pursuant to ASC Topic 470-20. Debt with Conversion and Other Options. In those circumstances, the convertible debt is recorded net of the discount related to the BCF and the Company amortizes the discount to interest expense over the life of the debt using the effective interest method. The debt is convertible at the lesser of 65% of the fair value of the Company’s common stock or $1.35 requiring the conversion feature to be bifurcated from the host debt contract and accounting for separately as a derivative, resulting in periodic revaluations. The notes underlying the derivatives are short term in nature and generally converted to stock in less than one year. The derivative is valued at period end with the key inputs being current stock price and the conversion feature.
 
There was a derivative liability of $1,329,088 and $1,300,915 as of September 30, 2020 and December 31, 2019, respectively. For the nine months ended September 30, 2020 and 2019, the Company recorded non-cash expense $28,173 and non-cash income of $361,179 related to the “change in fair value of derivative” expense related to the Chicago Venture and Iliad financing. These were the only changes in level 3 fair value instruments during such periods.
 
Derivative liability as of September 30, 2020 was as follows:
 
 
 
 
 
 
 
 
 
 
 
 
Carrying
 
 
 
Fair Value Measurements Using Inputs
 
 
Amount at
September 30,
 
Financial Instruments
 
Level 1
 
 
Level 2
 
 
Level 3
 
 
2020
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
Derivative Instruments
 $- 
 $- 
 $1,329,088 
 $1,329,088 
 
    
    
    
    
Total
 $- 
 $- 
 $1,329,088 
 $1,329,088 
 
Derivative liability as of December 31, 2019 was as follows:
 
 
 
 
 
 
 
 
 
 
 
 
Carrying
 
 
 
  Fair Value Measurements Using Inputs
 
 
Amount at
December 31,
 
Financial Instruments
 
Level 1
 
 
Level 2
 
 
Level 3
 
 
  2019
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
Derivative Instruments
 $- 
 $- 
 $1,300,915 
 $1,300,915 
 
    
    
    
    
Total
 $- 
 $- 
 $1,300,915 
 $1,300,915 
 
NOTE 13 – RELATED PARTY TRANSACTIONS AND CERTAIN RELATIONSHIPS
 
Since January 1, 2019, the Company engaged in the following reportable transactions with our directors, executive officers, holders of more than 5% of our voting securities, and affiliates or immediately family members of our directors, executive officers and holders of more than 5% of our voting securities.
 
 
18
 
 
Certain Relationships
 
Please see the transactions with Chicago Venture Partners, L.P. discussed in Notes 11 and 12.
 
Related Party Transactions
 
Transactions with Katherine McLain
 
On February 22, 2019, the Company issued 54,054 shares of the Company’s common stock to Katherine McLain valued at $1.11 per share or $60,000. This issuance was an annual award for independent director services. On April 16, 2020, the Company issued 20,000 shares of the Company’s common stock to Katherine McLain valued at $0.295 per share or $5,900. This issuance was an annual award for independent director services.
 
Transaction with Thom Kozik
 
On February 22, 2019, the Company issued 54,054 shares of the Company’s common stock to Mr. Kozik valued at $1.11 per share or $60,000. On April 16, 2020, the Company issued 20,000 shares of the Company’s common stock to Thom Kozik valued at $0.295 per share or $5,900. This issuance was an annual award for independent director services.
 
Notes Payable to Related Parties
 
EZ-CLONE has $104,144 due to relatives of the two selling shareholders as of September 30, 2020 and December 31, 2019, respectively.
 
NOTE 14 – EQUITY
 
Authorized Capital Stock
 
On October 9, 2019, the Company approved the reduction of authorized capital stock, whereby the total number of the Company’s authorized common stock decreased from 6,000,000,000 by a ratio of 1 for 50, to 120,000,000 shares. On November 20, 2019, the Company filed a Certificate of Amendment of Certificate of Incorporation with the Secretary of State of the State of Delaware. As a result of the reduction, we have an aggregate 130,000,000 authorized shares consisting of: (i) 120,000,000 shares of common stock, par value $0.0001 per share, and (ii) 10,000,000 shares of preferred stock, par value $0.0001 per share.
 
The reverse stock split of 1 for 150 was effective at the open of business on November 27, 2019 whereupon the shares of the Company’s common stock began trading on a split-adjusted basis. Our CUSIP number will change to 39985X203.
 
Non-Voting Preferred Stock
 
Under the terms of our articles of incorporation, our board of directors is authorized to issue shares of non-voting preferred stock in one or more series without stockholder approval. Our board of directors has the discretion to determine the rights, preferences, privileges and restrictions, dividend rights, conversion rights, redemption privileges and liquidation preferences, of each series of non-voting preferred stock.
 
The purpose of authorizing our board of directors to issue non-voting preferred stock and determine our rights and preferences is to eliminate delays associated with a stockholder vote on specific issuances. The issuance of non-voting preferred stock, while providing flexibility in connection with possible acquisitions, future financings and other corporate purposes, could have the effect of making it more difficult for a third party to acquire or could discourage a third party from seeking to acquire, a majority of our outstanding voting stock. There are no shares of non-voting preferred stock presently outstanding and we have no present plans to issue any shares of preferred stock.
 
 
19
 
 
Capital Stock Issued and Outstanding
 
As of September 30, 2020, the Company had issued and outstanding securities of 38,905,790 shares of common stock.
 
Voting Common Stock
  
Holders of the Company’s common stock are entitled to one vote for each share held on all matters submitted to a vote of stockholders and do not have cumulative voting rights. An election of directors by our stockholders shall be determined by a plurality of the votes cast by the stockholders entitled to vote on the election. On all other matters, the affirmative vote of the holders of a majority of the stock present in person or represented by proxy and entitled to vote is required for approval, unless otherwise provided in our articles of incorporation, bylaws or applicable law. Holders of common stock are entitled to receive proportionately any dividends as may be declared by our board of directors, subject to any preferential dividend rights of outstanding preferred stock.
 
In the event of our liquidation or dissolution, the holders of common stock are entitled to receive proportionately all assets available for distribution to stockholders after the payment of all debts and other liabilities and subject to the prior rights of any outstanding preferred stock. Holders of common stock have no preemptive, subscription, redemption or conversion rights. The rights, preferences and privileges of holders of common stock are subject to and may be adversely affected by the rights of the holders of shares of any series of preferred stock that we may designate and issue in the future.
 
Unless otherwise indicated, all of the following sales or issuances of Company securities were conducted under the exemption from registration as provided under Section 4(2) of the Securities Act of 1933 (and also qualified for exemption under 4(5), formerly 4(6) of the Securities Act of 1933, except as noted below). All of the shares issued were issued in transactions not involving a public offering, are considered to be restricted stock as defined in Rule 144 promulgated under the Securities Act of 1933 and stock certificates issued with respect thereto bear legends to that effect. 
 
The Company has compensated consultants and service providers with restricted common stock during the development of our business and when our capital resources were not adequate to provide payment in cash.
 
During the nine months ended September 30, 2020, the Company had the following issuances of unregistered equity securities to accredited investors unless otherwise indicated:
 
Debt and accrued interest of $1,092,879 was converted into 8,526,474 shares of our common stock at an average per share conversion price of $0.128.
 
The Company issued 15 shares related to a previous reverse stock split.
 
The Company issued 154 shares of common stock related to the exercise of warrants for $485, or $3.151 per share.
 
On April 16, 2020, the Company issued 20,000 shares of the Company’s common stock each to Katherine McLain and Thom Kozik, directors valued at $0.295 per share or $5,900. This issuance was an annual award for independent director services.
 
On August 31, 2020, the Company issued commitment shares of 1,662,000 shares related to the Labrys Agreements at $0.21 or $349,020.
 
 
20
 
 
Warrants
 
The Company no warrant activity during the nine months ended September 30, 2020.
 
A summary of the warrants issued as of September 30, 2020 is as follows:
 
 
 
September 30, 2020
 
 
 
 
 
 
Weighted
 
 
 
 
 
 
Average
 
 
 
 
 
 
Exercise
 
 
 
Shares
 
 
Price
 
Outstanding at January 1, 2020
  2,418,834 
 $3.465 
Issued
  - 
 $- 
Exercised
  (154)
 $(3.151)
Forfeited
  - 
 $- 
Expired
  - 
 $- 
Outstanding at September 30, 2020
  2,418,680 
 $3.465 
Exerciseable at September 30, 2020
  2,312,168 
 $- 
 
A summary of the status of the warrants outstanding as of September 30, 2020 is presented below:
 
 
 
September 30, 2020
 
 
 
Weighted
 
 
Weighted
 
 
 
 
 
Weighted
 
 
 
Average
 
 
Average
 
 
 
 
 
Average
 
 
Number of
 
 
Remaining
 
 
Exercise
 
 
Shares
 
 
Exercise
 
 
Warrants
 
 
Life
 
 
Price
 
 
Exerciseable
 
 
Price
 
  366,667 
  5.91 
 $1.500 
  366,667 
 $1.500 
  320,000 
  4.10 
  1.800 
  213,333 
  1.800 
  1,407,428 
  1.08 
  3.150 
  1,407,582 
  3.150 
  324,586 
  2.25 
  7.500 
  324,586 
  7.500 
  - 
  - 
  - 
  - 
  - 
  2,418,680 
  2.00 
 $3.465 
  2,312,168 
 $3.374 
 
Warrants had no intrinsic value as of September 30, 2020.
 
The warrants were valued using the following assumptions:
 
Dividend yield
0%
Expected life
1-5 Years
Expected volatility
70-200%
Risk free interest rate
0.78-2.6%
 
 
21
 
 
NOTE 15– STOCK OPTIONS
 
Description of Stock Option Plan
 
The Company has 1,333,333 shares available for issuance under the First Amended and Restated 2017 Stock Incentive Plan. The Company has outstanding unexercised stock option grants totaling 506,667 shares at an average exercise price of $1.496 per share as of September 30, 2020. The Company filed registration statements on Form S-8 to register 1,333,333 shares of our common stock related to the 2017 Stock Incentive Plan and First Amended and Restated 2017 Stock Incentive Plan.
 
Determining Fair Value under ASC 718
 
The Company records compensation expense associated with stock options and other equity-based compensation using the Black-Scholes-Merton option valuation model for estimating fair value of stock options granted under our plan. The Company amortizes the fair value of stock options on a ratable basis over the requisite service periods, which are generally the vesting periods. The expected life of awards granted represents the period of time that they are expected to be outstanding.  The Company estimates the volatility of our common stock based on the historical volatility of its own common stock over the most recent period corresponding with the estimated expected life of the award. The Company bases the risk-free interest rate used in the Black Scholes-Merton option valuation model on the implied yield currently available on U.S. Treasury zero-coupon issues with an equivalent remaining term equal to the expected life of the award. The Company has not paid any cash dividends on our common stock and does not anticipate paying any cash dividends in the foreseeable future. Consequently, the Company uses an expected dividend yield of zero in the Black-Scholes-Merton option valuation model and adjusts share-based compensation for changes to the estimate of expected equity award forfeitures based on actual forfeiture experience. The effect of adjusting the forfeiture rate is recognized in the period the forfeiture estimate is changed.
 
Stock Option Activity
 
The Company had the following stock option transactions during the nine months ended September 30, 2020:
 
During the nine months ended September 30, 2020, executives and employees forfeited stock option grants for 43,333 shares with an exercise price of $1.431 per share.
 
There are currently 506,667 options to purchase common stock at an average exercise price of $1.496 per share outstanding as of September 30, 2020 under 2017 Stock Incentive Plan and First Amended and Restated 2017 Stock Incentive Plan. The Company recorded $39,587 and $48,693 of compensation expense, net of related tax effects, relative to stock options for the nine months ended September 30, 2020 and 2019 and in accordance with ASC 718. As of September 30, 2020, there is approximately $29,051, net of forfeitures, of total unrecognized costs related to employee granted stock options that are not vested. These costs are expected to be recognized over a period of approximately 2.98 years. 
 
Stock option activity for the nine months ended September 30, 2020 and the year ended December 31, 2019 were as follows:
 
 
 
Options
 
 
Weighted Average
 
 
Option
 
 
 
Shares
 
 
Exercise Price
 
 
$
 
Outstanding as of January 1, 2019
  666,667 
 $1.410 
 $940,000 
Granted
  23,333 
  1.457 
  34,000 
Exercised
  (26,111)
  (0.900)
  (23,500)
Forfeitures
  (113,889)
  (1.146)
  (130,500)
Outstanding as of December 31, 2019
  550,000 
  1.491 
  820,000 
Granted
  - 
  - 
  - 
Exercised
  - 
  - 
  - 
Forfeitures
  (43,333)
  (1.431)
  (62,000)
Outstanding as of September 30, 2020
  506,667 
 $1.496 
 $758,000 
 
 
22
 
 
The following table summarizes information about stock options outstanding and exercisable at September 30, 2020:
 
 
 
 
 
 
 
 
Weighted
 
 
 
 
 
 
 
 
Weighted
 
 
 
 
 
 
 
 
Average
 
 
Weighted
 
 
 
 
 
Average
 
 
Range of
 
 
Number
 
 
Remaining Life
 
 
Average
 
 
Number
 
 
Exercise Price
 
 
Exercise Prices
 
 
Outstanding
 
 
In Years
 
 
Exercise Price
 
 
Exerciseable
 
 
Exerciseable
 
 $0.90 
  80,000 
  2.50 
 $0.90 
  80,000 
 $0.90 
  1.05 
  66,667 
  2.50 
  1.05 
  66,667 
  1.05 
  1.50 
  106,665 
  2.41 
  1.50 
  106,666 
  1.50 
  1.80 
  253,335 
  3.50 
  1.80 
  147,778 
  1.80 
    
  506,667 
  2.98 
 $1.496 
  401,111 
 $1.42 
 
Stock option grants totaling 506,667 shares of common stock had no intrinsic value as of September 30, 2020.
 
The stock option grants were valued using the following assumptions:
 
Dividend yield
0%
Expected life
1-5 Years
Expected volatility
70-200%
Risk free interest rate
0.78-2.6%
 
16. SEGMENT REPORTING
 
The management of the Company considers the business to have two operating segments (i) the distribution of GrowLife products and (ii) EZ-CLONE, a manufacturer of cloning products. EZ-CLONE has provided the majority of the Company’s gross margins during 2019 and 2020. The financial results from GrowLife products has been diminishing with the Company’s focus on EZ-CLONE.
 
The reporting for the three and nine months ended September 30, 2020 and 2019 was as follows (in thousands):
 
 
 
 
 
 
 
 
 
Segment
 
 
 
 
 
 
 
 
 
Gross
 
 
Operating
 
 
Segment
 
Segment
 
Revenue
 
 
Margin
 
 
Profit (Loss)
 
 
Assets
 
Three Months Ended September 30, 2020
 
 
 
 
 
 
 
 
 
 
 
 
GrowLife distribution products
 $211 
 $35 
 $(680)
 $416 
EZ-CLONE cloning manufacturing (1)
  1,205 
  462 
  (72)
  3,881 
Total segments
 $1,416 
 $497 
 $(752)
 $4,297 
 
    
    
    
    
Three Months Ended September 30, 2019
    
    
    
    
GrowLife distribution products
 $1,156 
 $170 
 $(1,504)
 $992 
EZ-CLONE cloning manufacturing (1)
  1,143 
  576 
  (116)
  3,664 
Total segments
 $2,299 
 $746 
 $(1,620)
 $4,656 
 
 
 
 
 
 
 
 
 
Segment
 
 
 
 
 
 
 
 
 
Gross
 
 
Operating
 
 
Segment
 
Segment
 
Revenue
 
 
Margin
 
 
Profit (Loss)
 
 
Assets
 
Nine Months Ended September 30, 2020
 
 
 
 
 
 
 
 
 
 
 
 
GrowLife distribution products
 $1,540 
 $293 
 $(1,944)
 $416 
EZ-CLONE cloning manufacturing (2)
  3,388 
  1,585 
  81 
  3,881 
Total segments
 $4,928 
 $1,878 
 $(1,863)
 $4,297 
 
    
    
    
    
Nine Months Ended September 30, 2019
    
    
    
    
GrowLife distribution products
 $3,745 
 $728 
 $(3,829)
 $992 
EZ-CLONE cloning manufacturing (2)
  2,999 
  1,465 
  (527)
  3,664 
Total segments
 $6,744 
 $2,193 
 $(4,356)
 $4,656 
 
(1)
Includes $75,000 per quarter for EZ-CLONE expenses recorded at GrowLife for 2020. This also includes all acquisition balances discussed in Note 4.
 
(2)
Includes $75,000 per quarter for EZ-CLONE expenses recorded at GrowLife for 2020. This also includes all acquisition balances discussed in Note 4.
 
 
23
 
 
NOTE 17 – COMMITMENTS, CONTINGENCIES AND LEGAL PROCEEDINGS
 
Legal Proceedings
 
From time to time, the Company may become subject to various legal proceedings that are incidental to the ordinary conduct of its business. Although the Company cannot accurately predict the amount of any liability that may ultimately arise with respect to any of these matters, it makes provision for potential liabilities when it deems them probable and reasonably estimable. These provisions are based on current information and may be adjusted from time to time according to developments.
 
As of September 30, 2019, the Company closed retail stores in Portland, Maine, Encino, California and Calgary, Canada. The Company has recorded restructuring reserves related to the store closures. The Company cannot determine the outcome of these proceedings.
 
On October 15, 2018, the Company closed the Purchase and Sale Agreement with EZ-CLONE Enterprises, Inc., a California corporation (the “Agreement”).  On November 5, 2019, the Company amended the Agreement with one 24.5% shareholder of EZ-CLONE Enterprises, Inc. (“EZ-CLONE”), to extend the date to purchase the remaining 49% of stock of EZ-CLONE in exchange for a 20% extension fee (a total of $171,000 for the 49% or $85,500 for each 24.5% shareholder) of the $855,000 cash payable at the earlier of the closing of $2,000,000 in funding or nine months (July 2020). The Company did not close the purchase of the remaining 49% of stock of EZ-CLONE by the extended deadline.
 
On September 15, 2020, the Company received notice that William Blackburn and Brad Mickelsen (“Plaintiffs”), minority shareholders of EZ-CLONE Enterprises, Inc., a majority owned subsidiary of the Company, filed a complaint against the Company and its officers Marco Hegyi and Mark Scott (“Officers”), in the Superior Court of California, County of Sacramento (“Complaint”) for claims related to breach under the Purchase and Sale Agreement dated October 15, 2018 between the Company and Plaintiffs. On September 15, 2020, the Company filed a notice of removal with the California Superior Court, County of Sacramento and the United States District Court for the Eastern District of California.  The case was removed to Federal District Court for the Eastern District of California and Plaintiffs filed an Ex Parte Application for TRO and an Order for Preliminary Injunction with the Federal Court.  The TRO was granted on September 16, 2020 and a preliminary injunction hearing was scheduled for September 29, 2020.  After reviewing all pleadings and oral arguments at the hearing, the Court issued a ruling granting Plaintiffs’ request for a preliminary injunction.  Subsequent to September 29, 2020, the parties are providing legal briefs to the Federal court to determine if rescission should be granted. 
 
The Complaint also alleges that the Company and its Officers made certain false representations and other claims to consummate the Transaction and as a result has failed to complete the second closing as required under Purchase and Sale Agreement. The Plaintiffs are seeking rescission of the Purchase and Sale Agreement, unspecified damages in excess of ten thousand dollars, and other equitable relief. The Company cannot determine the outcome of these proceedings.
 
As of September 30, 2020, the Company has recorded a liability of $2,131,000 for acquisition payable of which a $1,105,000 is payable in stock and $1,026,000 is payable in cash.
 
Operating Leases
 
The Company is obligated under the following leases for its various facilities.
 
On May 31, 2020, the Company rented space at 5400 Carillon Point, Kirkland, Washington 98033 for $623 per month for the Company’s corporate office and use of space in the Regus network, including California. The Company’s agreement expires May 31, 2021.
 
On December 14, 2018, GrowLife, Inc. entered into a lease agreement with Pensco Trust Company for a 28,000 square feet industrial space at 10170 Croydon Way, Sacramento, California 95827 used for the assembly and sales of plastic parts by EZ-CLONE. The monthly lease payment is $17,500 and increases approximately 3% per year. The lease expires on December 31, 2023.
 
 
24
 
 
NOTE 18 – SUBSEQUENT EVENTS
 
The Company evaluates subsequent events, for the purpose of adjustment or disclosure, up through the date the financial statements are available.
 
There were the following material events subsequent to September 30, 2020:
 
Purchase and Sale Agreement with EZ-CLONE Enterprises, Inc.
 
On October 15, 2018, the Company closed the Purchase and Sale Agreement with EZ-CLONE Enterprises, Inc., a California corporation (the “Agreement”).  On November 5, 2019, we amended the Agreement with one 24.5% shareholder of EZ-CLONE Enterprises, Inc. (“EZ-CLONE”), to extend the date to purchase the remaining 49% of stock of EZ-CLONE in exchange for a 20% extension fee (a total of $171,000 for the 49% or $85,500 for each 24.5% shareholder) of the $855,000 cash payable at the earlier of the closing of $2,000,000 in funding or nine months (July 2020). The Company did not close the purchase of the remaining 49% of stock of EZ-CLONE by the extended deadline and is in discussions with the 24.5% shareholder.
 
On September 15, 2020, GrowLife, Inc. (the “Company”) received notice that William Blackburn and Brad Mickelsen, minority shareholders of EZ-CLONE Enterprises, Inc. (“Plaintiffs”), a majority owned subsidiary of the Company, filed a complaint against the Company and its officers Marco Hegyi and Mark Scott (“Officers”), in the Superior Court of California, County of Sacramento (“Complaint”) for claims related to breach under the Purchase and Sale Agreement dated October 15, 2018 between the Company and Plaintiffs. On September 15, 2020, the Company filed a notice of removal with the California Superior Court, County of Sacramento and the United States District Court for the Eastern District of California.  The case was removed to Federal District Court for the Eastern District of California and Plaintiffs filed an Ex Parte Application for TRO and an Order for Preliminary Injunction with the Federal Court.  The TRO was granted on September 16, 2020 and a preliminary injunction hearing was scheduled for September 29, 2020.  After reviewing all pleadings and oral arguments at the hearing, the Court issued a ruling granting Plaintiffs’ request for a preliminary injunction.  Subsequent to September 29, 2020, the parties are providing legal briefs to the Federal court to determine if rescission should be granted. 
 
The Complaint also alleges that the Company and its Officers made certain false representations and other claims to consummate the Transaction and as a result has failed to complete the second closing as required under Purchase and Sale Agreement. The Plaintiffs are seeking rescission of the Purchase and Sale Agreement, unspecified damages in excess of ten thousand dollars, and other equitable relief.
 
Securities Purchase Agreement and Self-Amortization Promissory Note with EMA Financial LLC, a Delaware limited liability company (“EMA”)
 
On October 2, 2020, the Company executed the following agreements with EMA: (i) Securities Purchase Agreement; and (ii) Self-Amortization Promissory Note (“Note”); (collectively the “EMA Agreements”). The Company entered into the EMA Agreements with the intent to acquire working capital to grow the Company’s businesses and complete the EZ-CLONE Enterprises, Inc. acquisition.
 
The total amount of funding under the EMA Agreements is $183,455. The Notes carry an original issue discount of $21,100, a transaction expense amount of $6,500, and a fee to J. H. Darbie & Co. of $21,150, for total debt of $221,000 (“Debt”). The Note has an amortization schedule of $19,550 on January 2, 2021 and monthly from February 2021 through January 2022. The Company issued commitment shares of 550,000 shares related to the EMA Agreements. The Company agreed to reserve 1,486,258 shares of its common stock for issuance if any Debt is converted. The Debt is due on or before January 2, 2022. The Debt carries an interest rate of twelve percent (12%). In the case of default, the debt is convertible into the Company’s common stock at the closing price the day before the conversion, subject to adjustment as provided for in the Note.
 
Securities Purchase Agreement and Self-Amortization Promissory Note with FirstFire Global Opportunities Fund, LLC, a Delaware limited liability company (“FF”)
 
On October 2, 2020, the Company executed the following agreements with FF: (i) Securities Purchase Agreement; and (ii) Self-Amortization Promissory Note (“Note”); (collectively the “FF Agreements”). The Company entered into the FF Agreements with the intent to acquire reduce debt.
 
The total amount of funding under the FF Agreements is $130,000. The Notes carry an original issue discount of $14,952, a transaction expense amount of $4,600, and a fee to J. H. Darbie & Co. of $7,050, for total debt of $156,602 (“Debt”). The Note has an amortization schedule of $13,853 on January 11, 2021 and monthly from February 2021 through January 2022. The Company issued commitment shares of 450,000 shares related to the FF Agreements. The Company agreed to reserve 1,486,258 shares of its common stock for issuance if any Debt is converted. The Debt is due on or before January 12, 2022. The Debt carries an interest rate of twelve percent (12%). In the case of default, the debt is convertible into the Company’s common stock at the closing price the day before the conversion, subject to adjustment as provided for in the Note.
 
Debt Conversion
 
Silverback Capital Corporation converted principal and accrued interest of $358,332 into 4,500,000 shares of the Company’s common stock at a per share conversion price of $0.080.
 
 
25
 
 
ITEM 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
Forward-looking statements in this report reflect the good-faith judgment of our management and the statements are based on facts and factors as we currently know them. Forward-looking statements are subject to risks and uncertainties and actual results and outcomes may differ materially from the results and outcomes discussed in the forward-looking statements. Factors that could cause or contribute to such differences in results and outcomes include, but are not limited to, those discussed below as well as those discussed elsewhere in this report (including in Part II, Item 1A (Risk Factors)). Readers are urged not to place undue reliance on these forward-looking statements because they speak only as of the date of this report. We undertake no obligation to revise or update any forward-looking statements in order to reflect any event or circumstance that may arise after the date of this report.
 
THE COMPANY AND OUR BUSINESS
 
GrowLife, Inc. (“GrowLife” or the “Company”) is incorporated under the laws of the State of Delaware and is headquartered in Kirkland, Washington. We were founded in 2012 with the Closing of the Agreement and Plan of Merger with SGT Merger Corporation.
 
FINANCIAL PERFORMANCE
 
GrowLife operates and provides essential business services and products on a state-by-state basis, as determined by state laws amid the COVID-19 pandemic. We had prepared for the planting season for many hemp farmers across the country in the first half of 2020. It was imperative for GrowLife to support these farmers by keeping EZ-CLONE and all GrowLife products available to them. Starting March 2020, we experienced growing sales for EZ-CLONE systems so much so that production could not keep up due to Covid-19 pandemic supplier delays and low shipments out of EZ-CLONE Enterprises. In the end, we completed the quarter ended September 30, 2020 with a record sales order backlog of $1.9 million for shipments in the fourth quarter.
 
The almost $2 million in sales not shipped in Q3 lowered our reported year over year revenue to $1.4 million as compared to $2.3 million for three months ended September 30, 2019. Yet, our gross profits, or revenue after our cost of sales, was reported at $0.5 million for three months ended September 30, 2020 as compared to last year’s $0.7 million. GrowLife blended gross margins of 38.1% for the nine months September 30, 2020 were up from 32.5% during the three months ended September 30, 2019.
 
In a scenario where we would have been able to ship what was sold, approximately $3.3 million would have been reported. However, that is not the case. Nor was the scenario of $1.2 million in gross margin at 36% realized, which may have brought us to profitability. Both of these scenarios were obtained on the sales side of GrowLife but not realized due to what we would attribute to ‘growing pains’, or our ability to scale-up EZ-CLONE production fast enough to satisfy the demand. As many people say, “it’s the problem we all want to have.”
 
Our cost controls are due to cost reductions implemented during the year ended December 31, 2019. We reduced operating expenses by $2.8 million during the nine months ended September 30, 2020 and reduced cash used in operations by $0.5 million from $2.0 million to $1.5 million. This enabled us to focus on the EZ-CLONE growth, which is proving out, making profitability attainable from this base business, and preparing us for our Hemp CBD expansion.
 
BRIDGING THE BASE AND EZ-CLONE WITH EXPANSION BUSINESS
 
GrowLife consists of a base business where it sells customers all growing equipment necessary to cultivate indoor and outdoor. We continue to deliver products as we have done so since 2012. The Company also produces the EZ-CLONE systems through our majority owned subsidiary EZ-CLONE ENTERPRISES. This Sacramento team assembles and ships the EZ-CLONE products to our customers. As a result, this base business combined with the EZ-CLONE sales represents over $3 million for Q3, including the backlog.
 
Our intention for expansion remains on the Hemp CBD business with plant starters (for example, seeds, clones and seedlings) where we have licensed multi-year exclusive genetics for assuring high-yielding, consistently preforming hemp plants that resist extreme heat/cold and most importantly, not going ‘hot’, i.e. not violating the THC threshold. Our confidence level for this expansion business remains high because the demand for CBD and other cannabinoids derived from hemp are strong. GrowLife is already working on its 2021 systems, offerings and partnerships.
 
EXPANSION BEYOND HEMP CBD
 
Earlier this month it was stated: “The House will vote on the MORE Act to decriminalize cannabis,” according to House Majority Leader Steny Hoyer. More than a third of Americans now live in states with full legalization, and a record 68 percent support federal cannabis legalization, according to Gallup. The movement with a new Administration is signaling legalization, again. While the promise is not new, what is new is how GrowLife is positioned to capitalize on such a change.
 
While such legislation would take time to implement, GrowLife’s base business in supplies and EZ-CLONE expect to benefit with such a change. However, the more exciting opportunity is that our new venture in starters with genetics in seeds and clones and partners has anticipated this possibility. We are prepared to expand with licensed partners into Cannabis along with Hemp CBD so long as the Federal laws support our ability to do so.
 
 
26
 
 
MOVING FORWARD
 
We believe that through our strategic investment in EZ-CLONE, we have positioned ourselves well to capitalize on this expanding market opportunity. Where EZ-CLONE was able to create a quality product with steady growth, GrowLife has propelled it into an international brand being utilized by some of the largest grow operations in the world. We intend to continue to grow its production capabilities to meet demand.
 
Through a network of knowledgeable representatives, GrowLife continues to provide essential and hard-to-find goods including media, industry-leading hydroponics equipment, organic plant nutrients, and thousands more products to specialty grow operations across the United States.
 
Genetics are the key to successfully serving farmers, both outdoor and indoor, with starters for CBx and beyond. We intend to secure and test the best genetics for the long run. To do so we will work with university researchers and obtain rights to high-value derivatives.
 
Please follow our shareholder updates as we seek to increase our manufacturing capacity, hiring additional sales and support staff and actualize on our vision of being the leading source of plant starter genetics and equipment for the hemp and cannabis market and meet the demand as it continues to rise.
 
Employees
 
As of September 30, 2020, we had twenty-two full-time and part-time employees. Marco Hegyi, our Chief Executive Officer, is based in Kirkland, Washington. Mark E. Scott, our Chief Financial Officer, is based primarily in Seattle, Washington. We have approximately 9 full and part time employees located throughout the United States who operate our businesses. We employ 11 full-time and part-time employees at EZ-CLONE in Sacramento, CA. None of our employees are subject to a collective bargaining agreement or represented by a trade or labor union. We believe that we have a good relationship with our employees.
 
Key Partners
 
Our key customers vary by state and are expected to be more defined as the company moves from its retail walk-in purchasing sales strategy to serving cultivation facilities directly and under predictable purchasing contracts.  
 
Our key suppliers include distributors and manufacturers. All the products purchased and resold are applicable to indoor growing for organics, greens, and plant-based medicines.
 
Competition
 
Covering two countries across all cultivator segments creates competitors that also serve as partners. Large commercial cultivators have found themselves willing to assume their own equipment support by buying large volume purchased directly from certain suppliers and distributors such as Hawthorne and HydroFarm. Other key competitors on the retail side consist of local and regional hydroponic resellers of indoor growing equipment. On the e-commerce business, GrowersHouse.com, Hydrobuilder.com and smaller online resellers using Amazon and eBay e-commerce market systems.
 
Intellectual Property and Proprietary Rights
 
Our intellectual property consists of brands and their related trademarks and websites, customer lists and affiliations, product know-how and technology, and marketing intangibles.
 
Our other intellectual property is primarily in the form of trademarks and domain names. We also hold rights to several website addresses related to our business including websites that are actively used in our day-to-day business such as www.shopgrowlife.com, www.growlifeinc.com, and www.greners.com.We have a policy of entering into confidentiality and non-disclosure agreements with our employees, some of our vendors and customers as necessary.
 
 
27
 
 
Acquisition of EZ-CLONE
 
On October 15, 2018, we closed the Purchase and Sale Agreement with EZ-CLONE Enterprises, Inc., a California corporation (the “Agreement”).  On November 5, 2019, we amended the Agreement with one 24.5% shareholder of EZ-CLONE Enterprises, Inc. (“EZ-CLONE”), to extend the date to purchase the remaining 49% of stock of EZ-CLONE in exchange for a 20% extension fee (a total of $171,000 for the 49% or $85,500 for each 24.5% shareholder) of the $855,000 cash payable at the earlier of the closing of $2,000,000 in funding or nine months (July 2020). The Company did not close the purchase of the remaining 49% of stock of EZ-CLONE by the extended deadline.
 
On September 15, 2020, GrowLife, Inc. (the “Company”) received notice that William Blackburn and Brad Mickelsen (“Plaintiffs”), minority shareholders of EZ-CLONE Enterprises, Inc., a majority owned subsidiary of the Company, filed a complaint against the Company and its officers Marco Hegyi and Mark Scott (“Officers”), in the Superior Court of California, County of Sacramento (“Complaint”) for claims related to breach under the Purchase and Sale Agreement dated October 15, 2018 between the Company and Plaintiffs. The Complaint also alleges that the Company and its Officers made certain false representations and other claims to consummate the Transaction and as a result has failed to complete the second closing as required under Purchase and Sale Agreement. The Plaintiffs are seeking rescission of the Purchase and Sale Agreement, unspecified damages in excess of ten thousand dollars, and other equitable relief.
 
On September 15, 2020, the Company filed a notice of removal with the California Superior Court, County of Sacramento and the United States District Court for the Eastern District of California.  The case was removed to Federal District Court for the Eastern District of California and Plaintiffs filed an Ex Parte Application for TRO and an Order for Preliminary Injunction with the Federal Court.  The TRO was granted on September 16, 2020 and a preliminary injunction hearing was scheduled for September 29, 2020.  After reviewing all pleadings and oral arguments at the hearing, the Court issued a ruling granting Plaintiffs’ request for a preliminary injunction.  Presently the parties are providing legal briefs to the Federal court to determine if rescission should be granted. 
 
As of September 30, 2020, the Company has recorded a liability of $2,131,000 for acquisition payable of which a $1,105,000 is payable in stock and $1,026,000 is payable in cash.
 
                            
 
Government Regulation
 
Currently, there are thirty five states plus the District of Columbia that have laws and/or regulation that recognize in one form or another legitimate medical uses for cannabis and consumer use of cannabis in connection with medical treatment. There are currently fifteen states and the District of Columbia that allow recreational use of cannabis. As of September 30, 2020, the policy and regulations of the Federal government and its agencies is that cannabis has no medical benefit and a range of activities including cultivation and use of cannabis for personal use is prohibited on the basis of federal law and may or may not be permitted on the basis of state law. Active enforcement of the current federal regulatory position on cannabis on a regional or national basis may directly and adversely affect the willingness of customers of GrowLife to invest in or buy products from GrowLife. Active enforcement of the current federal regulatory position on cannabis may thus indirectly and adversely affect revenues and profits of the GrowLife companies.
 
All this being said, many reports show that the majority of the American public is in favor of making medical cannabis available as a controlled substance to those patients who need it. The need and consumption will then require cultivators to continue to provide safe and compliant crops to consumers. The cultivators will then need to build facilities and use consumable products, which GrowLife provides.
 
OUR COMMON STOCK
 
As of March 4, 2019, we began to trade on the Pink Sheet stocks system. Our bid price had closed below $0.01 for more than 30 consecutive calendar days. As of March 17, 2020, we commenced trading on the OTCQB Market ("OTCQB") after successfully up-listing from the OTC Pink Market.
 
PRIMARY RISKS AND UNCERTAINTIES
 
We are exposed to various risks related to legal proceedings, our need for additional financing, the sale of significant numbers of our shares, the potential adjustment in the exercise price of our convertible debentures and a volatile market price for our common stock. These risks and uncertainties are discussed in more detail below in Part II, Item 1A. 
 
 
28
 
 
RESULTS OF OPERATIONS
 
The following table presents certain consolidated statement of operations information and presentation of that data as a percentage of change from period-to-period.
 
(dollars in thousands)
 
 
 
 
Three Months Ended September 30,
 
 
 
2020
 
 
2019
 
 
$ Variance
 
 
% Variance
 
Net revenue
 $1,416 
 $2,299 
 $(883)
  -38.4%
Cost of goods sold
  919 
  1,553 
  (634)
  40.8%
Gross profit
  497 
  746 
  (249)
  -33.4%
General and administrative expenses
  1,249 
  2,366 
  (1,117)
  47.2%
Operating loss
  (752)
  (1,620)
  868 
  53.6%
Other income (expense):
    
    
    
    
Change in fair value of derivative
  130 
  (147)
  277 
  188.4%
Interest expense, net
  (325)
  (183)
  (142)
  -77.6%
Loss on debt conversions
  (144)
  (132)
  (12)
  -9.1%
Total other expense, net
  (339)
  (462)
  123 
  26.6%
Loss before income taxes
  (1,091)
  (2,082)
  991 
  47.6%
Income taxes - current benefit
  29 
  - 
  29 
  100.0%
Net loss
 $(1,062)
 $(2,082)
 $1,020 
  49.0%
 
THREE MONTHS ENDED SEPTEMBER 30, 2020 AS COMPARED TO THE THREE MONTHS ENDED SEPTEMBER 30, 2019
 
Revenue
 
Net revenue for the three months ended September 30, 2020 decreased by $883,000 to $1,416,000 from $2,299,000 for the three months ended September 30, 2019. Our September 30, 2020 quarter was impacted by the Covid-19 pandemic and low shipments at EZ-CLONE. However, we have a sales order backlog of $1,929,000 into the fourth quarter. The GrowLife distribution revenue for the three months ended September 30, 2020 was $211,000 as compared to $1,156,000 for the three months ended September 30, 2019. The EZ-CLONE revenue for the three months ended September 30, 2020 was $1,205,000 as compared to $1,143,000 for the three months ended September 30, 2019.
 
The decrease was related primarily to lower revenue from GrowLife distribution products. Our September 30, 2020 quarter was impacted by the Covid-19 pandemic and lower than expected of shipments at EZ-CLONE. However, we have a sales order backlog of $1,929,000 for shipment in the fourth quarter.
 
Cost of Goods Sold
 
Cost of sales for the three months ended September 30, 2020 decreased by $634,000 to $919,000 from $1,553,000 for the three months ended September 30, 2019.
 
Gross profit was $497,000 for the three months ended September 30, 2020 as compared to a gross profit of $746,000 for the three months ended September 30, 2019. The gross profit percentage was 35.1% for the three months ended September 30, 2020 as compared to 32.4% for the three months ended September 30, 2019. The increase in gross profit margin related to favorable product mix related to the acquisition of EZ-CLONE on October 15, 2018. EZ-CLONE reported a gross profit percentage of 38.4% during the three months ended September 30, 2020 as compared to 50.4% for the three months ended September 30, 2019.
 
General and Administrative Expenses
 
General and administrative expenses for the three months ended September 30, 2020 were $1,249,000 as compared to $2,366,000 for the three months ended September 30, 2019. The variances were as follows: (i) a decrease in non-cash and restructuring and amortization expenses of $996,000; (iii) a decrease in rent expense of $72,000; (iv) a decrease in sales and marketing expenses of $68,000; (v) decreased insurance of $38,000; offset by (vi) increased other expenses of $57,000. As part of the general and administrative expenses for the three months ended September 30, 2020, we recorded public relation, investor relation or business development expenses of $500. We implemented a cost reduction program during the year ended December 31, 2019.
 
 
29
 
 
Non-cash general and administrative expenses for the three months ended September 30, 2020 included non-cash expenses of $214,000 including (i) depreciation of $9,000; (ii) amortization of intangible assets of $168,000; and (iii) stock based compensation of $37,000 related to stock option grants and warrants.
 
The decrease in non-cash and restructuring and amortization expenses of $996,000 related primarily to the closure of retail stores in Portland, Maine, Encino, California and Calgary, Canada and online sales as of September 30, 2019. Also, we closed the sale of the flooring division located in Grand Prairie, Texas. As of September 30, 2019, we recorded restructuring expense of $306,000 for the sale of the flooring division and $250,000 for the closure of the retail stores and online sales.
 
Non-cash general and administrative expenses for the three months ended September 30, 2019 included non-cash expenses of $310,000 including (i) depreciation of ($16,000); (ii) amortization of intangible assets of $285,000; and (iii) stock based compensation of $41,000 related to stock option grants and warrants.
 
Other Expense
 
Other expense for the three months ended September 30, 2020 was $339,000 as compared to other expense of $462,000 for the three months ended September 30, 2019. The other expense for the three months ended September 30, 2020 included (i) reduction in derivative liability of $130,000; offset by (ii) interest expense of $325,000; and (iii) loss on debt conversions of $144,000. The change in derivative liability is the non-cash change in the fair value and relates to our derivative instruments. The non-cash interest related to accrued interest expense and amortization of issuance costs on our notes payable. The loss on debt conversions related to the conversion of our notes payable at prices below the market price.
 
The other expense for the three months ended September 30, 2019 included (i) increase in derivative liability of $147,000; (ii) interest expense of $183,000; and (iii) loss on debt conversions of $132,000. The change in derivative liability is the non-cash change in the fair value and relates to our derivative instruments. The non-cash interest related to accrued interest expense on our notes payable. The loss on debt conversions related to the conversion of our notes payable at prices below the market price.
 
Net Loss
 
Net loss for the three months ended September 30, 2020 was $1,062,000 as compared to $2,082,000 for the three months ended September 30, 2019 for the reasons discussed above.
 
Net loss for the three months ended September 30, 2020 included non-cash expenses of $477,000 including (i) depreciation of $9,000; (ii) amortization of intangible assets of $168,000; (iii) stock based compensation of $37,000 related to stock option grants and warrants; (iv) accrued interest and amortization of issuance costs on convertible notes payable of $250,000; and (v) loss on debt conversions of $143,000; offset by (vi) gain from change in derivative liability of $130,000.
 
Net loss for the three months ended September 30, 2019 included non-cash expenses of $1,286,000 including (i) depreciation of $15,000; (ii) restructuring reserve- retail stores, on line sales and flooring division of $555,000; (iii) amortization of intangible assets of $285,000; (iv) stock based compensation of $41,000 related to stock option grants and warrants; (v) accrued interest on convertible notes payable of $58,000; (vi) loss on debt conversions of $132,000; (vii) noncontrolling interest in EZ-CLONE Enterprises, Inc. of $82,000; and (viii) change in derivative liability of $148,000.
 
We expect losses to continue as we implement our business plan.
 
The following table presents certain consolidated statement of operations information and presentation of that data as a percentage of change from period-to-period.
 
(dollars in thousands)
 
 
 
Nine Months Ended September 30,
 
 
 
2020
 
 
2019
 
 
$ Variance
 
 
% Variance
 
Net revenue
 $4,928 
 $6,744 
 $(1,816)
  -26.9%
Cost of goods sold
  3,050 
  4,551 
  (1,501)
  33.0%
Gross profit
  1,878 
  2,193 
  (315)
  -14.4%
General and administrative expenses
  3,741 
  6,549 
  (2,808)
  42.9%
Operating loss
  (1,863)
  (4,356)
  2,493 
  57.2%
Other income (expense):
    
    
    
    
Change in fair value of derivative
  (28)
  361 
  (389)
  -107.8%
Interest expense, net
  (767)
  (410)
  (357)
  -87.1%
Loss on debt conversions
  (435)
  (1,706)
  1,271 
  74.5%
Gain on extinguishment of debt
  39 
  - 
  39 
  100.0%
Total other expense, net
  (1,191)
  (1,755)
  564 
  32.1%
Loss before income taxes
  (3,054)
  (6,111)
  3,057 
  50.0%
Income taxes - current benefit
  88 
  - 
  88 
  100.0%
Net loss
 $(2,966)
 $(6,111)
 $3,145 
  51.5%
 
 
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NINE MONTHS ENDED SEPTEMBER 30, 2020 AS COMPARED TO THE NINE MONTHS ENDED SEPTEMBER 30, 2019
 
Revenue
 
Net revenue for the nine months ended September 30, 2020 decreased by $1,816,000 to $4,928,000 from $6,744,000 for the nine months ended September 30, 2019. The nine months ended September 30, 2020 was impacted by the Covid-19 pandemic and low shipments at EZ-CLONE. However, we have a sales order backlog of $1,929,000 for shipment in the fourth quarter.  The GrowLife distribution revenue for the nine months ended September 30, 2020 was $1,540,000 as compared to $3,745,000 for the nine months ended September 30, 2019. The EZ-CLONE revenue for the nine months ended September 30, 2020 was $3,388,000 as compared to $2,999,000 for the nine months ended September 30, 2019.
 
Cost of Goods Sold
 
Cost of sales for the nine months ended September 30, 2020 decreased by $1,501,000 to $3,050,000 from $4,551,000 for the nine months ended September 30, 2019.
 
Gross profit was $1,878,000 for the nine months ended September 30, 2020 as compared to a gross profit of $2,193,000 for the nine months ended September 30, 2019. The gross profit percentage was 38.1% for the nine months ended September 30, 2020 as compared to 32.5% for the nine months ended September 30, 2019. The increase in gross profit margin was due to favorable product mix related to the acquisition of EZ-CLONE on October 15, 2018. EZ-CLONE reported a gross profit percentage of 46.8% during the nine months ended September 30, 2020 as compared to 51.1% for the nine months ended September 30, 2019.
 
General and Administrative Expenses
 
General and administrative expenses for the nine months ended September 30, 2020 were $3,741,000 as compared to $6,549,000 for the nine months ended September 30, 2019. The variances were as follows: (i) a decrease in non-cash, restructuring and amortization expenses of $1,120,000; (ii) a decrease in payroll expenses of $378,000; (iii) a decrease in rent expense of $261,000; (iv) a decrease in sales and marketing expenses of $221,000; (v) decreased insurance of $115,000; (vi) decreased consulting of $122,000; and (vii) decreased other expenses of $593,000. As part of the general and administrative expenses for the nine months ended September 30, 2020, we recorded public relation, investor relation or business development expenses of $1,500. We implemented a cost reduction program during the year ended December 31, 2019.
 
Non-cash general and administrative expenses for the nine months ended September 30, 2020 included non-cash expenses of $656,000 including (i) depreciation of $28,000; (ii) amortization of intangible assets of $504,000; (iii) stock based compensation of $112,000 related to stock option grants and warrants; and (iv) common stock issued for services of $12,000.
 
The decrease in non-cash and restructuring and amortization expenses of $1,120,000 related primarily to the closure of retail stores in Portland, Maine, Encino, California and Calgary, Canada and online sales as of September 30, 2019. Also, we closed the sale of the flooring division located in Grand Prairie, Texas. As of September 30, 2019, we recorded restructuring expense of $306,000 for the sale of the flooring division and $250,000 for the closure of the retail stores and online sales.
 
Non-cash general and administrative expenses for the nine months ended September 30, 2019 included non-cash expenses of $1,220,000 including (i) depreciation of $69,000; (ii) amortization of intangible assets of $856,000; (iii) stock based compensation of $121,000 related to stock option grants and warrants; and (iv) common stock issued for services of $174,000.
 
Other Expense
 
Other expense for the nine months ended September 30, 2020 was $1,191,000 as compared to other expense of $1,755,000 for the nine months ended September 30, 2019. The other expense for the nine months ended September 30, 2020 included (i) loss from the increase in derivative liability of $28,000; (ii) interest expense of $767,000; and (iii) loss on debt conversions of $435,000; and (iv) offset by gain on extinguishment of $39,000. The change in derivative liability is the non-cash change in the fair value and relates to our derivative instruments. The non-cash interest related to accrued interest expense on our notes payable. The loss on debt conversions related to the conversion of our notes payable at prices below the market price.
 
The other expense for the nine months ended September 30, 2019 included (i) reduction in derivative liability of $361,000; offset by (ii) interest expense of $410,000; and (iii) loss on debt conversions of $1,706,000. The change in derivative liability is the non-cash change in the fair value and relates to our derivative instruments. The non-cash interest related to accrued interest expense on our notes payable. The loss on debt conversions related to the conversion of our notes payable at prices below the market price.
 
 
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Net Loss
 
Net loss for the nine months ended September 30, 2020 was $2,966,000 as compared to $6,111,000 for the nine months ended September 30, 2019 for the reasons discussed above.
 
Net loss for the nine months ended September 30, 2020 included non-cash expenses of $1,769,000 including (i) depreciation of $28,000; (ii) amortization of intangible assets of $504,000; (iii) stock based compensation of $112,000 related to stock option grants and warrants; (iv) common stock issued for services of $12,000; (v) accrued interest and amortization of issuance costs on convertible notes payable of $689,000; (vi) change in derivative liability of $28,000; and (vii) loss on debt conversions of $395,000.
 
Net loss for the nine months ended September 30, 2019 included non-cash expenses of non-cash expenses of $3,395,000 including (i) depreciation of $69,000; (ii) restructuring reserve- retail stores, on line sales and flooring division of $555,000; (v) amortization of intangible assets of $856,000; (vi) stock based compensation of $121,000 related to stock option grants and warrants; (vii) common stock issued for services of $174,000; (viii) accrued interest on convertible notes payable of $185,000; (ix) loss on debt conversions of $1,707,000; and (x) noncontrolling interest in EZ-CLONE Enterprises, Inc. of $89,000; offset by (xi) change in derivative liability of $(361,000).
 
We expect losses to continue as we implement our business plan.
 
LIQUIDITY AND CAPITAL RESOURCES
 
We adopted the Financial Accounting Standards Board’s (“FASB”) Accounting Standard Codification (“ASC”) Topic 205-40, Presentation of Financial Statements – Going Concern, which requires that management evaluate whether there are relevant conditions and events that, in the aggregate, raise substantial doubt about the entity’s ability to continue as a going concern and to meet its obligations as they become due within one year after the date that the financial statements are issued.
  
The accompanying financial statements have been prepared assuming that we will continue as a going concern. However, since inception, we have sustained significant operating losses and such losses are expected to continue for the foreseeable future. As of September 30, 2020, we had an accumulated deficit of $151.4 million, cash and cash equivalents of $634.7 thousand and a working capital deficit of $1.74 million excluding derivative liability, convertible debt, right of use liability and deferred revenue). Additionally, we used cash in operating activities of $1,452,000, $2,910,000 and $3,855,000 for the nine months ended September 30, 2020 and the years ended December 31, 2019 and 2018 respectively. We will require additional cash funding to fund operations beyond September 30, 2020. Accordingly, management has concluded that we do not have sufficient funds to support operations within one year after the date the financial statements are issued and, therefore, we concluded there was substantial doubt about the Company’s ability to continue as a going concern.
 
To fund further operations, we will need to raise additional capital. We may obtain additional financing in the future through the issuance of its common stock, or through other equity or debt financings. Our ability to continue as a going concern or meet the minimum liquidity requirements in the future is dependent on its ability to raise significant additional capital, of which there can be no assurance. If the necessary financing is not obtained or achieved, we will likely be required to reduce its planned expenditures, which could have an adverse impact on the results of operations, financial condition and our ability to achieve its strategic objective. There can be no assurance that financing will be available on acceptable terms, or at all. The financial statements contain no adjustments for the outcome of these uncertainties. These factors raise substantial doubt about our ability to continue as a going concern and have a material adverse effect on our future financial results, financial position and cash flows.
 
Securities Purchase Agreement and Self-Amortization Promissory Note with EMA Financial LLC, a Delaware limited liability company (“EMA”)
 
On October 2, 2020, we executed the following agreements with EMA: (i) Securities Purchase Agreement; and (ii) Self-Amortization Promissory Note (“Note”); (collectively the “EMA Agreements”). The Company entered into the EMA Agreements with the intent to acquire working capital to grow the Company’s businesses and complete the EZ-CLONE Enterprises, Inc. acquisition.
 
The total amount of funding under the EMA Agreements is $183,455. The Notes carry an original issue discount of $21,100, a transaction expense amount of $6,500, and a fee to J. H. Darbie & Co. of $21,150, for total debt of $221,000 (“Debt”). The Note has an amortization schedule of $19,550 on January 2, 2021 and monthly from February 2021 through January 2022. We issued commitment shares of 550,000 shares related to the EMA Agreements. We agreed to reserve 1,486,258 shares of its common stock for issuance if any Debt is converted. The Debt is due on or before January 2, 2022. The Debt carries an interest rate of twelve percent (12%). In the case of default, the debt is convertible into our common stock at the closing price the day before the conversion, subject to adjustment as provided for in the Note.
 
 
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Securities Purchase Agreement and Self-Amortization Promissory Note with FirstFire Global Opportunities Fund, LLC, a Delaware limited liability company (“FF”)
 
On October 2, 2020, we executed the following agreements with FF: (i) Securities Purchase Agreement; and (ii) Self-Amortization Promissory Note (“Note”); (collectively the “FF Agreements”). The Company entered into the FF Agreements with the intent to acquire reduce debt.
 
The total amount of funding under the FF Agreements is $130,000. The Notes carry an original issue discount of $14,952, a transaction expense amount of $4,600, and a fee to J. H. Darbie & Co. of $7,050, for total debt of $156,602 (“Debt”). The Note has an amortization schedule of $13,853 on January 11, 2021 and monthly from February 2021 through January 2022. We issued commitment shares of 450,000 shares related to the FF Agreements. We agreed to reserve 1,486,258 shares of its common stock for issuance if any Debt is converted. The Debt is due on or before January 12, 2022. The Debt carries an interest rate of twelve percent (12%). In the case of default, the debt is convertible into our common stock at the closing price the day before the conversion, subject to adjustment as provided for in the Note.
 
Operating Activities
 
Net cash used in operating activities for the nine months ended September 30, 2020 was $1,452,000. This amount was primarily related to a (i) net loss of $2,966,000, and (ii) net working capital increase of $360,000; offset by (iii) non-cash expenses of $1,769,000 including (iv) depreciation of $28,000; (v) amortization of intangible assets of $504,000; (vi) stock based compensation of $112,000 related to stock option grants and warrants; (vii) common stock issued for services of $12,000; (viii) accrued interest and amortization of issuance costs on convertible notes payable of $689,000; (ix) change in derivative liability of $28,000; and (x) loss on debt conversions of $395,000.
 
Financing Activities
 
Net cash provided by financing activities for the nine months ended September 30, 2020 was $2,046,000. The amount related to proceeds from note payable of $2,213,000, offset by repayment of convertible notes payable of $167,000.
 
Our contractual cash obligations as of September 30, 2020 are summarized in the table below:
 
 
 
 
 
 
Less Than
 
 
 
 
 
 
 
Contractual Cash Obligations
 
Total
 
 
1 Year
 
 
1-3 Years
 
 
4-5 Years
 
Operating lease cash payments
 $688,569 
 $214,983 
 $422,129 
 $51,457 
Convertible notes payable and accrued interest
  2,786,632 
  2,786,632 
  - 
  - 
Notes payable
  1,340,236 
  941,557 
  398,679 
  - 
Acquisition of 49% of EZ-CLONE Enterprises, Inc.
  1,026,000 
  1,026,000 
  - 
  - 
 
 $5,841,437 
 $4,969,172 
 $820,808 
 $51,457 
 
OFF-BALANCE SHEET ARRANGEMENTS
 
We do not have any off-balance sheet arrangements (as that term is defined in Item 303 of Regulation S-K) that are reasonably likely to have a current or future material effect on our financial condition, revenue or expenses, results of operations, liquidity, capital expenditures or capital resources.
 
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
 
This item is not applicable. 
 
ITEM 4. CONTROLS AND PROCEDURES
 
a) Evaluation of Disclosure Controls and Procedures
 
We conducted an evaluation under the supervision and with the participation of our management, of the effectiveness of the design and operation of our disclosure controls and procedures. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Securities and Exchange Act of 1934, as amended (“Exchange Act”), means controls and other procedures of a company that are designed to ensure that information required to be disclosed by the company in the reports it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission's rules and forms. Disclosure controls and procedures also include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company's management, including its principal executive and principal financial officers, or persons performing similar functions, as appropriate, to allow timely decisions regarding required disclosure. Based on this evaluation, our principal executive and principal financial officers concluded as of September 30, 2020, that our disclosure controls and procedures were not effective at the reasonable assurance level due to the material weaknesses in our internal controls over financial reporting discussed immediately below.
 
 
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Identified Material Weakness
 
A material weakness in our internal control over financial reporting is a control deficiency, or combination of control deficiencies, that results in more than a remote likelihood that a material misstatement of the financial statements will not be prevented or detected.
 
Management identified the following material weakness during its assessment of internal controls over financial reporting:
 
Audit Committee:
 
The current Audit Committee has two independent directors, but the Chairman is an interim Named Executive Officer. We expect to expand this committee during 2020.
 
b) Changes in Internal Control over Financial Reporting
 
During the quarter ended September 30, 2020, there were no changes in our internal controls over financial reporting during this fiscal quarter, which were identified in connection with our management’s evaluation required by paragraph (d) of rules 13a-15 and 15d-15 under the Exchange Act, that materially affected, or is reasonably likely to have a materially affect, on our internal control over financial reporting.
 
PART II.     OTHER INFORMATION
 
Item 1.  Legal Proceedings.
 
From time to time, we may become subject to various legal proceedings that are incidental to the ordinary conduct of its business. Although we cannot accurately predict the amount of any liability that may ultimately arise with respect to any of these matters, it makes provision for potential liabilities when it deems them probable and reasonably estimable. These provisions are based on current information and may be adjusted from time to time according to developments.
 
As of September 30, 2019, we closed retail stores in Portland, Maine, Encino, California and Calgary, Canada. We have recorded restructuring reserves related to the store closures. We cannot determine the outcome of these proceedings.
 
On October 15, 2018, we closed the Purchase and Sale Agreement with EZ-CLONE Enterprises, Inc., a California corporation (the “Agreement”).  On November 5, 2019, the Company amended the Agreement with one 24.5% shareholder of EZ-CLONE Enterprises, Inc. (“EZ-CLONE”), to extend the date to purchase the remaining 49% of stock of EZ-CLONE in exchange for a 20% extension fee (a total of $171,000 for the 49% or $85,500 for each 24.5% shareholder) of the $855,000 cash payable at the earlier of the closing of $2,000,000 in funding or nine months (July 2020). We did not close the purchase of the remaining 49% of stock of EZ-CLONE by the extended deadline.
 
On September 15, 2020, we received notice that William Blackburn and Brad Mickelsen, minority shareholders of EZ-CLONE Enterprises, Inc. (“Plaintiffs”), a majority owned subsidiary of the Company, filed a complaint against the Company and its officers Marco Hegyi and Mark Scott (“Officers”), in the Superior Court of California, County of Sacramento (“Complaint”) for claims related to breach under the Purchase and Sale Agreement dated October 15, 2018 between the Company and Plaintiffs. On September 15, 2020, the Company filed a notice of removal with the California Superior Court, County of Sacramento and the United States District Court for the Eastern District of California.  The case was removed to Federal District Court for the Eastern District of California and Plaintiffs filed an Ex Parte Application for TRO and an Order for Preliminary Injunction with the Federal Court.  The TRO was granted on September 16, 2020 and a preliminary injunction hearing was scheduled for September 29, 2020.  After reviewing all pleadings and oral arguments at the hearing, the Court issued a ruling granting Plaintiffs’ request for a preliminary injunction.  Subsequent to September 29, 2020, the parties are providing legal briefs to the Federal court to determine if rescission should be granted. We cannot determine the outcome of these proceedings.
 
The Complaint also alleges that the Company and its Officers made certain false representations and other claims to consummate the Transaction and as a result has failed to complete the second closing as required under Purchase and Sale Agreement. The Plaintiffs are seeking rescission of the Purchase and Sale Agreement, unspecified damages in excess of ten thousand dollars, and other equitable relief.
 
As of September 30, 2020, we recorded a liability of $2,131,000 for acquisition payable of which a $1,105,000 is payable in stock and $1,026,000 is payable in cash.
 
 
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Item 1A. Risk Factors.
 
There are certain inherent risks which will have an effect on our development in the future and the most significant risks and uncertainties known and identified by our management are described below.
 
Risks Related to Pandemics 
 
The effects of the recent COVID-19 coronavirus pandemic are not immediately known, but may adversely affect our business, results of operations, financial condition, liquidity, and cash flow. 
 
Presently, the impact of COVID-19 has not shown any imminent adverse effects on our business. This notwithstanding, it is still unknown and difficult to predict what adverse effects, if any, COVID-19 can have on our business, or against the various aspects of same, or how COVID-19 will continue to effect the world as the virus case numbers rise and fall.
 
As of the date of this Quarterly Report, COVID-19 coronavirus has been declared a pandemic by the World Health Organization, has been declared a National Emergency by the United States Government and has resulted in several states being designated disaster zones. COVID-19 coronavirus caused significant volatility in global markets. The spread of COVID-19 coronavirus has caused public health officials to recommend precautions to mitigate the spread of the virus, especially as to travel and congregating in large numbers. In addition, certain states and municipalities have enacted, and additional cities are considering, quarantining and “shelter-in-place” regulations which severely limit the ability of people to move and travel and require non-essential businesses and organizations to close. While some states are considering lifting their “shelter-in-place” restrictions and travel bans, as they are removed there is no certainty that an outbreak will not occur and additional restrictions imposed again in response.
 
It is unclear how such restrictions, which will contribute to a general slowdown in the global economy, will affect our business, results of operations, financial condition and our future strategic plans.
 
Recent shelter-in-place and essential-only travel regulations could negatively impact our customers. In addition, while our products are manufactured in the United States, we still could experience significant supply chain disruptions due to interruptions in operations at any or all of our suppliers’ facilities or downline suppliers. If we experience significant delays in receiving our products we will experience delays in fulfilling orders and ultimately receiving payment, which could result in loss of sales and a loss of customers, and adversely impact our financial condition and results of operations. The current status of COVID-19 coronavirus closures and restrictions could also negatively impact our ability to receive funding from our existing capital sources as each business is and has been affected uniquely.
 
If any of our employees, consultant, customers, or visitors were to become infected we could be forced to close our operations temporarily as a preventative measure to prevent the risk of spread which could also negatively impact our ability to receive funding from our existing capital sources as each business is and has been affected uniquely
 
In addition, our headquarters are located in Seattle, Washington and EZ-Clone is located in Sacramento, California, each of which have experienced restrictions on individuals and business shutdowns as the result of COVID-19. It is unclear at this time how these restrictions will be continued and/or amended as the pandemic evolves. We are hopeful that COVID-19 closures will have only a limited effect on our operations and revenues.
 
General securities market uncertainties resulting from the COVID-19 pandemic. 
 
Since the outset of the pandemic the United States and worldwide national securities markets have undergone unprecedented stress due to the uncertainties of the pandemic and the resulting reactions and outcomes of government, business and the general population. These uncertainties have resulted in declines in all market sectors, increases in volumes due to flight to safety and governmental actions to support the markets. As a result, until the pandemic has stabilized, the markets may not be available to the Company for purposes of raising required capital.  Should we not be able to obtain financing when required, in the amounts necessary to execute on our plans in full, or on terms which are economically feasible we may be unable to sustain the necessary capital to pursue our strategic plan and may have to reduce the planned future growth and/or scope of our operations.
 
Risks Related to Our Business
 
Risks Associated with EZ-CLONE Enterprises, Inc.
 
On October 15, 2018, we closed the Purchase and Sale Agreement with EZ-CLONE Enterprises, Inc., a California corporation (the “Agreement”).  On November 5, 2019, the Company amended the Agreement with one 24.5% shareholder of EZ-CLONE Enterprises, Inc. (“EZ-CLONE”), to extend the date to purchase the remaining 49% of stock of EZ-CLONE in exchange for a 20% extension fee (a total of $171,000 for the 49% or $85,500 for each 24.5% shareholder) of the $855,000 cash payable at the earlier of the closing of $2,000,000 in funding or nine months (July 2020). We did not close the purchase of the remaining 49% of stock of EZ-CLONE by the extended deadline.
 
 
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On September 15, 2020, we received notice that William Blackburn and Brad Mickelsen (“Plaintiffs”), minority shareholders of EZ-CLONE Enterprises, Inc., a majority owned subsidiary of the Company, filed a complaint against the Company and its officers Marco Hegyi and Mark Scott (“Officers”), in the Superior Court of California, County of Sacramento (“Complaint”) for claims related to breach under the Purchase and Sale Agreement dated October 15, 2018 between the Company and Plaintiffs. The Complaint also alleges that the Company and its Officers made certain false representations and other claims to consummate the Transaction and as a result has failed to complete the second closing as required under Purchase and Sale Agreement. The Plaintiffs are seeking rescission of the Purchase and Sale Agreement, unspecified damages in excess of ten thousand dollars, and other equitable relief.
 
On September 15, 2020, the Company filed a notice of removal with the California Superior Court, County of Sacramento and the United States District Court for the Eastern District of California.  The case was removed to Federal District Court for the Eastern District of California and Plaintiffs filed an Ex Parte Application for TRO and an Order for Preliminary Injunction with the Federal Court.  The TRO was granted on September 16, 2020 and a preliminary injunction hearing was scheduled for September 29, 2020.  After reviewing all pleadings and oral arguments at the hearing, the Court issued a ruling granting Plaintiffs’ request for a preliminary injunction. 
 
Presently the parties are providing legal briefs to the Federal court to determine if rescission should be granted. If we are unsuccessful and the court grants Plaintiffs’ request for rescission the resulting actions are speculative at this time but could include the return of the consideration exchanged as part of the acquisition subject to certain adjustments as the result of several variables which the court will consider. If the court denies Plaintiffs request for rescission the litigation will continue regarding the breach of contract claims and contractual remedies for breach and the Court may or may not dissolve the preliminary injunction as a result. 
 
A decision to grant rescission could materially harm our business as EZ-Clone represents a significant portion of our operations.
 
As of September 30, 2020, we recorded a liability of $2,131,000 for acquisition payable of which a $1,105,000 is payable in stock and $1,026,000 is payable in cash.
 
Our acquisition of EZ-CLONE thus far has been positive for our overall results of operations. Additionally, we have spent a significant amount of time and effort modifying our business plans and focuses toward the clone industry. If we fail to close on the remaining 49% of EZ-CLONE or settle the above legal action, we may experience direct consequences including, but not limited to, claims for breach of contract for failure to close on a contractual obligation, possible rescission of the EZ-CLONE acquisition, damages, and other equitable relief.
 
Risks Associated with Securities Purchase Agreements with Chicago Venture Partners, L.P. (“Chicago Venture”), Iliad Research and Trading, L.P. (“Iliad”) and Odyssey Research and Trading, LLC, (“Odyssey”) and Silverback Capital Corporation.
 
The Securities Purchase Agreements with Chicago Venture, Iliad and Odyssey will terminate if we file protection from its creditors, a Registration Statement on Form S-1 is not effective, and our market capitalization or the trading volume of our common stock does not reach certain levels. If terminated, we will be unable to draw down all or substantially all of Notes.
 
Our ability to require Chicago Venture, Iliad and Odyssey to fund the Notes is at mutual discretion, subject to certain limitations. Chicago Venture, Iliad and Odyssey are obligated to fund if each of the following conditions are met; (i) the average and median daily dollar volumes of our common stock for the twenty (20) and sixty (60) trading days immediately preceding the funding date are greater than $100,000; (ii) our market capitalization on the funding date is greater than $17,000,000; (iii) we are not in default with respect to share delivery obligations under the note as of the funding date; and (iv) we are current in our reporting obligations.
 
On September 1, 2020, Iliad sold a Note for $500,000 to Silverback Capital Corporation.
 
There is no guarantee that we will be able to meet the foregoing conditions or any other conditions under the Securities Purchase Agreements and/or Notes or that we will be able to draw down any portion of the amounts available under the Securities Purchase Agreements and/or Notes.
 
If we are not able to draw down all amounts possible under the Securities Purchase Agreements or if the Securities Purchase Agreements are terminated, we may be forced to curtail the scope of our operations or alter our business plan if other financing is not available to us.
 
 
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Our common stock.
 
As of March 4, 2019, we began to trade on the OTC Pink Sheet stocks system because our bid price had closed below $0.01 for more than 30 consecutive calendar days. As of March 17, 2020, we commenced trading on the OTCQB Market ("OTCQB") after successfully up-listing from the OTC Pink Market.
 
This action had a material adverse effect on our business, financial condition and results of operations. If we are unable to obtain additional financing when it is needed, we will need to restructure our operations, and divest all or a portion of our business.
 
We have been involved in Legal Proceedings.
 
We have been involved in certain disputes and legal proceedings as discussed in the section title “Legal Proceedings”. Defending such litigation may be lengthy and costly, strain our resources and divert management’s attention from their core responsibilities, which would have a negative impact on our business. In addition, as a public company, we are also potentially susceptible to litigation, such as claims asserting violations of securities laws. Any such claims, with or without merit, if not resolved, could be time-consuming and result in costly litigation. There can be no assurance that an adverse result in any future proceeding would not have a potentially material adverse on our business, results of operations or financial condition.
 
We may engage in acquisitions, mergers, strategic alliances, joint ventures and divestures that could result in final results that are different than expected.
 
In the normal course of business, we engage in discussions relating to possible acquisitions, equity investments, mergers, strategic alliances, joint ventures and divestitures. Such transactions are accompanied by a number of risks, including the use of significant amounts of cash, potentially dilutive issuances of equity securities, incurrence of debt on potentially unfavorable terms as well as impairment expenses related to goodwill and amortization expenses related to other intangible assets, the possibility that we may pay too much cash or issue too many of our shares as the purchase price for an acquisition relative to the economic benefits that we ultimately derive from such acquisition, and various potential difficulties involved in integrating acquired businesses into our operations.
 
From time to time, we have also engaged in discussions with candidates regarding the potential acquisitions of our product lines, technologies and businesses. If a divestiture such as this does occur, we cannot be certain that our business, operating results and financial condition will not be materially and adversely affected. A successful divestiture depends on various factors, including our ability to effectively transfer liabilities, contracts, facilities and employees to any purchaser; identify and separate the intellectual property to be divested from the intellectual property that we wish to retain; reduce fixed costs previously associated with the divested assets or business; and collect the proceeds from any divestitures.
 
If we do not realize the expected benefits of any acquisition or divestiture transaction, our financial position, results of operations, cash flows and stock price could be negatively impacted.
 
Our proposed business is dependent on laws pertaining to the marijuana industry.
 
Continued development of the marijuana industry is dependent upon continued legislative authorization of the use and cultivation of marijuana at the state level.  Any number of factors could slow or halt progress in this area.  Further, progress, while encouraging, is not assured.  While there may be ample public support for legislative action, numerous factors impact the legislative process.  Any one of these factors could slow or halt use of marijuana, which would negatively impact our proposed business.
 
As of November 4, 2020, thirty five states and the District of Columbia allow its citizens to use medical cannabis.  Additionally, fifteen states and the District of Columbia have legalized cannabis for adult use.  The state laws are in conflict with the federal Controlled Substances Act, which makes marijuana use and possession illegal on a national level. The Obama administration previously effectively stated that it is not an efficient use of resources to direct law federal law enforcement agencies to prosecute those lawfully abiding by state-designated laws allowing the use and distribution of medical marijuana.  The Trump administration position is unknown. However, there is no guarantee that the Trump administration will not change current policy regarding the low-priority enforcement of federal laws.  Additionally, any new administration that follows could change this policy and decide to enforce the federal laws strongly.  Any such change in the federal government’s enforcement of current federal laws could cause significant financial damage to us and its shareholders.
 
 
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Further, while we do not harvest, distribute or sell marijuana, by supplying products to growers of marijuana, we could be deemed to be participating in marijuana cultivation, which remains illegal under federal law, and exposes us to potential criminal liability, with the additional risk that our business could be subject to civil forfeiture proceedings.
 
Arizona, Montana, South Dakota, New Jersey passed adult use legislation
Mississippi passed medicinal use legislation set to go into effect in 2021. 
The total count is 35 + DC for Medicinal. 15 + DC for adult use. 
Additionally, Georgia, Virginia, Kentucky, Iowa, Texas, and Indiana allow very low level THC based oil for medicinal purposes, but are generally not included in the count. Language is updated above. 
 
The marijuana industry faces strong opposition. 
 
It is believed by many that large, well-funded businesses may have a strong economic opposition to the marijuana industry.  We believe that the pharmaceutical industry clearly does not want to cede control of any product that could generate significant revenue.  For example, medical marijuana will likely adversely impact the existing market for the current “marijuana pill” sold by mainstream pharmaceutical companies.  Further, the medical marijuana industry could face a material threat from the pharmaceutical industry, should marijuana displace other drugs or encroach upon the pharmaceutical industry’s products.  The pharmaceutical industry is well funded with a strong and experienced lobby that eclipses the funding of the medical marijuana movement.  Any inroads the pharmaceutical industry could make in halting or impeding the marijuana industry harm our business, prospects, results of operation and financial condition.
 
Marijuana remains illegal under Federal law.  
 
Marijuana is a Schedule-I controlled substance and is illegal under federal law.  Even in those states in which the use of marijuana has been legalized, its use remains a violation of federal law.  Since federal law criminalizing the use of marijuana preempts state laws that legalize its use, strict enforcement of federal law regarding marijuana would harm our business, prospects, results of operation and financial condition.
 
Raising additional capital to implement our business plan and pay our debts will cause dilution to our existing stockholders, require us to restructure our operations, and divest all or a portion of our business.
 
We need additional financing to implement our business plan and to service our ongoing operations and pay our current debts. There can be no assurance that we will be able to secure any needed funding, or that if such funding is available, the terms or conditions would be acceptable to us.
 
If we raise additional capital through borrowing or other debt financing, we may incur substantial interest expense. Sales of additional equity securities will dilute on a pro rata basis the percentage ownership of all holders of common stock. When we raise more equity capital in the future, it will result in substantial dilution to our current stockholders.
 
If we are unable to obtain additional financing when it is needed, we will need to restructure our operations, and divest all or a portion of our business.
 
Closing of bank and merchant processing accounts could have a material adverse effect on our business, financial condition and/or results of operations.
 
As a result of the regulatory environment, we have experienced the closing of several of our bank and merchant processing accounts. We have been able to open other bank accounts. However, we may have other banking accounts closed. These factors impact management and could have a material adverse effect on our business, financial condition and/or results of operations.
 
Federal regulation and enforcement may adversely affect the implementation of medical marijuana laws and regulations may negatively impact our revenues and profits. 
 
Currently, there are thirty seven states plus the District of Columbia that have laws and/or regulation that recognize in one form or another legitimate medical uses for cannabis and consumer use of cannabis in connection with medical treatment. Many other states are considering legislation to similar effect. As of the date of this writing, the policy and regulations of the Federal government and its agencies is that cannabis has no medical benefit and a range of activities including cultivation and use of cannabis for personal use is prohibited on the basis of federal law and may or may not be permitted on the basis of state law. Active enforcement of the current federal regulatory position on cannabis on a regional or national basis may directly and adversely affect the willingness of customers of GrowLife to invest in or buy products from GrowLife that may be used in connection with cannabis. Active enforcement of the current federal regulatory position on cannabis may thus indirectly and adversely affect revenues and profits of the GrowLife companies.
 
 
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Our history of net losses has raised substantial doubt regarding our ability to continue as a going concern. If we do not continue as a going concern, investors could lose their entire investment.
 
Our history of net losses has raised substantial doubt about our ability to continue as a going concern, and as a result, our independent registered public accounting firm included an explanatory paragraph in its report on our financial statements as of and for the years ended December 31, 2019 and 2018 with respect to this uncertainty. Accordingly, our ability to continue as a going concern will require us to seek alternative financing to fund our operations. This going concern opinion could materially limit our ability to raise additional funds through the issuance of new debt or equity securities or otherwise. Future reports on our financial statements may include an explanatory paragraph with respect to our ability to continue as a going concern.
 
We have a history of operating losses and there can be no assurance that we can again achieve or maintain profitability.
 
We have experienced net losses since inception. As of September 30, 2020, we had an accumulated deficit of $151.4 million. There can be no assurance that we will achieve or maintain profitability.
 
We are subject to corporate governance and internal control reporting requirements, and our costs related to compliance with, or our failure to comply with existing and future requirements, could adversely affect our business.
 
We must comply with corporate governance requirements under the Sarbanes-Oxley Act of 2002 and the Dodd–Frank Wall Street Reform and Consumer Protection Act of 2010, as well as additional rules and regulations currently in place and that may be subsequently adopted by the SEC and the Public Company Accounting Oversight Board. These laws, rules, and regulations continue to evolve and may become increasingly stringent in the future. We are required to include management’s report on internal controls as part of our annual report pursuant to Section 404 of the Sarbanes-Oxley Act. We strive to continuously evaluate and improve our control structure to help ensure that we comply with Section 404 of the Sarbanes-Oxley Act. The financial cost of compliance with these laws, rules, and regulations is expected to remain substantial.
 
We cannot assure you that we will be able to fully comply with these laws, rules, and regulations that address corporate governance, internal control reporting, and similar matters. Failure to comply with these laws, rules and regulations could materially adversely affect our reputation, financial condition, and the value of our securities.
 
Our inability or failure to effectively manage our growth could harm our business and materially and adversely affect our operating results and financial condition.
 
Our strategy envisions growing our business. We plan to expand our product, sales, administrative and marketing organizations. Any growth in or expansion of our business is likely to continue to place a strain on our management and administrative resources, infrastructure and systems. As with other growing businesses, we expect that we will need to further refine and expand our business development capabilities, our systems and processes and our access to financing sources. We also will need to hire, train, supervise and manage new and retain contributing employees. These processes are time consuming and expensive, will increase management responsibilities and will divert management attention. We cannot assure you that we will be able to:
 
expand our products effectively or efficiently or in a timely manner;
allocate our human resources optimally;
meet our capital needs;
identify and hire qualified employees or retain valued employees; or
incorporate effectively the components of any business or product line that we may acquire in our effort to achieve growth.
 
Our operating results may fluctuate significantly based on customer acceptance of our products. As a result, period-to-period comparisons of our results of operations are unlikely to provide a good indication of our future performance. Management expects that we will experience substantial variations in our net sales and operating results from quarter to quarter due to customer acceptance of our products. If customers do not accept our products, our sales and revenues will decline, resulting in a reduction in our operating income.
 
Customer interest for our products could also be impacted by the timing of our introduction of new products. If our competitors introduce new products around the same time that we issue new products, and if such competing products are superior to our own, customers’ desire for our products could decrease, resulting in a decrease in our sales and revenues. To the extent that we introduce new products and customers decide not to migrate to our new products from our older products, our revenues could be negatively impacted due to the loss of revenue from those customers. In the event that our newer products do not sell as well as our older products, we could also experience a reduction in our revenues and operating income.
 
 
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If we do not successfully generate additional products and services, or if such products and services are developed but not successfully commercialized, we could lose revenue opportunities.
 
Our future success depends, in part, on our ability to expand our product and service offerings. To that end we have engaged in the process of identifying new product opportunities to provide additional products and related services to our customers. The process of identifying and commercializing new products is complex and uncertain, and if we fail to accurately predict customers’ changing needs and emerging technological trends our business could be harmed. We may have to commit significant resources to commercializing new products before knowing whether our investments will result in products the market will accept. Furthermore, we may not execute successfully on commercializing those products because of errors in product planning or timing, technical hurdles that we fail to overcome in a timely fashion, or a lack of appropriate resources. This could result in competitors providing those solutions before we do and a reduction in net sales and earnings.
 
The success of new products depends on several factors, including proper new product definition, timely completion and introduction of these products, differentiation of new products from those of our competitors, and market acceptance of these products. There can be no assurance that we will successfully identify new product opportunities, develop and bring new products to market in a timely manner, or achieve market acceptance of our products or that products and technologies developed by others will not render our products or technologies obsolete or noncompetitive.
 
Our future success depends on our ability to grow and expand our customer base.  Our failure to achieve such growth or expansion could materially harm our business.
 
To date, our revenue growth has been derived primarily from the sale of our products and through the purchase of existing businesses. Our success and the planned growth and expansion of our business depend on us achieving greater and broader acceptance of our products and expanding our customer base. There can be no assurance that customers will purchase our products or that we will continue to expand our customer base. If we are unable to effectively market or expand our product offerings, we will be unable to grow and expand our business or implement our business strategy. This could materially impair our ability to increase sales and revenue and materially and adversely affect our margins, which could harm our business and cause our stock price to decline.
 
If we incur substantial liability from litigation, complaints, or enforcement actions resulting from misconduct by our distributors, our financial condition could suffer. We will require that our distributors comply with applicable law and with our policies and procedures. Although we will use various means to address misconduct by our distributors, including maintaining these policies and procedures to govern the conduct of our distributors and conducting training seminars, it will still be difficult to detect and correct all instances of misconduct. Violations of applicable law or our policies and procedures by our distributors could lead to litigation, formal or informal complaints, enforcement actions, and inquiries by various federal, state, or foreign regulatory authorities against us and/or our distributors and could consume considerable amounts of financial and other corporate resources, which could have a negative impact on our sales, revenue, profitability and growth prospects. As we are currently in the process of implementing our direct sales distributor program, we have not been, and are not currently, subject to any material litigation, complaint or enforcement action regarding distributor misconduct by any federal, state or foreign regulatory authority.
 
Our future manufacturers could fail to fulfill our orders for products, which would disrupt our business, increase our costs, harm our reputation and potentially cause us to lose our market.
 
We may depend on contract manufacturers in the future to produce our products. These manufacturers could fail to produce products to our specifications or in a workmanlike manner and may not deliver the units on a timely basis. Our manufacturers may also have to obtain inventories of the necessary parts and tools for production. Any change in manufacturers to resolve production issues could disrupt our ability to fulfill orders. Any change in manufacturers to resolve production issues could also disrupt our business due to delays in finding new manufacturers, providing specifications and testing initial production. Such disruptions in our business and/or delays in fulfilling orders would harm our reputation and would potentially cause us to lose our market. 
 
Our inability to effectively protect our intellectual property would adversely affect our ability to compete effectively, our revenue, our financial condition and our results of operations.
 
We may be unable to obtain intellectual property rights to effectively protect our business. Our ability to compete effectively may be affected by the nature and breadth of our intellectual property rights. While we intend to defend against any threats to our intellectual property rights, there can be no assurance that any such actions will adequately protect our interests. If we are unable to secure intellectual property rights to effectively protect our technology, our revenue and earnings, financial condition, and/or results of operations would be adversely affected.
 
We may also rely on nondisclosure and non-competition agreements to protect portions of our technology. There can be no assurance that these agreements will not be breached, that we will have adequate remedies for any breach, that third parties will not otherwise gain access to our trade secrets or proprietary knowledge, or that third parties will not independently develop the technology.
 
 
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We do not warrant any opinion as to non-infringement of any patent, trademark, or copyright by us or any of our affiliates, providers, or distributors. Nor do we warrant any opinion as to invalidity of any third-party patent or unpatentability of any third-party pending patent application. 
 
Our industry is highly competitive and we have less capital and resources than many of our competitors, which may give them an advantage in developing and marketing products similar to ours or make our products obsolete.
 
We are involved in a highly competitive industry where we may compete with numerous other companies who offer alternative methods or approaches, may have far greater resources, more experience, and personnel perhaps more qualified than we do. Such resources may give our competitors an advantage in developing and marketing products similar to ours or products that make our products obsolete. There can be no assurance that we will be able to successfully compete against these other entities.
 
Transfers of our securities may be restricted by virtue of state securities “blue sky” laws, which prohibit trading absent compliance with individual state laws. These restrictions may make it difficult or impossible to sell shares in those states.
 
Transfers of our common stock may be restricted under the securities or securities regulations laws promulgated by various states and foreign jurisdictions, commonly referred to as "blue sky" laws. Absent compliance with such individual state laws, our common stock may not be traded in such jurisdictions. Because the securities held by many of our stockholders have not been registered for resale under the blue sky laws of any state, the holders of such shares and persons who desire to purchase them should be aware that there may be significant state blue sky law restrictions upon the ability of investors to sell the securities and of purchasers to purchase the securities. These restrictions may prohibit the secondary trading of our common stock. Investors should consider the secondary market for our securities to be a limited one.
 
We are dependent on key personnel.
 
Our success depends to a significant degree upon the continued contributions of key management and other personnel, some of whom could be difficult to replace. We do not maintain key man life insurance covering our officers. Our success will depend on the performance of our officers and key management and other personnel, our ability to retain and motivate our officers, our ability to integrate new officers and key management and other personnel into our operations, and the ability of all personnel to work together effectively as a team. Our failure to retain and recruit officers and other key personnel could have a material adverse effect on our business, financial condition and results of operations.
 
We have no insurance.
 
We have no directors’ and officers’ liability insurance and limited commercial liability insurance policies. Any significant claims would have a material adverse effect on our business, financial condition and results of operations.  
 
Risks Related to our Common Stock
 
Chicago Venture, Iliad and Odyssey could have significant influence over matters submitted to stockholders for approval.
 
As a result of funding from Chicago Venture, Iliad and Odyssey as previously detailed, they exercise significant control over us.
 
While there are limits on the ownership by each party, if these companies were to choose to act together, they would be able to significantly influence all matters submitted to our stockholders for approval, as well as our officers, directors, management and affairs. For example, these companies, if they choose to act together, could significantly influence the election of directors and approval of any merger, consolidation or sale of all or substantially all of our assets. This concentration of voting power could delay or prevent an acquisition of us on terms that other stockholders may desire.
 
Trading in our stock is limited by the SEC’s penny stock regulations.
 
Our stock is categorized as a penny stock. The SEC has adopted Rule 15g-9 which generally defines "penny stock" to be any equity security that has a market price (as defined) less than US$ 5.00 per share or an exercise price of less than US $5.00 per share, subject to certain exclusions (e.g., net tangible assets in excess of $2,000,000 or average revenue of at least $6,000,000 for the last three years). The penny stock rules impose additional sales practice requirements on broker-dealers who sell to persons other than established customers and accredited investors. The penny stock rules require a broker-dealer, prior to a transaction in a penny stock not otherwise exempt from the rules, to deliver a standardized risk disclosure document in a form prepared by the SEC, which provides information about penny stocks and the nature and level of risks in the penny stock market. The broker-dealer also must provide the customer with current bid and offer quotations for the penny stock, the compensation of the broker-dealer and its salesperson in the transaction, and monthly account statements showing the market value of each penny stock held in the customer's account. The bid and offer quotations, and the broker-dealer and salesperson compensation information, must be given to the customer orally or in writing prior to effecting the transaction and must be given to the customer in writing before or with the customer's confirmation. In addition, the penny stock rules require that prior to a transaction in a penny stock not otherwise exempt from these rules, the broker-dealer must make a special written determination that the penny stock is a suitable investment for the purchaser and receive the purchaser's written agreement to the transaction. Finally, broker-dealers may not handle penny stocks under $0.10 per share.
 
 
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These disclosure requirements reduce the level of trading activity in the secondary market for the stock that is subject to these penny stock rules. Consequently, these penny stock rules would affect the ability of broker-dealers to trade our securities if we become subject to them in the future. The penny stock rules also could discourage investor interest in and limit the marketability of our common stock to future investors, resulting in limited ability for investors to sell their shares.
 
FINRA sales practice requirements may also limit a shareholder’s ability to buy and sell our stock.
 
In addition to the “penny stock” rules described above, FINRA has adopted rules that require that in recommending an investment to a customer, a broker-dealer must have reasonable grounds for believing that the investment is suitable for that customer. Prior to recommending speculative low priced securities to their non-institutional customers, broker-dealers must make reasonable efforts to obtain information about the customer’s financial status, tax status, investment objectives and other information. Under interpretations of these rules, FINRA believes that there is a high probability that speculative low priced securities will not be suitable for at least some customers. The FINRA requirements make it more difficult for broker-dealers to recommend that their customers buy our common stock, which may limit your ability to buy and sell our stock and have an adverse effect on the market for our shares.
 
The market price of our common stock may be volatile.
 
The market price of our common stock has been and is likely in the future to be volatile. Our common stock price may fluctuate in response to factors such as: 
 
Halting of trading by the SEC or FINRA.
 
Announcements by us regarding liquidity, legal proceedings, significant acquisitions, equity investments and divestitures, strategic relationships, addition or loss of significant customers and contracts, capital expenditure commitments, loan, note payable and agreement defaults, loss of our subsidiaries and impairment of assets,
 
Issuance of convertible or equity securities for general or merger and acquisition purposes,
 
Issuance or repayment of debt, accounts payable or convertible debt for general or merger and acquisition purposes,
 
Sale of a significant number of shares of our common stock by shareholders,
 
General market and economic conditions,
 
Quarterly variations in our operating results,
 
Investor relation activities,
 
Announcements of technological innovations,
 
New product introductions by us or our competitors,
 
Competitive activities, and
 
Additions or departures of key personnel.
 
These broad market and industry factors may have a material adverse effect on the market price of our common stock, regardless of our actual operating performance. These factors could have a material adverse effect on our business, financial condition, and/or results of operations.
 
The sale of a significant number of our shares of common stock could depress the price of our common stock.
 
Sales or issuances of a large number of shares of common stock in the public market or the perception that sales may occur could cause the market price of our common stock to decline. As of September 30, 2020, there are also (i) stock option grants outstanding for the purchase of 506,667 common shares at a $1.496 average exercise price; and (ii) warrants for the purchase of 2,418,680 shares of common shares at a $3.465 average exercise price. In addition, we have an unknown number of common shares to be issued under the Crossover, 12% convertible promissory note financing and Labrys agreements in the case of default. In addition, we have an unknown number of common shares to be issued under the Chicago Venture, Iliad and St. George financing agreements because the number of shares ultimately issued to Chicago Venture depends on the price at which Chicago Venture converts its debt to shares and exercises its warrants. The lower the conversion or exercise prices, the more shares that will be issued to Chicago Venture upon the conversion of debt to shares. We will not know the exact number of shares of stock issued to Chicago Venture until the debt is actually converted to equity.
 
 
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These stock option grant, warrant and contingent shares could result in further dilution to common stockholders and may affect the market price of the common stock.
 
Significant shares of common stock are held by our principal shareholders, other Company insiders and other large shareholders. As affiliates as defined under Rule 144 of the Securities Act or Rule 144 of the Company, our principal shareholders, other Company insiders and other large shareholders may only sell their shares of common stock in the public market pursuant to an effective registration statement or in compliance with Rule 144.
 
These stock option grant, warrant and contingent shares could result in further dilution to common stockholders and may affect the market price of the common stock.
 
Some of our convertible debentures and warrants may require adjustment in the conversion price.
 
Our Convertible Notes Payable may require an adjustment in the current conversion price of $0.102 per share if we issue common stock, warrants or equity below the price that is reflected in the convertible notes payable. Our warrant with St. George may require an adjustment in the exercise price. The conversion price of the convertible notes and warrants will have an impact on the market price of our common stock. Specifically, if under the terms of the convertible notes the conversion price goes down, then the market price, and ultimately the trading price, of our common stock will go down. If under the terms of the convertible notes the conversion price goes up, then the market price, and ultimately the trading price, of our common stock will likely go up. In other words, as the conversion price goes down, so does the market price of our stock. As the conversion price goes up, so presumably does the market price of our stock. The more the conversion price goes down, the more shares are issued upon conversion of the debt which ultimately means the more stock that might flood into the market, potentially causing a further depression of our stock.
 
We do not anticipate paying any cash dividends on our capital stock in the foreseeable future.
 
We have never declared or paid cash dividends on our capital stock. We currently intend to retain all of our future earnings, if any, to finance the growth and development of our business, and we do not anticipate paying any cash dividends on our capital stock in the foreseeable future. In addition, the terms of any future debt agreements may preclude us from paying dividends. As a result, capital appreciation, if any, of our common stock will be your sole source of gain for the foreseeable future.
 
Anti-takeover provisions may limit the ability of another party to acquire our company, which could cause our stock price to decline.
 
Our certificate of incorporation, as amended, our bylaws and Delaware law contain provisions that could discourage, delay or prevent a third party from acquiring our company, even if doing so may be beneficial to our stockholders. In addition, these provisions could limit the price investors would be willing to pay in the future for shares of our common stock.
 
We may issue preferred stock that could have rights that are preferential to the rights of common stock that could discourage potentially beneficially transactions to our common shareholders.
 
An issuance of additional shares of preferred stock could result in a class of outstanding securities that would have preferences with respect to voting rights and dividends and in liquidation over our common stock and could, upon conversion or otherwise, have all of the rights of our common stock.  Our Board of Directors' authority to issue preferred stock could discourage potential takeover attempts or could delay or prevent a change in control through merger, tender offer, proxy contest or otherwise by making these attempts more difficult or costly to achieve.  The issuance of preferred stock could impair the voting, dividend and liquidation rights of common stockholders without their approval.
 
If the company were to dissolve or wind-up, holders of our common stock may not receive a liquidation preference.
 
If we were too wind-up or dissolve the Company and liquidate and distribute our assets, our shareholders would share ratably in our assets only after we satisfy any amounts we owe to our creditors.  If our liquidation or dissolution were attributable to our inability to profitably operate our business, then it is likely that we would have material liabilities at the time of liquidation or dissolution.  Accordingly, we cannot give you any assurance that sufficient assets will remain available after the payment of our creditors to enable you to receive any liquidation distribution with respect to any shares you may hold.
 
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
 
Unless otherwise indicated, all of the following sales or issuances of Company securities were conducted under the exemption from registration as provided under Section 4(2) of the Securities Act of 1933 (and also qualified for exemption under 4(5), formerly 4(6) of the Securities Act of 1933, except as noted below). All of the shares issued were issued in transactions not involving a public offering, are considered to be restricted stock as defined in Rule 144 promulgated under the Securities Act of 1933 and stock certificates issued with respect thereto bear legends to that effect. 
 
 
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We have compensated consultants and service providers with restricted common stock during the development of our business and when our capital resources were not adequate to provide payment in cash.
 
During the three months ended September 30, 2020, we had the following sales of unregistered sales of equity securities:
 
Debt and accrued interest of $465,580 was converted into 3,930,072 shares of our common stock at a per share conversion price of $0.118.
 
On August 31, 2020, we issued commitment shares of 1,662,000 shares related to the Labrys Agreements at $0.21 or $349,020.
 
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
 
There have been no events which are required to be reported under this item. 
 
ITEM 6. EXHIBITS
 
The exhibits required to be filed herewith by Item 601 of Regulation S-K, as described in the following index of exhibits, are attached hereto unless otherwise indicated as being incorporated by reference, as follows:
 
 (a)
Exhibits
 
Exhibit No.
 
Description
 
 
 
 
 
 
 
 
Certificate of Incorporation. Filed as an exhibit to the Company’s Form 10-SB General Form for Registration of Securities of Small Business Issuers filed with the SEC on December 7, 2007, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Second Amended and Restated Bylaws of GrowLife, Inc. dated October 16, 2015. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on October 26, 2015, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Certificate of Amendment of Certificate of Incorporation of GrowLife, Inc. dated October 23, 2017 to increase the authorized shares of Common Stock from 3,000,000,000 to 6,000,000,000 shares. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on October 24, 2017, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Amendment to Articles of Incorporation dated November 20, 2019. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on November 26, 2019, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
GrowLife, Inc. 2017 Stock Incentive Plan filed as an Annex 1 to the Company’s Preliminary Schedule 14A filed with the SEC on June 30, 2017, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Form of Warrants. Filed as exhibits to the Company’s Form 8-K and filed with the SEC on February 28, 2020, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Compilation of Securities Purchase Agreement and Warrant to Purchase Common Stock dated February 9, 2018 entered into by and between GrowLife, Inc. and St. George Investments LLC. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on February 15, 2018, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Compilation of Securities Purchase Agreement, Secured Promissory Notes, and Security Agreement by and between GrowLife, Inc.. and Iliad Research and Trading , L.P. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on August 16, 2018, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
 
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Rights Offering to Shareholders filed in Amendment No.1 of Form S-1. Filed with the SEC on September 18, 2018, and hereby incorporated by reference. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on September 21, 2018, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Rights Offering to Shareholders filed in Amendment No.1 of Form S-1. Filed with the SEC on September 18, 2018, and hereby incorporated by reference. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on September 21, 2018, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Purchase and Sale agreement dated October 10, 2018 by and between GrowLife, Inc. and EZ-CLONE Enterprises LLC. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on October 18, 2018, and hereby incorporated by reference.
 
 
 
 
 
 
 
10.6
 
Compilation of Securities Purchase Agreement, Warrant, Secured Promissory Notes, and Security Agreement by and between GrowLife, Inc.. and Iliad Research and Trading , L.P. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on October 17, 2018, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Marco Hegyi Employment Agreement dated October 15, 2018. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on October 17, 2018, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Mark E. Scott Employment Agreement dated October 15, 2018. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on October 17, 2018, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Joseph Barnes Employment Agreement dated October 15, 2018. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on October 17, 2018, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Prospectus Supplement dated November 8, 2018 to Rights Offering to Shareholders filed in 424(b)(4) Prospectus filed with the SEC on October 18, 2018, and hereby incorporated by reference. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on November 16, 2018, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Prospectus Supplement dated November 16, 2018 to Rights Offering to Shareholders filed in 424(b)(4) Prospectus filed with the SEC on October 18, 2018, and hereby incorporated by reference. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on November 16, 2018, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Standard and Industrial Multi-Tenant Lease dated December 18, 2018 by and between Pensco Trust Company and GrowLife, Inc. Filed as an exhibit to the Company’s Form 10-K and filed with the SEC on March 8, 2019, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Termination of Existing Agreements and Release Agreement accepted February 15, 2019 entered into by and between GrowLife, Inc. and CANX USA LLC. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on February 20, 2019, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Compilation of Securities Purchase Agreement, Secured Promissory Notes, and Security Agreement by and between GrowLife, Inc. and Odyssey Research and Trading, LLC. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on July 30, 2019, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
 
45
 
 
 
Amendment No. 1 to Purchase and Sale Agreement dated October 23, 2019, entered into by and between GrowLife, Inc. and William Blackburn. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on November 12, 2019, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Settlement and Release Agreement dated October 22, 2019 and which closed November 14, 2019 by and Between GrowLife Innovations, Inc. and All Commercial Floors, Inc. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on November 20, 2019, and hereby incorporated by reference.   
 
 
 
 
   
 
 
 
Intellectual Property Assignment Agreement dated October 22, 2019 and which closed November 14, 2019 by and Between GrowLife Innovations, Inc. and All Commercial Floors, Inc. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on November 20, 2019, and hereby incorporated by reference.
 
 
 
 
   
 
 
 
Compilation of Securities Purchase Agreement, Secured Promissory Notes, and Security Agreement. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on February 5, 2020, and hereby incorporated by reference.   
 
 
 
 
 
 
 
 
 
Compilation of Labrys Securities Purchase Agreement, Self-Amortization Promissory Note and Other Agreements. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on October 15, 2020, and hereby incorporated by reference
 
 
 
 
 
 
 
 
 
Compilation of EMA Securities Purchase Agreement, Self-Amortization Promissory Note and Other Agreements. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on October 15, 2020, and hereby incorporated by reference
 
 
 
 
 
 
 
 
 
Compilation of FF Securities Purchase Agreement, Self-Amortization Promissory Note and Other Agreements. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on October 15, 2020, and hereby incorporated by reference
 
 
 
 
 
 
 
 
Code of Conduct and Ethics dated May 15, 2014. Attached as an exhibit to the Company’s Form 8-K filed and with the SEC on June 9, 2014, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Letter dated October 3, 2019 from SD Mayer and Associates, LLP. Filed as an exhibit to the Company’s Form 8-K and filed with the SEC on October 8, 2019, and hereby incorporated by referene.
 
 
 
 
 
 
 
 
Certification of Principal Executive Officer Pursuant to Rule 13a-14
 
Filed herewith.
 
 
 
 
 
 
Certification of Principal Financial Officer Pursuant to Rule 13a-14
 
Filed herewith.
 
 
 
 
 
 
CEO Certification Pursuant to Section 906 of the Sarbanes-Oxley Act
 
Filed herewith.
 
 
 
 
 
 
CFO Certification Pursuant to Section 906 of the Sarbanes-Oxley Act
 
Filed herewith.
 
 
 
 
 
 
Audited Financial Statements of EZ-CLONE Enterprises, Inc. Filed as an exhibit to the Company’s Form 8-K/A and filed with the SEC on January 24, 2019, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
 
46
 
 
 
Unaudited Pro Forma Financial Information of GrowLife, Inc. and EZ-CLONE Enterprises, Inc. Filed as an exhibit to the Company’s Form 8-KA and filed with the SEC on January 24, 2019, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Amended and Restated Audit Committee Charter, dated October 16, 2015. Attached as an exhibit to the Company’s Form 8-K and filed with the SEC on October 26, 2015, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Compensation Committee Charter dated May 15, 2014. Attached as an exhibit to the Company’s Form 8-K dated June 3, 2014 and filed with the SEC on June 9, 2014, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Amended and Restated Nominations and Governance Charter, dated October 16, 2015.Attached as an exhibit to the Company’s Form 8-K and filed with the SEC on October 26, 2015, and hereby incorporated by reference.
 
 
 
 
 
 
 
 
Amended and Restated Insider Trading Policy, dated October 16, 2015. Attached as an exhibit to the Company’s Form 8-K and filed with the SEC on October 26, 2015, and hereby incorporated by reference.
 
 
 
 
 
 
 
101.INS*
 
XBRL Instance Document
 
 
 
 
 
 
 
101.SCH*
 
XBRL Taxonomy Extension Schema Document
 
 
 
 
 
 
 
101.CAL*
 
XBRL Taxonomy Extension Calculation Linkbase Document
 
 
 
 
 
 
 
101.LAB*
 
XBRL Taxonomy Extension Labels Linkbase Document
 
 
 
 
 
 
 
101.PRE*
 
XBRL Taxonomy Extension Presentation Linkbase Document
 
 
 
 
 
 
 
101.DEF*
 
XBRL Taxonomy Extension Definition Linkbase Document
 
 
 
*Filed Herewith. Pursuant to Regulation S-T, this interactive data file is deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, is deemed not filed for purposes of Section 18 of the Securities Exchange Act of 1934, and otherwise is not subject to liability under these sections.
 
 
47
 
 
SIGNATURES
 
In accordance with Section 13 or 15(d) requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.  
 
GROWLIFE, INC.  
(Registrant)
 
 
 
 
 
Date: November 13, 2020
By:
/s/ Marco Hegyi
 
 
 
Marco Hegyi
 
 
 
Chief Executive Officer and President
 
 
 
(Principal Executive Officer)
 
 
 
 
 
 
Date: November 13, 2020
By:
/s/ Mark Scott
 
 
 
Mark Scott
 
 
 
Chief Financial Officer
 
 
 
(Principal Financial and Accounting Officer)
 
 
 
 
 
 
 
48