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PHOT > SEC Filings for PHOT > Form 10-K on 31-Mar-2014All Recent SEC Filings

Show all filings for GROWLIFE, INC.

Form 10-K for GROWLIFE, INC.


31-Mar-2014

Annual Report


ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

This discussion summarizes the significant factors affecting our operating results, financial condition and liquidity and cash flows for the periods ended December 31, 2013 and 2012. The discussion and analysis that follows should be read together with the consolidated financial statements and the notes to the consolidated financial statements included elsewhere in this report. Management's Discussion and Analysis of Financial Condition and Results Of Operations is provided as a supplement to the accompanying consolidated financial statements and footnotes to help provide an understanding of our financial condition, the changes in our financial condition and our results of operations. Except for historical information, the matters discussed in this Management's Discussion and Analysis of Consolidated Financial Condition and Results of Consolidated Operations are forward looking statements that involve risks and uncertainties and are based upon judgments concerning various factors that are beyond our control. Our actual results could differ materially from the results anticipated in any forward-looking statements as a result of a variety of factors, including those discussed in Section 1A above - "Risk Factors."

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Overview

GrowLife is a holding company with multiple operating businesses that manufacture and supply branded equipment and expendables in the USA for urban gardening, inclusive of equipment and expendables for gardening of medical marijuana. Wholly owned GrowLife companies include SG Technologies, Corp, Phototron, Greners, Soja, Inc. (dba Urban Garden Supply), GrowLife Hydroponics, Inc., and GrowLife Productions, Inc. In addition to promotion and sales of GrowLife owned brands, GrowLife companies distribute and sell over 3,000 products through its on-line distribution channels, Greners.com, our on-line superstore, and through our seven retail storefronts. GrowLife's www.cannabis.org is expected to provide GrowLife with another widely recognized and authoritative channel for branded product promotion and sales. GrowLife and its business units are organized and directed to operate strictly in accordance with all applicable state and federal laws. The following organizational chart details our corporate structure:

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GrowLife is actively engaged in improving and expanding its lineup of branded products through organic development, business alliances and acquisition. Consistent with this strategy, GrowLife is actively engaged in developing other business alliances and evaluating branded products for acquisition. GrowLife is also actively engaged in building upon its direct to customers sales business by expansion and promotion of Greners.com, StealthGrow.com, Phototron.com and other unique online channels of distribution. Finally, GrowLife is actively engaged in pursuing acquisitions that will allow its GrowLife Hydroponics retail sales division business to expand regionally in the United States.

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Operating expenses consist primarily of payroll and related costs and corporate infrastructure costs. We expect that our operating expenses will increase as we hire additional staff and continue executing our business plan. We anticipate incurring approximately $350,000 in added annual costs related to operating as a public company, consisting of accounting and audit-related fees, legal fees, director and officer insurance premiums and filing and other miscellaneous fees.

Historically, we have funded our working capital needs primarily through the sale of our products, the issuance of short and long term promissory notes, and the sale of shares of our capital stock.

Results of Operations

The Year Ended December 31, 2013 Compared to the Year Ended December 31, 2012

Revenue and cost of revenue

For the year ended December 31, 2013, our revenue was $4,858,976 compared to $1,450,745 in the same period last year, an increase of $3,408,231, or approximately 2.35 times fiscal year 2012 revenue. The increase is primarily due to (i) $2,101,399 of revenue related to the acquisition of Rocky Mountain Hydroponics, LLC and Evergreen Garden Center, LLC (see "NOTE 6 - PURCHASE - ROCKY MOUNTAIN HYDROPONICS and EVERGREEN GARDEN CENTER") that was not present during fiscal year 2012, and (ii) the fact that both Greners and Urban Garden Supply (see "NOTE 4 - ASSET PURCHASE - GRENERS.COM and NOTE 5 - PURCHASE - URBAN GARDEN") had a full twelve months of revenue included in fiscal year 2013 and only 5.5 and 2.5 months, respectively, during fiscal year 2012.

For the year ended December 31, 2013, our gross profit was $853,113, or 17.6% of revenue, compared to $411,974, or 28.4%, of revenue in the same period last year. The decrease in gross profit percentage reflects the increased competition experienced by our retail hydroponics stores.

General and administrative costs

Expenses

Total general and administrative expenses for the year ended December 31, 2013 were $3,163,007, an increase of $1,839,271 from the $1,323,736 incurred during the fiscal year 2012. A significant factor in the increase in general and administrative expenses on a year-to-year basis is the acquisition of four retail hydroponics stores through the Company's acquisition of Rocky Mountain Hydroponics, LLC and Evergreen Garden Center, LLC ("RMH/EGC") on June 7, 2013. As a direct result of this acquisition, fiscal year 2013 includes $778,501 of general and administrative expenses related to RMH/EGC while fiscal year 2012 has zero. In addition, fiscal year 2013 has a full twelve months of general and administrative expenses related to both Greners and Urban Garden Supply, while fiscal year 2012 has approximately 5.5 months of Greners and approximately 2.5 months of Urban Garden Supply general and administrative expenses.

During the year ended December 31, 2013, the Company recorded $1,469,184 of general and administrative expenses that were non-cash, as the Company paid these expenses via the issuance of shares of its common stock. In fiscal year 2012, the Company recorded similar non-cash general and administrative expenses totaling $332,750. These expenses consisted of wages, rents, and professional/consulting services.

In fiscal year 2013, the Company granted stock options to three (3) members of its executive management team (see "NOTE 23 - STOCKHOLDERS' DEFICIT") granting these individuals the option to purchase 34,000,000 shares of the Company's common stock, in the aggregate. These stock option grants were recorded in accordance with Financial Accounting Standards Board (FASB) ASC Topic 718, "Compensation - Stock Compensation". The Company measured, and recorded, the fair value of the option grant as of the date of grant and is amortizing the computed value of the option grant over the related vesting period. During the year ended December 31, 2013, the Company recorded $148,633 of non-cash expense related to these stock options. During the twelve-months ended December 31, 2012, the Company recorded $26,563 of expense related to stock options.

In fiscal year 2013, the Company also recorded $7,015,000 of non-cash warrant expense (see "NOTE 23 - STOCKHOLDERS' DEFICIT") related to the issuance of 170,000,000 warrants, of which 165,000,000 are still unexercised as of December 31, 2013. The outstanding warrants as of December 31, 2013 were valued at $6,765,000 in the aggregate as of the date of issuance and were fully expensed at the time of issuance because they vested immediately and were also exercisable immediately. In addition to the $6,765,000, the Company recorded $250,000 of non-cash warrant expense in relation to the warrants issued to Gemini Master Fund. The Company did not issue any warrants during fiscal year 2012 and therefore had no warrant expense.

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The following is a brief analysis of select general and administrative expenses:

Consulting expenses totaled $699,133 during fiscal year 2013. This consisted primarily of $433,000 in non-cash expense paid to a third-party firm by the issuance of 5,700,000 shares of the Company's common stock and a $100,000 cash payment to a consulting company where services were rendered by Marco Hegyi, shortly before he joined GrowLife as the Company's President. These firms were retained by the Company to assist in fundraising endeavors, help promote the GrowLife name/brand, and to provide operational/business management expertise. During fiscal year 2012, the Company incurred consulting expenses totaling $135,602.

Accounting, tax preparation, and audit fees during fiscal year 2013 were $233,574, which consisted of $135,386 to our independent outside auditors, $14,539 for tax preparation, and $83,649 to other third-party consultants. One of these third party consultants, whose contract with the Company was terminated as of June 30, 2013, was paid $30,000 in cash and $53,333 by the issuance of 5,333,334 shares of the Company's common stock during the six months ended June 30, 2013. During fiscal year 2012, the Company recorded $129,671 of accounting, tax preparation, and audit fees.

Advertising expense during the year ended December 31, 2013 was $220,514, while fiscal year 2012 advertising expense was $203,470. The Company recorded fiscal year 2013 advertising expense of $118,693 for Phototron, $65,411 for Greners, and $36,410 to promote the GrowLife name/brand and its retail stores.

Rents, repairs, and security totaled $378,714 during fiscal year 2013, an increase of $267,597 from the $111,117 incurred during fiscal year 2012. Rents, repairs, and security for RMH/EGC totaled $178,031 during fiscal year 2013 versus zero during fiscal year 2012. In addition, as previously mentioned, fiscal year 2013 includes twelve months of rents, repairs, and security expenses for both Greners and Urban Garden Supply while fiscal year 2012 includes approximately six months for Greners and approximately three months for Urban Garden Supply.

During the year ended December 31, 2013, the Company incurred expenses of $192,549 in relation to new business development. This consisted of $88,759 for the Company's Cannabis.org website/joint venture, $27,976 in relation to GrowLife Productions, Inc., $15,000 in relation to the STVB joint venture, and $60,814 relating to other potential joint ventures. No such expenses were recorded during fiscal year 2012.

The Company recorded investor relations/public relations expense of $565,049 during the year ended December 31, 2013. Of this, $401,700 was non-cash and was paid via the issuance of 8,870,000 shares of the Company's common stock. During the twelve months ended December 31, 2012, the Company recorded $106,867 of investor relations/public relations expense. As a publicly traded company, the Company frequently issues press releases and other promotional information, all of which comes at a cost to the Company. These press releases and other promotional materials are considered necessary by the Company as a way to keep the investment community apprised of both the Company's operations and strategic vision.

Legal expenses totaled $92,319 during the year ended December 31, 2013 as compared to $136,817 during fiscal year 2012. Being a publicly traded company requires filings with the Securities and Exchange Commission ("SEC"), which often requires the Company to retain independent outside legal counsel to review these, and other, critical filings and documents.

The Company incurred $167,380 of expense related to video production and website maintenance/design during fiscal year 2013. Of the $167,380, the Company spent $108,548 in relation to the redesign of its Phototron website and television marketing campaign. The Phototron website is substantially all new in terms of graphics/design and has a significantly improved, and more efficient, online ordering system. The Company also incurred $24,392 of expense related to its Grener.com website and $34,440 related to the maintenance/improvement of its other websites. The Company incurred similar expenses in fiscal year 2012 totaling $67,319.

During the year ended December 31, 2013, the Company recorded a $62,882 non-cash general and administrative expense related to inventory impairment. This charge relates to slow-moving and/or obsolete inventory at the Company's retail stores. 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.

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Other Expenses

During the year ended December 31, 2013, the Company incurred net other expenses totaling $10,437,427 versus net other expenses of $915,229 during the same period in fiscal year 2012. Included in the $10,437,427 for the year ending December 31, 2013 was $5,106,073 of non-cash expense related to the beneficial conversion features (BCF) of the Company's various convertible notes payable, $3,701,078 of non-cash expense related to the change in fair value of the Company's derivative liabilities, $960,750 of non-cash expense related to the extinguishment of debt, $279,515 of non-cash expense related to the impairment of goodwill, $262,604 of non-cash expense related to the impairment of intangible assets, and $169,676 (of which $161,587 was non-cash) of interest expense. These expenses were partially offset by the $42,269 of other income related to rent owed the Company by a subtenant at its Boulder, Colorado facility.

For the year ended December 31, 2012, the Company's net other expenses were $915,229, which consisted of $634,128 of non-cash expense related to the impairment of goodwill, $428,467 of non-cash expense related to the extinguishment of debt, and $378,253 of interest expense. These expenses were partially offset by the $525,619 non-cash gain in the fair value of the Company's derivative liabilities.

Note that $10,471,607, or 99%, of the $10,479,696 of fiscal year 2013 other expense (excludes the $42,269 of other income) is non-cash, which means it does not have an adverse affect on the Company's cash flows.

Loss

The net loss for the year ended December 31, 2013 was $21,380,138 with the same
period in fiscal 2012 generating a loss of $2,186,304. As noted above in "Other
Expenses", a significant portion of the Company's net loss for fiscal year 2013
is related to non-cash expenses. The following is a brief summary of the
non-cash expenses incurred by the Company during the year ended December 31,
2013:

                                                                           Year Ended
                                                                          December 31,
                                                                              2013
 Net loss - GAAP basis                                                   $   (21,380,138 )
 Less non-cash expenses:
  Non-cash interest expense                                                    5,267,660
  Non-cash warrant expense                                                     7,015,000
  Non-cash stock option expense                                                  148,633
  Change in fair value of derivative                                           3,701,078
  Amortization of intangible assets                                              151,696
  Gain (loss) on extinguishment of debt                                          960,750
  Depreciation of plant & equipment                                               22,229
  Impairment of goodwill                                                         279,515
  Impairment of intangible assets                                                262,604
  Impairment of inventory                                                         62,882
  Services rendered for common stock                                           1,469,184
 Total non-cash expenses                                                      19,341,231

 Net loss excluding non-cash items - Non-GAAP basis                      $    (2,038,907 )

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Liquidity and Capital Resources

As of December 31, 2013, we had a working capital deficiency of $7,244,940 compared to a working capital deficiency of $67,202 at December 31, 2012. We have relied on funds generated through operations, through loans and through selling shares of our common stock in a series of private placements.

During the year ended December 31, 2013, cash used in operations was $1,791,074 compared to cash used of $1,073,301 during the same period in the prior year. These expenses include wages, rents, cost of goods sold, professional fees for legal, accounting, and consultants, insurance, utilities, and sales and marketing.

During the year ended December 31, 2013, cash used in investing activities was $558,058, which consisted primarily of $550,000 for the purchase of Rocky Mountain Hydroponics, LLC and Evergreen Garden Center, LLC. Also included in the $558,058 was $5,500 used for improvements to our retail stores and $1,160 used for the Company's investment in Vape Holdings, Inc. (see "NOTE 9 - INVESTMENT IN A RELATED PARTY"). During the year ended December 31, 2012, cash used in investing activities was $240,175, which was due primarily to the $250,000 for the purchase of Greners' assets.

During the year ended December 31, 2013, cash provided by financing activities was $4,143,806. In fiscal year 2012, cash provided by financing activities was $1,325,641. The following is a summary of cash provided by financing activities:

                                                               For the Year Ended December 31,
                                                                 2013                   2012

Proceeds from the issuance of common stock                 $      1,294,365       $         15,250
Proceeds from the issuance of 10% convertible note                  156,000                      -
Proceeds from the issuance of convertible notes                   1,850,000              1,141,092
Proceeds from options exercised                                       9,000                      -
Proceeds from notes payable                                       1,130,000                      -
Proceeds from additional contributed capital                              -                120,402
Payments on notes payable and accrued interest                    (296,719)               (50,000)
Proceeds from related party                                           1,160                 98,897
                                                           $      4,143,806       $      1,325,641

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During the year ended December 31, 2013, the Company issued 36,981,862 shares of its common stock for cash via its December 2011 Subscription Agreement. The shares were sold at a price of $0.035 per share and generated proceeds to the Company in the amount of $1,294,365. As of December 31, 2013, the Company had closed its Subscription Agreement.

During the year ended December 31, 2013, the Company issued 470,237 shares of its common stock in relation to the exercise of stock options by Eric Shevin, who joined the Company's Board of Directors in April 2013. These shares generated proceeds to the Company in the amount of $9,000.

On January 8, 2013, the Company issued a 10% convertible note (the "10% Convertible Note) to Black Mountain Equities, Inc ("BME"). The rate of interest on the convertible note is 10%, and BME, at its sole discretion, can convert both the principal and accrued interest into shares of the Company's common stock. The conversion price was the lesser of (a) $0.04 per share or (b) 70% of the average of the 3 lowest daily volume weighted average closing prices occurring during the 20 consecutive trading days immediately preceding the applicable conversion date on which BME elects to convert all or part of the note. During the three month period ended March 31, 2013, BME converted all of the principal and accrued interest into 6,270,413 shares of the Company's common stock. As of December 31, 2013, this note and all related interest had been paid in full.

On March 14, 2013, an employee of the Company loaned us $25,000 via a note payable. Per the terms of the note, the principal accrues interest at the rate of 6% per year with a term of 90 days. The note does not require any principal and/or interest payments during the 90-day term, but the Company can make, at its sole discretion, principal and/or interest payments in any amount it chooses during the 90 day term. At the conclusion of the note's 90-day term the Company is required to pay, in full, any and all unpaid principal and/or interest. On June 26, 2013, the Company signed a revised agreement with this related party that extends the term through September 30, 2013. All of the other terms and conditions remained unchanged from the original agreement. On September 6, 2013, the Company issued 1,224,918 shares of its common stock at a per share price of $0.021 as payment in full for the $25,000 principal and $723 of accrued and unpaid interest. As of September 30, 2013, this related party had voluntarily terminated his employment with the Company to pursue other business opportunities and the Company had satisfied this obligation in full as of December 31, 2013.

On May 1, 2013, the Company entered into a Securities Purchase Agreement with a certain "accredited investor" ("Investor"), for the sale and purchase of a $280,000 original issue discount secured 0% nonconvertible promissory note due October 31, 2013 (the "OID Note"). The OID Note is secured by obligations of the Company. The Company and each of its subsidiaries has granted and pledged to the OID Note Purchaser a continuing security interest in all personal property of the Company and its subsidiaries. Except for the original issue discount, the OID Note does not carry interest unless and until there is an Event of Default, in which case the outstanding balance would carry interest at 18% per annum. The Company can prepay the OID Note, in whole or in part, at any time without penalty. At closing, the Company received gross proceeds of $250,000 for such private placement, with the remaining $30,000 retained by the OID Note Purchaser as prepaid interest. The Company originally recorded the $30,000 as prepaid interest and subsequently expensed the entire $30,000 as interest expense during the year ended December 31, 2013. On October 11, 2013, the Holder of the $280,000 OID Note converted the entire $280,000 into 8,000,000 shares of the Company's common stock at a per share conversion price of $0.035.

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During the year ended December 31, 2013, the Company was advanced, in the aggregate, $850,000 on its revolving promissory note (see "NOTE 15 - REVOLVING PROMISSORY NOTE"). Per the terms of the Revolving Note, the Holder agrees to make advances to the Company from time to time during the 14 month Revolving Note term, at its sole discretion, in an aggregate principal amount at any one time outstanding which does not exceed $550,000 (the "Revolving Credit Commitment"). During the term of the Revolving Note, the Company may use the Revolving Credit Commitment by borrowing, prepaying any advances under the Revolving Note in whole or in part, and re-borrowing, all in accordance with the terms and conditions of the Revolving Note. As set forth in the terms of the Revolving Note, the term is for a period of fourteen months, with the expiration date being July 31, 2014. Interest accrues from the date of any advances on any principal amount withdrawn, and on accrued and unpaid interest thereon, at the rate of 7% per annum (calculated on the basis of a 365 day year for the actual number of days elapsed), compounded annually. The Company was also obligated to pay the Holder a $5,000 transaction fee, which was deducted from the initial advance of funds and recorded as a general and administrative expense by the Company. On August 29, 2013, $750,000 was converted into a 7% Convertible Note (see "NOTE 19 - 7% CONVERTIBLE NOTE"), leaving an outstanding principal balance of $100,000. On October 16, 2013, the Company repaid this note in full, in cash, with the total payment equaling $100,518, of which $100,000 was principal and $518 was interest.

On October 11, 2013, the Company issued an additional $850,000 of 7% convertible notes to four Holders. Per the terms of these 7% Notes, the original principal balance is $850,000 and is not secured by any collateral or any assets pledged to the Holder. The maturity date is September 30, 2015, and the annual rate of interest is seven percent (7%), which increases to twenty-four percent (24%) per annum, or the maximum rate permitted under any applicable law, in the event of default. Subject to certain limitations, the Holder can, at its sole discretion, convert the outstanding and unpaid principal and interest into fully paid and nonassessable shares of the Company's common stock. The conversion price for the period of time from the date of this 7% Note through and including September 30, 2014 is the lesser of (a) $0.025 per share and (b) seventy percent (70%) of the average of the three (3) lowest daily volume weighted average closing prices occurring during the twenty (20) consecutive trading days immediately preceding the applicable conversion date on which the Holder elects to convert all or part of this 7% Note, subject to adjustment as provided in this 7% Note. The conversion price is $0.025 per share for the period of October 1, 2014 through the maturity date of September 30, 2015, subject to adjustment as provided in this 7% Note. At any time after the 12-month period immediately following the date of this 7% Note, the Company has the option to pre-pay the entire outstanding principal amount of this 7% Note by paying to the Holder an amount equal to one hundred and fifty percent (150%) of the principal and interest then outstanding. The Company's obligations under this 7% Note will accelerate upon a bankruptcy event with respect to the Company or any subsidiary, any default in the Company's payment obligations under this 7% Note, the Company's failure to issue shares of its common stock in connection with a conversion of this 7% Note, the Company's or any subsidiary's breach of any provision of any agreement providing for indebtedness of the Company or such subsidiary in an amount exceeding $100,000, the common stock of the Company being suspended or delisted from trading on the Over the Counter Bulletin Board (the "Primary Market") market and the OTCQB, the Company losing its status as "DTC Eligible" or the Company becoming late or delinquent in its filing requirements with the Securities and Exchange Commission. Upon any such acceleration of this 7% Note, the Company shall be obligated to pay an amount equal to the greater of (i) one hundred and twenty percent (120%) of the outstanding principal of this 7% Note (plus all accrued but unpaid interest) and (ii) the product of (a) the highest closing price for the Company's common stock for the five (5) days on which the Primary Market is open for business immediately preceding such acceleration and
(b) a fraction, the numerator of which is the outstanding principal of this 7% Note, and the denominator of which is the applicable conversion price as of the date of determination.

On December 20, 2013, the Company issued an additional $1,000,000 of 7% convertible notes to two Holders. Per the terms of these 7% Notes, the original . . .

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