STWC. Holdings, Inc. - Quarter Report: 2016 April (Form 10-Q)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

☒ Quarterly Report Pursuant To Section 13 or 15(d) of the Securities Exchange Act Of 1934

For the quarterly period ended April 30, 2016

 

☐ Transition Report Under Section 13 or 15(d) of the Securities Exchange Act Of 1934

For the transition period from ______________ to ______________

 Commission file number: 000-52825

 

(Exact name of registrant as specified in its charter)

 

 

1350 Independence St., Suite 300

(Address of principal executive offices, including Zip Code)

 

(Issuer's telephone number, including area code)

 

Check whether the issuer (1) has filed all reports required to be filed by section 13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.     Yes ☒    No ☐

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted 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 and post such files).     Yes ☐     No ☒

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a small reporting company. See the definitions of "large accelerated filer," "accelerated filer," "non-accelerated filer," and "smaller reporting company" in Rule 12b-2 of the Exchange Act.

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).     Yes ☐     No ☒

 

State the number of shares outstanding of each of the issuer's classes of common equity, as of the latest practicable date: 27,147,217 shares of common stock as of April 30, 2016.

 

 

STWC HOLDINGS, INC.

INTERIM FINANCIAL STAEMENTS

For the Three Months Ended April 30, 2016 and 2015

(UNAUDITED)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

STWC HOLDINGS, INC.

CONDENSED BALANCE SHEETS

See accompanying notes.

 

STWC HOLDINGS, INC.
CONDENSED STATEMENTS OF OPERATIONS
		(Unaudited) Three Months Ended April 30,
			2016				2015
Rental income from Regulated Entities		$	973,798			$	1,223,386
Consulting services			-				2,000
Total revenues			973,798				1,225,386
Operating costs and expenses
Collection reserve for amounts due from Regulated Entities			(54,526	)			943,649
Rents and other occupancy			838,183				1,156,406
Compensation			163,231				134,874
Professional, legal and consulting			96,267				60,428
Depreciation and amortization			46,911				79,031
General and administrative			35,653				13,618
Total operating costs and expenses			1,134,406				2,388,006
Loss from continuing operations			(160,608	)			(1,162,620	)
Other costs and expenses
Interest expense			(485,346	)			(180,225	)
Loss from continuing operations, before provision for taxes on income			(645,954	)			(1,342,845	)
Provision for taxes on income			-				-
Loss from continuing operations, net of tax			(645,954	)			(1,342,845	)
Loss from discontinued operations, net of tax			--				(171,329	)
Net loss		$	(645,954	)		$	(1,514,174	)
Basic loss and fully diluted loss per common share
Continuing operations		$	(0.02	)		$	(0.056	)
Discontinued operations		$	-			$	(0.006	)
Weighted average number of shares outstanding, basic and fully diluted			27,147,217				27,147,217

 

 

See accompanying notes.

 

STWC HOLDINGS, INC.

CONDENSED STATEMENTS OF CASH FLOWS

 

 

See accompanying notes.

STWC HOLDINGS, INC.

Notes to the Unaudited Financial Statements

April 30, 2016

 

Note 1 – Organization and summary of significant accounting policies:

Following is a summary of our organization and significant accounting policies:

Organization and nature of business – STWC HOLDINGS, INC., formerly known as Strainwise, Inc., (identified in these footnotes as "STWC" "we" "us" or the "Company") was incorporated in Colorado as a limited liability company on June 8, 2012, and subsequently converted to a Colorado corporation on January 16, 2014.

The Company was established to provide branding marketing, administrative, accounting, financial and compliance services ("Fulfillment Services") to medical and retail stores, and cultivation facilities in the regulated cannabis industry throughout the United States. Such Fulfillment Services would only be provided to stores and facilities located in geographical areas where the governing state and local ordinances allow for the unfettered provisions of such services.

The Fulfillment Services that we currently are able to provide are summarized, as follows:

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Opportunity Assessment:  For a standard fee, we will complete an Opportunity Assessment for a client, which would include financial modeling, completed with our proprietary assessment software.

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Application Filing Assistance: Based upon our knowledge of the various rules and regulations of respective state and local jurisdictions, we will provide turn-key application preparation and submission services for a client, and/or provide consulting assistance to a client who is self-preparing their application.

●

Branding, Marketing and Administrative Consulting Services: Customers may contract with us to use the Strainwise name, logo and affinity images in their retail store locations. A monthly fee will permit a branding customer to use the Strainwise brand at a specific location. In addition, we will assist operators in marketing and managing their businesses, setting up new retail locations and general business planning and execution at an hourly rate.  This includes services to establish an efficient, predictable production process, as well as, nutrient recipes for consistent and appealing marijuana strains.

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Accounting and Financial Services: For a monthly fee, we will provide customers with a fully implemented general ledger system, with an industry centric chart of accounts, which enables management to readily monitor and manage all facets of a marijuana medical dispensary and cultivation facility. We will provide bookkeeping, accounts payable processing, cash management, general ledger processing, financial statement preparation, state and municipal sales tax filings, and state and federal income tax compilation and filings.

●

Compliance Services: The rules, regulations and state laws governing the production, distribution and retail sale of marijuana can be complex, and compliance may prove cumbersome. Thus, customers may contract with us to implement a compliance process, based upon the number and type of licenses and permits for their specific business. We will provide this service on an hourly rate or stipulated monthly fee.

We do NOT grow marijuana plants, produce marijuana infused products, sell marijuana plants and/or sell marijuana infused products of any nature in any jurisdiction were such activity has not been legalized.

 

 

Basis of presentation - The unaudited interim financial statements of STWC Holdings, Inc. (the "Company") have been prepared in accordance with United States generally accepted accounting principles ("GAAP") for interim financial information and the rules and regulations of the U.S. Securities and Exchange Commission ("SEC"). They do not include all information and footnotes required by GAAP for complete financial statements. However, except as disclosed herein, there has been no material changes in the information disclosed in the notes to the financial statements for the year ended January 31, 2016 included in the Company's Annual Report on Form 10-K filed with the SEC. The unaudited interim financial statements should be read in conjunction with those financial statements and footnotes included in the Form 10-K. In the opinion of management, all adjustments considered necessary for fair presentation, consisting solely of normal recurring adjustments, have been made.

Share exchange - On August 19, 2014, we entered into an Agreement to Exchange Securities ("Share Exchange"),  pursuant to which we acquired  approximately 90% of the  outstanding  shares of a privately held Colorado corporation ("Strainwise Colorado") in exchange for  23,124,184  shares of our common stock.

As part of the  Share  Exchange,  Strainwise Colorado paid  $134,700  of our  liabilities  and purchased  1,038,000  shares  of  our  common  stock  for  $120,300  from two of our shareholders. The 1,038,000 shares were returned to treasury and cancelled.  We also  agreed to sell our rights to a motion  picture,  together with all related domestic and  international  distribution  agreements,  and all pre-production and other rights to the film, to a former officer and director in  consideration  for  the  assumption  by one of our  shareholders  of all of our liabilities  (net of the  $134,700  paid by Strainwise Colorado)  which  were  outstanding immediately prior to the closing of the transaction.

On  September  12,  2014  we  acquired  the remaining  outstanding  shares of Strainwise Colorado in exchange for the issuance of 2,517,000  shares of our common stock.

The resulting business combination has been accounted for as a reverse acquisition and recapitalization, using accounting principles applicable to reverse acquisitions whereby the financial statements are   presented as a continuation of the Company.  Under reverse acquisition accounting, Strainwise Colorado is treated as the accounting parent (acquirer) and we (parent) are treated as the accounting Subsidiary (acquiree).

Use of estimates - The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amount of revenues and expenses during the reporting period.  Actual results could differ from those estimates.

Cash and cash equivalents - For purposes of the statement of cash flows, we consider all cash in banks, money market funds, and certificates of deposit with a maturity of less than three months to be cash equivalents. Under current banking regulations, not all marijuana centric entities are afforded normal banking privileges. And thus, because of our perceived association with the Regulated Entities, we have not been able to maintain a corporate bank account at any federally or state charted banking institution.

Security Deposits - Security deposits consists of amounts paid to the independent third party lessor of the 51^st Avenue cultivation facility, and it is expected that such deposit will be returned to the Company at the end of the lease term. Security deposits consisted of the following:

 

 

 

Fair value of financial instruments and derivative financial instruments - The carrying amounts of cash and current liabilities approximate fair value because of the short maturity of these items. These fair value estimates are subjective in nature and involve uncertainties and matters of significant judgment, and, therefore, cannot be determined with precision.  Changes in assumptions could significantly affect these estimates.  

The FASB Codification clarifies that fair value is an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. It also requires disclosure about how fair value is determined for assets and liabilities and establishes a hierarchy for which these assets and liabilities must be grouped, based on significant levels of inputs as follows:   

 

The determination of where assets and liabilities fall within this hierarchy is based upon the lowest level of input that is significant to the fair value measurement.

We do not hold or issue financial instruments for trading purposes, nor do we utilize derivative instruments in the management of our foreign exchange, commodity price or interest rate market risks. All assets and liabilities are based upon Level 1 inputs.

 

Commercial Operating Property - On July 26, 2014 we purchased a commercial property that was previously leased by one of our affiliates, which we have leased back to the affiliate. The commercial property consists of land and a building that contains both a retail store and a cultivation facility. We have allocated $220,000 and $440,000 of the purchase price to the cost of land and to the cost of the improvements to the building, respectively, based upon management's best estimate and belief. Management's estimate and belief was based upon consideration of (i) replacement cost, (ii) limited knowledge of comparable sales, (iii) anticipated future income generation, and (iv) single use, internally. No intangible asset value was assigned to the existing lease on the property, because the existing lease was immediately cancelled upon the completion of the purchase of the commercial property. The cost of the improvements to the building is being depreciated on a straight line method over 27.5 years, which we believe is the useful life of this asset.

Tenant improvements and office equipment - Tenant improvements are recorded at cost, and are amortized over the lesser of the economic life of the asset or the term of the applicable lease period. We determined that the term of the leases applicable to our tenant improvements are less than the economic life of the respective assets that comprise our tenant improvements. Office equipment is recorded at cost and is depreciated under straight line methods over each item's estimated useful life. We review our tenant improvements and office equipment for impairment whenever events or changes in circumstances indicate that the carrying value of such assets may not be recoverable. Maintenance and repairs of property and equipment are charged to operations. Major improvements are capitalized. Upon retirement, sale or other disposition of property and equipment, the cost and accumulated depreciation are eliminated from the accounts and any gain or loss is included in operations.

Tenant improvements and office equipment, net of accumulated amortization and depreciation are comprised of the following:

 

 

Tenant improvements are amortized over the term of the lease, and office equipment is depreciated over its useful lives, which has been deemed by management to be three years. Amortization and depreciation expense for the three months and twelve months ended April 30 and January 31, 2016 was $42,730 and $73,827, respectively.

Income taxes - The Company accounts for income taxes pursuant to ASC 740. Under ASC 740 deferred taxes are provided on a liability method whereby deferred tax assets are recognized for deductible temporary differences and operating loss carryforwards and deferred tax liabilities are recognized for taxable temporary differences. Temporary differences are the differences between the reported amounts of assets and liabilities and their tax bases. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion or all of the deferred tax assets will not be realized. Deferred tax assets and liabilities are adjusted for the effects of changes in tax laws and rates on the date of enactment.

 

Investment in Unconsolidated Entity

The Company acquired a 50% interest in SentinelStrainwise, LLC ("SSL") in June 2015 for $25,000. We account for our investment SSL using the equity method based on the ownership interest.   Accordingly, the investment was recorded at cost, and adjustments to the carrying amount of the investment to recognize our share of the earnings or losses of SSL are made in each reporting period. In accordance with Accounting Standard Codification 810-10, Consolidation-Overall, we evaluated the fair value of our investment in SLL, and determined that there no adjustment required to the carrying amount of our original investment.

Long-Lived Assets - In accordance with ASC 350, the Company regularly reviews the carrying value of intangible and other long-lived assets for the existence of facts or circumstances, both internally and externally, that suggest impairment. If impairment testing indicates a lack of recoverability, an impairment loss is recognized by the Company if the carrying amount of a long-lived asset exceeds its fair value.

 

Trademarks - Trademarks and other intangible assets are stated at cost and are amortized using the straight-line method over fifteen years.  Accumulated amortization was $1,708 and $1,525at April 30 and January 31, 2016, respectively and consisted of the following at April 30, 2015:

 

Deferred Rent - The Company recognizes rent expense from operating leases on the straight-line basis. Differences between the expense recognized and actual payments are recorded as deferred rent.

Revenue Recognition - Until June 30, 2015, revenue had been recognized on an accrual basis as earned under terms of Fulfillment Services contracts ("Master Service Agreements")  that we entered into with  two cultivation facilities and nine retail stores (five of which sell both recreation and medical marijuana to the public, three of which on sell medical marijuana to the public, and one of which only sells recreation marijuana to the public) ("Regulated Entities") that are owned by Shawn Phillips, the former Chief Executive Office, former director of the Company, and who is also the husband of our majority owner and present Chief Executive Officer and President. Subsequent to June 30, 2015, Shawn Phillips made the decision, with the concurrence of the management of the Company, to cancel all of the above referenced Master Service Agreements.  Such cancellation was deemed advisable by Mr. Phillips and management of the Company in light of the uncertainty of the right of the Company to supply such Fulfillment Services in Colorado.

 

Thus, up until June 30, 2015, revenues from the Regulated Entities had been recognized based upon (i) a monthly fee of approximately $4,500 a month for branding, marketing and administrative services for each individual dispensary and retail store, plus $4,500 to $20,000 for such services provided to their cultivation facilities, (ii) a monthly fee of $3,000 for accounting and financial services, (iii) a monthly fee of $2,500 for compliance services, and (iv) the cost of nutrient supplies provided to the cultivation facilities at a premium to our bulk purchasing amounts. Since there was no additional milestone that needed to be met, other than actually buying and delivering the nutrients to the Regulated Entities, in accordance with ASC 605, the revenue was recognized in the month in which the nutrients were actually delivered to the Regulated Entities. Additionally, we leased grow facilities and equipment to the Regulated Entities for a period equal to the term of the underlying lease with an independent, third party lessor in an amount equal to the sum of (i) the monthly lease payment, (ii) plus the cost of reimbursed operating expenses paid to the lessor each month, (iii) plus the amount of monthly amortization of tenant improvements, and (iv) plus a premium of forty percent. Since there was no additional milestone that needed to be met with respect to providing the above enumerated services, in accordance with ASC 605, the revenue was recognized in the month in which the services were provided. For the period from July 1, 2015 through January 31, 2016, revenues from the Regulated Entities consisted solely of subleases with mark-ups from ten to forty percent from the amounts we pay the landlords of the properties. And, since there are no additional milestones that need to be met, other than actually leasing the facilities and equipment to the Regulated Entities, in accordance with ASC 605, such revenue is recognized in the month in which the lease payments were made by us to the respective independent, third party lessors

Comprehensive Income (Loss) - Comprehensive income is defined as all changes in stockholders' equity (deficit), exclusive of transactions with owners, such as capital investments. Comprehensive income includes net income or loss, changes in certain assets and liabilities that are reported directly in equity such as translation adjustments on investments in foreign subsidiaries and unrealized gains (losses) on available-for-sale securities. From our inception, there have been no differences between our comprehensive loss and net loss.

Net income per share of common stock - We have adopted applicable FASB Codification regarding Earnings per Share, which require presentation of basic and diluted earnings per share on the face of the income statement for all entities with complex capital structures and requires a reconciliation of the numerator and denominator of the basic earnings per share computation to the numerator and denominator of the diluted earnings per share computation.  In the accompanying financial statements, basic earnings per share of common stock is computed by dividing net income by the weighted average number of shares of common stock outstanding during the period. Diluted earnings per share gives effect to all potential dilutive securities outstanding during the period including convertible debt, stock options, and warrants, using the treasury stock method. Diluted earnings per share excludes all potential dilutive shares if their effect is anti-dilutive or would reduce net loss per share amounts. Diluted earnings per share figures are equal to those of basic earnings per share for each period, since the Company had a net loss for the periods presented.

Potentially dilutive securities outlined in the table below have been excluded from the computation of diluted net loss per share, because the effect of their inclusion would have been anti-dilutive.

 

Note 2 – Going concern:

 

The accompanying financial statements have been prepared assuming that the Company will continue as a going concern. We have incurred net losses of $6,224,646 since inception and have not achieved profitable operations, raising substantial doubt about our ability to continue as a going concern. Our ability to continue as a going concern is dependent upon our achieving a sustainable level of profitability. The Company intends to continue financing its future development activities and its working capital needs largely from the private  sale of our securities, with additional funding from other traditional financing sources, including convertible term notes, until such time that funds provided by operations are sufficient to fund working capital requirements. The financial statements of the Company do not include any adjustments relating to the recoverability and classification of recorded assets, or the amounts and classifications of liabilities that might be necessary should the Company be unable to continue as a going concern.

Note 3 – Related Party Transactions and Collection Reserve for Amounts Due from Affiliated Entities:

Substantially all of our revenues to date have been derived from long term contracts with the Regulated Entities that are majority owned by our former Chief Executive Officer, who is also the husband of our majority owner and President. Note that all terms and contracts between the Company and the Regulated Entities are determined by related parties and these terms can change at any time.  Related party revenue was $973,798 and $1,699,298, including $0.0 and $475,912 of revenues from discontinued operations, respectively, for the three months ended April 30, 2016 and 2015.  Although the Regulated Entities have been able to pay us approximately $8,641,258 of the $11,809,267 billed to them from inception through April 30, 2016, there is no assurance that they will be able to generate enough positive cash flow to repay the full amount they presently owe to us. Thus, a reserve in the amount of $3,168,009 and $3,222,535 as of April 30, 2016 and January 31, 2016, respectively, has been recorded to recognize the uncertainty of collecting the full amount owed to us from the Regulated Entities.

On June 30, 2015, Shawn Phillips made the decision, with concurrence of the management of the Company, to cancel all of the above referenced Master Service Agreements.  Such cancellation was deem advisable by Mr. Phillips and management of the Company in light of the uncertainty of the right of the Company to supply such Fulfillment Services in the state of Colorado. Concurrent with the cancellation of the Master Service Agreements, the Company laid off substantially all of its employees.

We made an investment in cultivation facilities that we sublease to the Regulated Entities. Through September 30, 2015, the Company leased to the Regulated Entities approximately 123,000 square feet of cultivation facilities. It was estimated that the cultivation facilities had the capacity to provide enough product to supply approximately 15 to 20 marijuana dispensaries.  However, as a result of the Grounds for Denial described in Note 8, one of the cultivation facilities, the Nome facility, with approximately 38,000 square feet, fully built-out, was not granted a license to operate, and thus, was never occupied. Plus, because of the Grounds for Denial, the Regulated Entities have not been able to obtain licenses to operate any new dispensaries, in addition to the nine that the Regulated Entities presently operate. As a result, the cultivation facilities are operating at a loss, and are unable to pay the Company the amounts owed pursuant to their subleases with the Company.  Although the marijuana dispensaries owned by the Regulated Entities are operating at a profit, the dispensaries are not able to currently pay all of the amounts billed to them by the Company, since the profits from the dispensaries are being used to fund the operating losses of the cultivation facilities.

Therefore, in order to reduce costs, the Nome facility was closed on May 12, 2015, and the employees that had been hired by the Regulated Entities to operate the facility were terminated.  On September 30, 2015, with the consent of the owner of the Nome property, the Company's lease for this property was terminated, and the associated tenant improvement loan was cancelled. We wrote off assets comprised of tenant improvements, security deposits and prepaid lease amounts in the aggregate of $1,792,910 and wrote off related balances comprised of a tenant improvement loan, deferred lease payments and accumulated amortization of leasehold improvements in the aggregate amount of $1,576,374. We received cash back from the lessor in the amount of $59,558, as the net return of certain deposits, after $94,475 was retained by the lessor as payment of the lease for the month in which the lease was cancelled. We recognized a loss on the cancellation of this lease in the amount of $62,503.

 

Note 4 – Operating Leases:

The Company entered into a lease agreement with an affiliate for our corporate office needs. The lease is for a 31 month period, commenced in January 2014 for 6,176 square feet at an annual rate of $64,848 for the first twelve months, $67,936 for the subsequent 12 months, and $41,431 for the subsequent 7 months paid monthly, through October 31, 2016. This lease to the Company is on the same terms and conditions as is the direct lease between the affiliate and the independent lessor. Consequently, we believe that the lease terms to the Company are comparable to lease terms we would receive directly from third party lessors in our market, because the related party terms mirror the terms of the direct lease between the independent, third party lessor and the affiliated entity.

We entered into a lease agreement on April 1, 2014 to lease from an independent third party a cultivation facility of approximately 65,000 square feet ("51^st Ave Lease") for a term of five years and nine months. The terms of the 51^st Ave Lease stipulates the payment of $15,000 per month, prorated if necessary, until such time that the Lessor is able to deliver a Certificate of Occupancy, which occurred on August 1, 2014. Thereafter, lease payments are scheduled to be $176,456 per month for the first six months of the lease, and then are scheduled to be $221,833 per month for the subsequent 24 months, $231,917 per month for the subsequent 12 months, $242,000 per month for the subsequent 12 months and $247,041 per month for the final 12 months of the lease. Under the terms of the 51^st Ave Lease, we are obligated to reimburse the lessor for operating expenses applicable to the leased property and we paid the lessor a security deposit of $150,000 We have the option to renew the 51^st Ave Lease at the end of the term of the lease at a mutually agreed upon rate per square foot; there is no option to purchase the property underlying the 51^st Avenue Lease. The Lessor provided all of the tenant improvements that enable the continuous cultivation of marijuana plants in the facility. We account for this lease as an operating lease rather than as a capital lease, because the lease does not transfer ownership to us at the end of the lease, there is no bargain purchase price for the cultivation facility as a component of the lease, the terms of the lease are less than 75% of the economic life of the cultivation facility, and the current present value of the minimum lease payments is less than 90% of the fair market value of the asset. We subleased this cultivation facility to a Regulated Entity under the terms of a Master Service Agreement up until June 30, 2015, at which time the Master Service Agreement with the Regulated Entity that operates the cultivation facility was terminated. The  term of the Master Service Agreement was  for five years and nine months in an amount equal to the sum of (i) the monthly lease payment, (ii) plus the cost of reimbursed operating expenses paid to the lessor each month, and (iii) plus the amount of monthly amortization of tenant improvements, and (iv) a premium of forty percent. Revenue from the sublease of the 51^st Avenue cultivation facility has been recognized on a monthly basis, as the user is charged for the amount of the sublease. On June 1, 2015, upon the cancellation of the related Master Service Agreement, we entered into a sublease with the Regulated Entity that holds the license to operate the 51^st Avenue cultivation facility. The term of the sublease is for the period of July 1, 2015 terminating May 1, 2017 on a triple net lease basis, payable in a monthly lease amount of $265,800. At the end of the term of the sublease, the Company will negotiate an extension period at a monthly rate mutually acceptable to the Company and the subtenant.

We entered into a lease agreement on April 22, 2014 to lease from an independent third party a cultivation facility of approximately 38,000 square feet ("Nome Lease") for a term of seven years. We entered into a modification of the Nome lease on December 1, 2014, wherein the lease was modified to extend the lease term through April 30, 2025; and, the lease payments were modified to be $88,616 per month for the five months ending April 30 2015, and then are scheduled to be $90,207, $91,799, $93,390, $94,981, $73,578, $75,169, $76,761, 78,352, and then $79,943 per month for the final 12 months of the lease. As more fully described in Note 8 herein, the modification of the lease included the cancellation of the $750,000 note payable to the lessor for the financing of tenant improvements, and the extension of an additional $800,000 to be used by us for future tenant improvements. The amount of tenant improvement financing provided by the lessor is to be amortized over the extended term of the modified lease as a component of the monthly lease payments. Under the terms of the Nome Lease, we are obligated to reimburse the lessor for operating expenses applicable to the leased

 

 

property, and we are obligated to pay a security deposit of $133,679 one half of which was due and paid upon the execution of the Nome Lease, the final half was due and payable 30 days after the commencement date. We are responsible to provide all of the tenant improvements that will enable the continuous cultivation of marijuana plants at this cultivation facility. We accounted for this lease as an operating lease rather than as a capital lease, because the lease does not transfer ownership to us at the end of the lease, there is no bargain purchase price for the cultivation facility as a component of the lease, the terms of the lease are less than 75% of the economic life of the cultivation facility, and the current present value of the minimum lease payments is less than 90% of the fair market value of the asset. The Regulated Entities were not been able to obtain sufficient licenses from the state of Colorado to allow for sufficient production levels for the facility to be economically viable. As a result, the Nome facility was closed on May 12, 2015 and the employees that had been hired by the Regulated Entities to operate the facility were terminated.  On September 30, 2015, with the consent of the owner of the Nome property, the Company's lease for this property was terminated and the associated tenant improvement loan was cancelled. We wrote off assets comprised of tenant improvements, security deposits and prepaid lease amounts in the aggregate of $1,792,910 and  wrote off related balances comprised of a tenant improvement loan, deferred lease payments and accumulated amortization of leasehold improvements in the aggregate amount of $1,576,374. We received cash back from the lessor in the amount of $59,598, as the net return of certain deposits, after $94,475 was retained by the lessor as payment of the lease for the month in which the lease was cancelled. We recognized a loss on the cancellation of this lease in the amount of $62,503.

We entered into a lease agreement on September 11, 2014 to lease a cultivation facility of approximately 20,000 square feet ("Bryant St. Lease") for a term of ten years. During the first 12 months of the lease, lease payments are scheduled to be $23,984 for the first four months and 24,531 for the next eight  months, and then are scheduled to be $24,647, $25,140, $31,221, $31,845, $32,483, $33,132, $33,794, $34,470, and $35,160 for the second through the tenth year of the lease, respectively. We are not required to provide any security deposits or first and last month's rental amounts. We have an option to purchase the building for $2,400,000 at any time during the first 36 months of the lease, provided that we deliver a purchase option notice to the Lessor prior to the end of the 33^rd month of the lease. We are responsible to provide all of the tenant improvements that will enable the continuous cultivation of marijuana plants under approximately 370 grow lights. We account for this lease as an operating lease rather than as a capital lease, because the lease does not transfer ownership to us at the end of the lease, there is no bargain purchase price for the cultivation facility as a component of the lease, the terms of the lease are less than 75% of the economic life of the cultivation facility, and the current present value of the minimum lease payments is less than 90% of the fair market value of the asset.  We subleased this cultivation facility to a Regulated Entity under the terms of a Master Services Agreement up until June 30, 2015, at which time the Master Service Agreement with a Regulated Entity that operates the cultivation facility was terminated.  The term of the Maser Service Agreement was for a period of 10 years in an amount equal to the sum of (i) the monthly lease payment, (ii) plus the cost of reimbursed operating expenses paid to the lessor each month, (iii) plus the amount of monthly amortization of tenant improvements, and (iv) a premium of forty percent. Revenue from the sublease of the Bryant Street cultivation facility was recognized on a monthly basis as the user was charged for the amount of the sublease. On July 1, 2015, upon the cancellation of the related Master Service Agreement, we entered into a sublease with a Regulated Entity that holds the license to operate the Bryant Street cultivation facility. The term of the sublease is for the period of July 1, 2015 terminating September 1, 2017, payable in monthly lease amounts of $42,993, on a triple net lease basis. At the end of the term of the sublease, the Company will negotiate an extension period at a monthly rate mutually acceptable to the Company and the subtenant.

Future minimum payments for these leases are:

 

Note 5 – Income Taxes:

The Company uses the liability method of accounting for income taxes under which deferred tax assets and liabilities are recognized for the future tax consequences of temporary differences between the accounting bases and the tax bases of the Company's assets and liabilities. The deferred tax assets and liabilities are computed using enacted tax rates in effect for the year in which the temporary differences are expected to reverse.

 

The Company adopted the provisions of ASC 740, "Income Taxes" on July1, 2007. FASB ASC 740 provides detailed guidance for the financial statement recognition, measurement and disclosure of uncertain tax positions recognized in the financial statements. Tax positions must meet a "more-likely-than-not" recognition threshold at the effective date to be recognized upon the adoption of FASB ASC 740 and in subsequent  periods. The components of the income tax provision are as follows:

We have a net operating loss carryforward for financial statement reporting purposes of $3,493,851 from the year ended January 31, 2016.

Note 6 – Notes Payable:

Notes payable consisted of the following:

On March 20, 2014, the Company issued a convertible note in the amount of $850,000 (the "Note") to an individual. This Note was subsequently amended, and the unpaid principal balance was converted into common stock, as more fully described below.  The Note had an interest rate of 25%, payable monthly, and was scheduled to mature on September 21, 2014.  The outstanding principal balance of the Note, plus any accrued but unpaid interest on the Note, was convertible at any time on or before the maturity date at $1 per common share.  The Note was personally guaranteed by our majority shareholder and by an officer and director of the Company.

 

On July 16, 2014, the terms of the Note were amended ("Amendment") wherein the holder of the Note elected to convert $200,000 of the principal of the Note into 293,000 of our common shares of stock at a price of $.6825 per share. As a component of the Amendment, we in turn elected to prepay the remaining principal balance of the Note, after the scheduled payment of the principal and accrued interest due the holder on June 24, 2014, and to pay a prepayment penalty of $11,250. The difference of $93,000 in the premium of the per-share price of $0.6825 per share per the Amendment and the $1 per share per the Note, plus the amount of the prepayment penalty was charged to the loss on the early extinguishment of debt and interest expense, respectively.

On January 31, 2015, the Company entered into three convertible notes totaling up to $2,500,000, of which $2,465,000 had been received by the Company at April 30, 2016. The convertible notes were funded by the noteholders in varying amounts from approximately $50,000 to $550,000 per month.  The convertible notes are unsecured, have an interest rate of 25%, with the interest payable monthly.  The principal amount of the convertible notes are due on January 1, 2017.  At any time prior to the due date of the convertible  notes,  the unpaid  principal amount of the convertible note, plus any accrued but unpaid  interest,  may be converted into common stock of the Company at a per-share price of $1 per share.  The convertible loans are personally guaranteed by Shawn Phillips, a former officer of the Company and affiliate, and Erin Phillips, the majority shareholder of the Company.

●

the maturity date of the loans was extended to February 2018;

●

any proceeds from any sale of the marijuana dispensaries and/or cultivation facilities owned by Shawn Phillips will be paid to the Company until the amount paid to the Company equals all principal and interest due the lenders; and

●

the proceeds from any sale of the marijuana dispensaries and/or cultivation facilities received by the Company will be paid to the lenders until all principal and interest due the lenders has been paid.

On July 26, 2014 the company entered into a mortgage payable for the purpose of purchasing a commercial operating property that contains a cultivation facility and retail store, which we lease to one of the Regulated Entities. The amount of the mortgage is $595,000, has a three year term, and has no stated rate of interest. In accordance with ASC 835-30, we imputed an interest rate for the mortgage payable of 21.36%.  The mortgage is payable in varying amounts from $11,000 to $36,000 per month, which includes interest at a  stated amount of $6,000 per month, with a balloon payment of $126,000 due in the thirty-sixth month of the term. We account for the mortgage on a straight line basis with an imputed monthly payment of principal and interests in the amount of $22,301 per month. The difference between the imputed monthly payment amount and actual payment amounts is recorded as an increase or decrease to deferred interest expense, at the time a monthly payment is made. The amount of principal and interest payments on the notes for the five year period ending January 31, 2021 are, as follows:

 

The amount of principal and interest payments on the notes for the five year period ending April 30, 2021 are, as follows:

 

Note 7 – New Accounting Pronouncements:

The Financial Accounting Standards Board ("FASB") periodically issues new accounting standards in a continuing effort to improve standards of financial accounting and reporting. The Company has reviewed the recently issued pronouncements and concluded that there are no new accounting standards are applicable to the Company. The Company elected to adopt ASU 2014-10, Development Stage Entities: Elimination of Certain Financial Reporting Requirements, Including an Amendment to Variable Interest Entities Guidance in Topic 810, Consolidation. The adoption of this ASU allows the Company to remove the inception to date information and all references to development stage. The Company does not expect the adoption of recently issued accounting pronouncements to have a significant impact on its results of operations, financial position or cash flow.

Note 8 – Contingencies:

In anticipation of fully implementing the Company's business plan, management of the Company met with representatives of the Colorado Marijuana Enforcement Division (the "MED") in August 2014 and presented the structure of the Company and its business plan for providing services to the Regulated Entities. Subsequent to the meeting, over 60 license applications for the cultivation and sale of marijuana were approved and licenses were granted to Shawn Phillips, while he was also serving as the Company's Chief Executive Officer, and while his wife, Erin Phillips, maintained her position an officer and the principal shareholder of the Company.

Up until June 30, 2015, the Company provided Fulfillment Services to the Regulated Entities.  Effective June 30, 2015, the owner of and license holder for all of the Regulated Entities made the decision, with the concurrence of the management of the Company, to cancel all of the above referenced Master Service Agreements.  The termination of the Agreements was considered advisable since, in June 2015, the Colorado State Licensing Authority issued a Grounds for Denial to one of the Regulated Entities owned by Mr. Phillips. The  Grounds for Denial was based upon the belief of the Colorado Marijuana Enforcement Division (the "MED") that the Company and persons other than Mr. Phillips have a direct or indirect ownership or financial interest in the cultivation facility and dispensary owned by Mr. Phillips and should have been included on the application.

As a result of the denial of Mr. Phillips' application, all applications for the renewal of existing licenses owned by the Regulated Entities, have been placed in an "Administrative Continuation" status, pending the resolution of the license application. Administrative Continuation status enables a licensee to continue to operate, but the licensee operates without an actual current license. Mr. Phillips is working with the MED in order to resolve this situation. However, if a resolution of the denial of his application is not reached, Mr. Phillips has advised the Company that it is his intention to appeal the denial of his application.

If Mr. Phillips is not able to reach a mutually acceptable resolution with respect to his application, or if he is not successful in appealing the denial, the allegations of the MED could possibly affect all of the licenses under which the Regulated Entities operate and possibly result in the cancellation of all of the licenses held by the Regulated Entities. Although the ultimate outcome of this matter cannot be determined at this time, a failure to reach an acceptable resolution might negatively impact the ability of the Company to continue operating as a going concern.

 

Note 9 – Discontinued Operations:

As more fully described in Note 8 – Contingencies, we discontinued providing services under the Master Service agreements to the Regulated Entities on June 30, 2015. There were no components of major assets and liabilities associated with the discontinued operations at April 30, 2016 and 2015 and at January 31, 2016.  The summarized discontinued operating results for the three months ended April 30, 2016 and 2015 and the year ended January 31, 2016 respectively, are, as follows:

 

Note 10 – Subsequent Events:

In accordance with ASC 855-10 we have analyzed our operations subsequent to April 30, 2016, to the date these condensed financial statements were issued, and have determined that, other than as disclosed above, we do not have any material subsequent events to disclose in these condensed financial statements.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

ITEM 2.       MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONAND RESULTS OF OPERATIONS

 

In anticipation of fully implementing the Company's business plan, management of the Company met with representatives of the Colorado Marijuana Enforcement Division (the "MED") in August 2014 and presented the structure of the Company and its business plan for providing services to the retail marijuana outlets and marijuana cultivation facilities (the "Regulated Entities") owned by Shawn Phillips, a former officer and director.  Subsequent to the meeting, over 60 license applications for the cultivation and sale of marijuana were approved and licenses were granted to Shawn Phillips, while he was also serving as the Company's Chief Executive Officer, and while his wife, Erin Phillips, maintained her position as an officer and the principal shareholder of the Company.

 

Mr. Phillips, is the sole owner of Rocky Mountain Farmacy, Inc. ("RMF"), one of the Regulated Entities, which operates The Retreat and the Shelter marijuana dispensaries.  In November 2014, Mr. Phillips submitted an application to the MED for a retail license for RMF to permit the 51^st Avenue cultivation facility to supply recreational marijuana.  On June 11, 2015, the State Licensing Authority issued a "Notice of Grounds for Denial of Retail Marijuana License Application and Notice of Duty to Respond" ("Grounds for Denial").The Grounds for Denial were based upon the belief of the MED that the Company and persons other than Mr. Phillips have a direct or indirect ownership or financial interest in RMF, and such should have been included on the application.

 

Prior to June 30, 2015, the Company provided the following services to the Regulated Entities pursuant to separate Master Service Agreements:

●

Branding, Marketing and Administrative Consulting Services

●

Accounting and Financial Services

●

Compliance Services

●

Nutrient Supplier

 

Subsequent to June 30, 2015, Shawn Phillips, the owner of and license holder for all of the Regulated Entities, made the decision, with concurrence of the management of the Company, to cancel all of the above referenced Master Service Agreements.  The cancellation was deem advisable by Mr. Phillips and management of the Company in light of the uncertainty of the right of the Company to supply such Fulfillment Services in Colorado. The uncertainty was created by allegations contained in the Grounds for Denial issued on June 11, 2015. As a result of the cancellation of the Master Service Agreements, the Company terminated approximately 80% of its employees.

 

As of July 31, 2016 the Company was not providing the services listed above to any person or entity.

 

The Company will continue to provide real property to two cultivation facilities and to one retail store, which also contains a small cultivation facility, owned by Mr. Phillips under two subleases and one lease. Revenue from the two subleases and the one lease is recognized on a straight line basis over the term of the sublease.

Results of Operations

 

Material changes in line items in our Statement of Operations for the three months ended April 30, 2016 as compared to the same period last year, are discussed below:

 

 

The Regulated Entities have paid the Company approximately $8,641,000 of the $11,809,267 billed to them between January 16, 2014 and April 30, 2016, including $973,798 and $5,306,286 billed during the three months ended April 30, 2016 and the year ended January 31, 2016, respectively. However, there is no assurance that the Regulated Entities will be able to generate enough cash to pay the $3,168,009 presently owed to the Company at April 30, 2016, and as a result, the receivable from the Regulated Entities at April 30, 2016 ($3,168,009) has been fully reserved and charged to expense.

Liquidity and Capital Resources

 

Between March 15, 2014 and August 19, 2014, the Company sold 2,224,700 units, at a price of $1.00 per unit, to a group of private investors.  Each unit consisted of one share of the Company's common stock and one warrant.  Every two warrants entitle the holder to purchase one share of the Company's common stock at a price of $5.00 per share at any time prior to January 31, 2019.  When the Company acquired the remaining shares of Strainwise, the Company exchanged its warrants for the outstanding Strainwise warrants. The warrants issued by the Company had the same terms as the Strainwise warrants.

 

 

On March 20, 2014 the Company borrowed $850,000 from an unrelated third party.  The loan bears interest at 25% per year, payable monthly, and matured on September 21, 2014.  On October 16, 2014, the terms of the loan were amended such that $200,000 of the loan was converted into 293,000 shares of the Company's common stock and the Company agreed to pay the remaining balance of the loan ($325,000), plus accrued interest and a prepayment penalty of $11,250, prior to October 29, 2014.  The $850,000 loan was used (i) to secure approximately $217,800 of deposits for the future rental and/or purchase of cultivation facilities to lease to growers in the industry, (ii) to acquire approximately $175,000 of cultivation equipment (iii) to make approximately $63,500 of tenant improvements to cultivation facilities under lease, (iv) to pay approximately $373,000 of principal and interest to the note holder, and (v) to pay other miscellaneous expenses

 

As of April 30, 2016, three unrelated third parties had collectively loaned the Company $2,410,000, of which $1,800,000 was outstanding at January 31, 2016.  The loans bear interest at 25% per year, are unsecured, and become due and payable on January 31, 2017.  Interest only payments are due each month, and at the option of the lenders, the loans can be converted into shares of the Company's common stock at the rate of $1.00 per share. The loan proceeds were used to pay general and administrative expenses.  As of As of April 30, 2016, the Company was in default under the terms of the notes in that the Company had not paid the full amount of the monthly interest as it became due. As a result, all principal, plus accrued and unpaid interest owing under the terms of the notes are classified as current liabilities in the accompanying financial statements.

 

Effective June 30, 2016, the Company entered into a debt modification agreement with the lenders.  Pursuant to the agreement, the Company will pay the lenders $84,482 each month for ten months, with the first payment due on August 15, 2016.  The $84,482 consists of past due interest of $32,482 plus current monthly interest of $52,000.  Beginning June 15, 2017 only current monthly interest of $52,000 will be due the lenders.  In addition to the above:

●

the maturity date of the loans was extended to February 2018;

 

●

net proceeds from the sale of any assets of the Regulated Entities owned by Shawn Phillips will be paid to the Company until the amount paid to the Company equals all principal and interest due the lenders;

 

●

any proceeds derived from the sale of any assets from the Regulated Entities owned by Shawn Phillips that  are received by the Company will be paid to the lenders., and

●

if the proceeds from the sale of any assets of the Regulated Entities owned by Shawn Phillips that are received by the Company are not sufficient to pay all principal and interest of the loans at the time of such sale, the Company has agreed to negotiate in good faith with the lenders mutually acceptable repayment terms.

 

As explained in Note 3 to the financial statements which are part of this report, in order to reduce costs, the Nome facility was closed on May 12, 2015 and on September 30, 2015, with the consent of the owner of the Nome property, the Company's lease for this property was terminated and the associated tenant improvement loan was cancelled. The Company wrote off assets comprised of tenant improvements, security deposits and prepaid lease amounts in the aggregate of $1,792,910 and  wrote off related balances comprised of a tenant improvement loan, deferred lease payments and accumulated amortization of leasehold improvements in the aggregate amount of $1,576,373. The Company received cash back from the lessor in the amount of $59,598, as the net return of certain deposits, after $94,475 was retained by the lessor as payment of the lease for the month in which the lease was cancelled. The Company recognized a loss on the cancellation of this lease in the amount of $62,507.

 

The Company's material sources and (uses) of cash during the three months ended April 30, 2016 and 2015 were:

 

 

 

As of July 31, 2016, the Company was leasing two properties in the Denver Metropolitan area which are subleased to the Regulated Entities for their marijuana cultivation and growing operations. The subleases with the Regulated Entities expire on the same date (generally between December 2019 and December 2023) as the leases with the owners of these properties.  The Company charges the Regulated Entities an amount that approximates a premium of from 36% to 50% of the amount the Company pays the lessors of these properties.

 

None of the persons leasing these facilities to the Company are affiliated with the Company in any way.  The Company believes the terms of the subleases are comparable to those which the Company could have obtained from unrelated third parties.

 

See Note 4 to the financial statements, which are part of this report, the future minimum amounts the Company is required to pay under the terms of it Operating Leases.

 

See Note 6 to the financial statements which are part of this report, for the future minimum payments required under the terms of loans to the Company.

 

As of July 31, 2016, the Company's operating expenses, excluding payments required for our operating leases, were approximately $170,000 per month, the primary components of which  are interest expense, compensation for Erin Phillips, the Company's Chief Executive Officer and President and compensation for the Company's employees and consultants.

 

The Company plans to fund its operations and contractual requirements through management and consulting services provided to independent third parties, and possibly through fees received for subleasing facilities to the Regulated Entities.  See "Sale of Dispensaries and Cultivation Facilities" below.

 

The Company may need to raise enough capital to fund its operations until it is able to earn a profit.  The Company does not know what the terms of any future capital raising may be but any future sales of the Company's equity securities will dilute the ownership of existing stockholders and could be at prices below the market price of the Company's common stock.  The inability of the Company to obtain the capital which it requires may result in the failure of the Company.  The Company does not have any commitments from any person to provide the Company with any capital.

Sale of Dispensaries and Cultivation Facilities

 

Shawn Phillips, the owner of the Regulated Entities, is attempting to sell his marijuana dispensaries and cultivation facilities, which comprise all of the Regulated Entities.  It is expected that a portion of the sale proceeds will be used to pay the amounts owed to the Company by the Regulated Entities ($3,168,009 as of April 30, 2016).

 

The Company is presently subleasing two cultivation facilities to the Regulated Entities.

 

If the Regulated Entities subleasing these facilities are sold, it is not known if these facilities will continue to be subleased.  If they will continue to be subleased, it is not known what the terms of the subleases will be.

 

In July 2014 the Company purchased a 5,000 square foot commercial building, located at 5110 Race Street in Denver, Colorado, which is leased to a retail marijuana dispensary and a small cultivation facility operated by one of the Regulated Entities.  If the Regulated Entity leasing this property is sold, it is not known if this property will continue to be leased.  If it will continue to be leased, it is not known what the terms of the lease will be.

 

Trends

 

The factors that will most significantly affect the Company's future operating results, liquidity and capital resources will be:

●

The ability of the Company to find new sources of revenue;

●

Government regulation of the marijuana industry;

●

Revision of Federal banking regulations for the marijuana industry;

●

Legalization of recreational marijuana in more states; and

 

Other than the foregoing, the Company does not know of any trends, events or uncertainties that have had, or are reasonably expected to have, a material impact on:

●

revenues or expenses;

●

any material increase or decrease in liquidity; or

●

expected sources and uses of cash.

Critical Accounting Policies and New Accounting Pronouncements

 

See Note 1 to the financial statements included as part of this report for a description of the Company's significant accounting policies.

ITEM 4.    CONTROLS AND PROCEDURES

 

Controls and Procedures

 

Under the direction and with the participation of the Company's management, the Company carried out an evaluation of the effectiveness of the design and operation of its disclosure controls and procedures as of April 30, 2016.  The Company maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in its periodic reports with the Securities and Exchange Commission is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and regulations, and that such information is accumulated and communicated to the Company's management, including its principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosure.  The Company's disclosure controls and procedures are designed to provide a reasonable level of assurance of reaching its desired disclosure control objectives.  Based upon this evaluation, management concluded that the Company's disclosure controls and procedures were not effective as of April 30, 2016 primarily based on these criteria, due to material weaknesses resulting from our failure to 1) provide correct responsibilities to adequately segregate activity in the area of cash receipts and cash disbursements, 2) effectively implement comprehensive entity level internal controls, and 3) adequately segregate duties within the accounting department due to an insufficient number of staff.

 

There were no changes in the Company's internal control over financial reporting during the quarter ended April 30, 2016, that materially affected, or are reasonably likely to materially affect, its internal control over financial reporting.

 

 

PART II

Item 6.       Exhibits

Exhibits

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

 

	STRAINWISE, INC.
August 9, 2016	By:	/s/ Erin Phillips
		Erin Phillips, President, Chief Financial and
		Accounting Officer