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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K/A
(Amendment
No.1)
☑
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the
Fiscal Year Ended December 31, 2017
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: 000-28107
GILLA INC.
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(Exact
name of registrant as specified in its charter)
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Nevada
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88-0335710
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(State
or Other Jurisdiction of Incorporation or
Organization)
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(I.R.S.
Employer Identification Number)
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475 Fentress Blvd., Unit L, Daytona Beach, Florida
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32114
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(Address
of Principal Executive Offices)
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(Zip
Code)
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Registrant's
telephone number, including area code (416) 843-2881
Securities
registered pursuant to Section 12(g) of the Act:
Common
Stock, $0.0002 Par Value Per Share
(Title
of Class)
Indicate
by check mark if the registrant is a well-known seasoned issuer, as
defined in Rule 405 of the Securities Act.
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☐
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Yes
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☑
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No
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Indicate
by check mark if the registrant is not required to file reports
pursuant to Section 13 or Section 15(d) of the Act.
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☐
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Yes
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☑
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No
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Check
whether the issuer (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, 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 Website, 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 if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K (Sec. 229.405 of this chapter) is not
contained herein, and will not be contained, to the best of
registrant’s knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K
or any amendment to this Form 10-K.☐
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 of the Exchange Act. (Check
one):
Large accelerated filer
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☐
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Accelerated filer
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☐
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Non-accelerated
filer
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☐ (Do not check if a smaller reporting
company)
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Smaller reporting company
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☒
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Emerging
growth company
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☐
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If an
emerging growth company, indicate by check mark if the registrant
has elected not to use the extended transition period for complying
with any new or revised financial accounting standards provided
pursuant to Section 13(a) of the Exchange Act. ☐
Indicate
by check mark whether the registrant is a shell company (as defined
in Rule 12b-2 of the Exchange Act). Yes
☐ No
☑
The
aggregate market value of the voting common stock held by
non-affiliates of the Registrant on June 30, 2017, was
approximately $17,153,348 based on the average bid and asked prices
on such date of $0.15. The registrant does not have any
non-voting equities.
The
Registrant had 143,218,368 shares of common stock (“Common
Shares” or “Common Stock”), $0.0002 par value per
share, outstanding on April 30, 2018.
EXPLANATORY
NOTE
On
May 3, 2018, Gilla Inc. (the “Company” or
“Gilla”) filed its Annual Report on Form 10-K (the
“Form 10-K”). This Amendment Number 1 to the Form 10-K
is being filed to update the report of the Company’s
independent registered public accounting firm contained in the
audited consolidated financial statements of Gilla for the years
ended December 31, 2017 and 2016. All other disclosures contained
in the Form 10-K remain unchanged.
TABLE OF CONTENTS
FORM 10-K
FOR FISCAL YEAR ENDED DECEMBER 31, 2017
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Page
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Part I
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ITEM
1.
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Business.
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4
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ITEM
1A.
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Risk
Factors.
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17
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ITEM
1B.
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Unresolved
Staff Comments.
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26
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ITEM
2.
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Properties.
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26
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ITEM
3.
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Legal
Proceedings.
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26
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ITEM
4.
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Mine
Safety Disclosures.
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26
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Part II
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ITEM
5.
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Market
for Registrant’s Common Equity, Related Stockholder Matters
and Issuer Purchases of Equity Securities.
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27
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ITEM
6.
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Selected
Financial Data.
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27
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ITEM
7.
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Management’s
Discussion and Analysis of Financial Condition and Results of
Operation.
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28
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ITEM
7A.
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Quantitative
and Qualitative Disclosures About Market Risk.
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46
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ITEM
8.
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Financial
Statements and Supplementary Data.
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46
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ITEM
9.
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Changes
in and Disagreements With Accountants on Accounting and Financial
Disclosure.
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47
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ITEM
9A.
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Controls
and Procedures.
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47
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ITEM
9B.
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Other
Information.
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48
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Part III
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ITEM
10.
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Directors,
Executive Officers and Corporate Governance.
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49
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ITEM
11.
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Executive
Compensation.
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53
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ITEM
12.
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Security
Ownership of Certain Beneficial Owners and Management and Related
Stockholder Matters.
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59
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ITEM
13.
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Certain
Relationships and Related Transactions, and Director
Independence.
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60
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ITEM
14.
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Principal
Accounting Fees and Services.
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69
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ITEM
15.
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Exhibits,
Financial Statement Schedules.
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69
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Signatures
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72
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2
Cautionary Language Regarding Forward-Looking
Statements
This Annual Report on Form 10-K (this “Report” or
“Annual Report”) contains forward-looking statements
that are made pursuant to the safe harbor provisions of the Private
Securities Litigation Reform Act of 1995 under Section 27A of the
Securities Act of 1933, as amended, and Section 21E of the
Securities Exchange Act of 1934, as amended. These forward-looking
statements are based on management's expectations as of the filing
date of this Report with the United States Securities and Exchange
Commission (the "SEC"). Statements that are predictive in nature,
that depend upon or refer to future events or conditions, or that
include words such as “expect”,
“anticipate”, “intend”, “plan”,
“believe”, “estimate”, “may”,
“project”, “will likely result”, and
similar expressions are intended to identify forward-looking
statements. Such forward-looking statements include, but are not
limited to statements concerning the Company's operations,
performance, financial condition, business strategies, and other
information and that involve substantial risks and uncertainties.
Such forward-looking statements are
subject to certain risks, uncertainties and assumptions, including
prevailing market conditions and are more fully described under
“Part I, Item 1A - Risk Factors” of this Report.
New risks and uncertainties arise from time to time, and it is
impossible for us to predict these events or how they may affect
us. In any event, these and other important factors, including
those set forth in Item 1A of this Report under the caption
“Risk Factors,” may cause actual results to differ
materially from those indicated by our forward-looking statements.
We assume no obligation to update or revise any forward-looking
statements we make in this Report, except as required by applicable
securities laws.
3
PART I
ITEM 1. BUSINESS.
Gilla
Inc. (the “Company”, the “Registrant” or
“Gilla”) was incorporated under the laws of the State
of Nevada on March 28, 1995 under the name of Truco, Inc. The
Company later changed its name to Web Tech, Inc., and then to
Cynergy, Inc., Mercantile Factoring Credit Online Corp.,
Incitations, Inc., Osprey Gold Corp. and to its present name. The
Company adopted the present name, Gilla Inc., on February 27, 2007.
The Company’s registered address is 475 Fentress Blvd., Unit
L, Daytona Beach, Florida 32114.
BUSINESS OF ISSUER
The
current primary business of the Company consists of the
manufacturing, marketing and distribution of generic and premium
branded E-liquid (“E-liquid”), which is used in
vaporizers, electronic cigarettes (“E-cigarettes”), and
other vaping hardware and accessories. E-liquid is heated by an
atomizer to deliver the sensation of smoking (“vaping”)
or “vaporizing”) and sometimes even mimics traditional
smoking implements, such as cigarettes or cigars, in their use
and/or appearance, without burning tobacco. When vaporized, some
E-liquids release nicotine, while others merely release flavored
vapor, which allows users to replicate the smoking experience,
nicotine free. Furthermore, the Company’s new cannabis
division develops intellectual property to deliver turn-key
cannabis concentrate solutions for high-terpene vape oils, pure
crystalline, high-performance vape pens and other targeted
products.
Gilla
aims to be a global leader in delivering the most efficient and
effective vaping solutions for nicotine and cannabis related
products. The Company's multi-jurisdictional, broad portfolio
approach services both the nicotine and cannabis markets with
high-quality products that deliver a consistent and reliable user
experience. The Company primary E-liquid business has global sales
across 25 countries and currently has top recognized brands in
countries such as Belgium, the Netherlands and
Denmark.
Gilla’s
proprietary product portfolio includes the following brands:
Spectrum Concentrates, Coil Glaze™, Craft Vapes™,
Siren, The Drip Factory, Shake It, Surf Sauce, Ohana, Moshi, Crisp,
Just Fruit, Vinto Vape, Vapor’s Dozen, Enriched Vapor and
Crown E-liquid™. The Company currently owns and markets over
15 brands which are comprised of over 125 proprietary
flavors.
Gilla
has built a strong platform for growth through investing in or
acquiring brands and through distribution to consumers. Over the
past two years, the Company has developed and acquired
manufacturing operations, premium E-liquid brands and a global
distribution platform. The Company has also made changes to its
operating model to improve agility and responsiveness to consumer
demand.
The
Company is building depth in its E-liquid product portfolio to meet
consumer needs, while maintaining a high degree of standards across
all of its operations.
Gilla Manufactures
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Gilla Markets
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Gilla Innovates
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Gilla Sells
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The
Company owns proprietary manufacturing operations and a global
distribution platform to ensure the efficient, sustainable
production and supply of E-liquid. Gilla strives to meet and exceed
customer expectations.
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The
Company invests in global marketing initiatives and targeted sales
programs to attract and inform consumers and to build its brands.
Gilla helps consumers make educated choices about E-liquid and
related vaping products.
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Innovation
is key to the Company’s continued growth. Gilla is committed
to developing new and attractive flavor profiles, new packaging and
product offerings to capitalize on emerging trends in the
marketplace.
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Everyone
at the Company understands the vapor industry and how they can
assist in building valuable relationships with customers and
end-users. Gilla is passionate about delivering unparalleled
customer service to extend the Company’s sales
reach.
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During
the fiscal year ended 2017, Gilla began investing in and developing
an intellectual property portfolio of products and brands for
cannabis consumers. The Company’s new cannabis division aims
to generate revenue though licensing its intellectual property to
licensed cannabis producers. Gilla’s first proprietary
products for the cannabis market were launched under the Spectrum
Concentrates brand which is currently available in the State of
Colorado through the Company’s licensee partner. The Company
does not have any cannabis inventory and/or licenses to manufacture
or sell cannabis.
4
The Company’s Products
The
Company’s current products include generic and premium
branded E-liquid, the liquid used in vaporizers, E-cigarettes, and
other vaping hardware, and an intellectual property portfolio of
products and brands for cannabis consumers (the
“Products”). A vaporizer, or E-cigarette, is an
electronic inhaler meant to simulate smoking and act as a
substitute for traditional cigarettes. Generally, a heating
element, such as an atomizer, vaporizes the E-liquid solution to
deliver the sensation of smoking, without burning tobacco. E-liquid
is available with or without nicotine.
E-liquid
is a solution of propylene glycol (an organic compound that
facilitates the vapor effect that can be found in many
pharmaceutical and cosmetic products such as moisturizers)
(“PG”), vegetable glycerin (“VG”),
flavoring, and, if stipulated, a variable percentage of
pharmaceutical grade nicotine. The Company offers over 500 base
flavors of generic E-liquid and a portfolio of premium branded
E-liquid mixtures which are available without or with nicotine in
strengths up to 24 mg/ml, all with varying proportions of PG and
VG. An E-liquid with a higher VG content will generally deliver a
thicker cloud of vapor when vaporized. The Company’s premium
E-liquid brands have been meticulously developed and manufactured
to satisfy enhanced flavor palates and are only available in
limited flavors and nicotine strengths. E-liquids are generally
available without nicotine or in nicotine strengths of 1.5mg/ml, 3
mg/ml, 6 mg/ml, 12 mg/ml, 18 mg/ml and 24 mg/ml.
Furthermore,
many of the Products have gone through testing, analysis and
notification procedures, particularly those Products sold in
regulated markets such as the EU. For example, as required by the
general regulatory framework in EU for E-liquid and other vapor
products, each of the Products that are commercially marketed in
the EU were required to be notified to each EU member state
competent authority where the Products are marketed and sold. Such
notification requirements included, but were not limited to, a list
of all ingredients contained in, and emissions resulting from the
use of, each product, toxicology data regarding the product’s
ingredients and emissions, and information on the nicotine dose and
uptake when consumed under foreseeable conditions. In order to
fully comply with all regulations in each jurisdiction that the
Products are sold, the Company must also alter certain elements of
the Products such as labeling and packaging to conform to local
languages and laws. Additional testing, analysis and disclosures
regarding the Company and the Products have been completed, or are
in the process of being completed to meet upcoming compliance
deadlines, to fully adhere to the regulations in each jurisdiction
which the Products are marketed and sold.
The
Company primary focus is purely on the development of proprietary
E-liquid Products. As such, the Company does not manufacture any
vaping hardware such as vaporizer modules, E-cigarettes or other
vaping accessories. Any hardware sold by the Company is
manufactured and supplied to the Company by third parties. The
Company’s E-liquid Products are generally compatible with any
brand or type of vaping hardware which will continue to evolve
rapidly. Furthermore, the Company’s cannabis division is
focused on developing an intellectual property portfolio of
products and brands for cannabis consumers. The Company does not
have any cannabis inventory and/or licenses to manufacture or sell
cannabis. Instead, the Company seeks to license its intellectual
property to licensed cannabis producers.
Premium E-liquid Brand Portfolio
The
Company’s diversified portfolio approach to manufacturing and
distributing E-liquid provides customers with the flexibility to
select from Gilla’s catalogue of premium brands to directly
cater to unique consumer opportunities that exist in the niche
marketplaces in which the Company operates. This allows the Company
to allocate resources to its highest growth opportunities on a
global scale. Gilla’s portfolio of Products and brands offers
a range of price points and flavor profiles enabling the Company to
capitalize on preference shifts across the price and palate
spectrum. The breadth and depth that the Company aims to develop
within its portfolio is expected to provide resilience and enable
the Company to continue to grow over time.
5
Gilla’s
proprietary product portfolio includes the following brands:
Spectrum Concentrates, Coil Glaze™, Craft Vapes™,
Siren, The Drip Factory, Shake It, Surf Sauce, Ohana, Moshi, Crisp,
Just Fruit, Vinto Vape, Vapor’s Dozen, Enriched Vapor and
Crown E-liquid™. The Company currently owns and markets over
15 brands which are comprised of over 125 proprietary
flavors.
Research and Development
R&D - E-Liquid Products
Innovation
forms an important part of Gilla’s growth strategy, playing a
key role in positioning its brands for continued growth at the
forefront of the vapor industry. The Company’s in-house
mixologists and vaping experts are continually developing new
E-liquid flavors to cater to emerging vaping trends and changing
consumer demands. The Company’s in-house marketing and design
specialists develop and launch new attractive brands and product
offerings from the Company’s growing catalogue of proprietary
flavor recipes. Innovative new packaging and marketing components
are also critical to Gilla’s overall brand development,
loyalty and customer retention strategies. Gilla’s in-house
compliance specialists also provide the Company with a first mover
advantage to quickly respond to and adapt to changing local
regulations globally.
R&D - Cannabis-Related Intellectual Property
Gilla’s
cannabis division employs a Colorado-based individual that works
directly with the Company’s licensee partners who is
specifically tasked with advancing the Company’s cannabis
products and related intellectual property portfolio. Gilla is in
the advanced stages of development of two new cannabis brands. One
brand is aimed at the female demographic while the other brand is a
value product aimed at those consumers desiring an inexpensive
disposable cannabis vaping device. The Company recently launched
its first cannabis concentrates brand in the United States,
Spectrum Concentrates, which utilizes a proprietary extraction
process to deliver high end products with maximum purity and
authentic natural terpene flavors.
Manufacturing, Distribution, Principal Markets & Marketing
Methods
E- Liquid Manufacturing and Distribution Platform
The
Company maintains and operates its own E-liquid manufacturing and
distribution platform, which operate from leased premises in the
United States (Daytona Beach, FL), Canada (Mississauga, ON) and
Slovakia (Bratislava). Gilla’s international logistics and
supply chain management platform was developed by replicating
successful distribution and marketing models of bottling and
beverage companies, such as Coca Cola and Diageo, with an ultimate
focus on servicing global clients locally with strong store level
marketing support.
The
Company manufactures its portfolio of E-liquid Products from two
facilities, with one located in Daytona Beach, Florida, USA and the
other in Mississauga, Ontario, Canada. The US-based plant operates
out of a 10,000 sq. ft. facility and the Canadian-based facility
operates out of a 11,000 sq. ft. facility. The Company’s
manufacturing line currently produces up to 650,000 finished
E-liquid bottles per month (of 10 ml bottles) depending on demand
for the Products and is scalable to produce up to 1,500,000 bottles
per month, if demand required. Having two facilities allows the
Company to benefit from manufacturing the Products closer to its
customers which can significantly reduce shipping and logistics
costs while also having a redundant platform to prevent any
manufacturing and supply outages. The Products are produced to
consistent manufacturing standards in each facility. The Company is
currently engaged in launching an additional manufacturing facility
in Europe to service its European customers locally. Having
manufacturing in multiple jurisdictions also significantly reduces
regulatory and government risk to any specific
location.
6
The
Company’s distribution platform operates through a number of
domestic subsidiaries in the United States, Canada and Slovakia.
This allows for the Company to service global clientele locally,
allowing for quick responsiveness to customer needs and
best-in-class customer support. Furthermore, servicing European
clients from within the EU though its subsidiary in Slovakia allows
the Company to custom clear goods on entry into the EU in order to
send custom-cleared goods to the Company’s clients, a
value-added service not commonly offered by competitors from
outside of the EU.
Gilla
sells its E-liquid Products through a number of market channels
including vape shops, retail and wholesale distributors,
convenience stores, and e-commerce websites. A shift from
cig-a-like E-cigarettes to vaporizer modules in the industry has
led to vape shops and other retailers allocating more shelf space
to E-liquid products to satisfy the demand for liquids to refill
vaporizer tanks. This market shift was driven by the
E-cigarette’s power and flavor limitations as well as the
better performance, affordability and overall user experience of
the vaporizer module with a refillable vaporizer tank. As a result,
it is expected that the US E-liquid industry alone will grow to
$2.8B by 2025 (Source: BIS
Research: U.S. E-liquid Market – Analysis & Forecast,
2015-2025).
One of
the Company’s key strengths is its geographic reach. The
Company currently services 25 countries covering three continents.
The Company is focused on developing its sales and global
distribution network by introducing new product offerings, sales
incentives and promotional programs and best-in-class customer
service.
E-Liquid Retail and Vape Shops
Gilla
has developed a deep understanding of the vapor industry from both
the wholesale buyer and consumer perspective. The Company uses this
knowledge to create new products, services and programs that
management anticipates will assist the Company in cultivating
long-term partnerships with its customers. There are more than
19,000 vape shops globally with approximately half in the US alone
(Source: Wells Fargo Securities,
LLC estimates and Tobacco Talk Surveys, June 2015). Certain
of the company’s E-Liquid Products are distributed to over
700 vape shops globally. Vape shops educate consumers through their
knowledgeable vaping experts who assist customers in choosing from
a number of different E-liquid flavors and products. Vape shops
typically carry an assortment of both generic and premium E-liquid
products that are differentiated by price and flavor complexity as
well as an assortment of vaping hardware.
Gilla
leverages strong store level marketing of its E-liquid Products
such as targeted sales programs, promotions, best-in-class
point-of-sale marketing and other sales giveaways to both end
consumers and vape shop personnel to attract and incentivize vape
shops to carry its E-Liquid Products and further increase shelf
space and sell through. The Company focuses on servicing these vape
shops locally with industry-leading customer service and by
partnering with recognized distribution partners in those
jurisdictions. These initiatives have proven to be successful for
Gilla as the Company’s E-Liquid Products are available in
vape stores internationally having top recognized brands in
multiple countries in Europe such as Belgium, the Netherlands and
Denmark.
Gaining
access to new vape shops and retail outlets is a distributor-driven
business. As such, Gilla partners with leading local distributors
which have access to retail networks and have existing
infrastructure to distribute the Company’s E-liquid Products.
In certain jurisdictions across the EU, the Company has exclusive
distribution partners of its E-Liquid Products who are required to
maintain and grow sales by a pre-determined amount to maintain
exclusivity. Assisting these distributors with Gilla’s store
level marketing support has proven to enhance sell-through and
overall awareness to its E-Liquid Products.
E-commerce
The
Company also distributes its E-Liquid Products through its websites
and other online sales platforms. The Company believes that its
online strategy will continue to evolve while expanding on various
forms of social media as a key element in its marketing strategy
and in further establishing and growing the Company’s
E-liquid product portfolio and brands.
7
Cannabis-Related Platform
The
Company markets its cannabis-related Products through intellectual
property agreements with cannabis-licensed entities in specific
jurisdictions (a “Licensed Producer”) where the sale of
cannabis is legal. These Licensed Producers are third parties that
enter into a licensing agreement directly with the Company or
through the Company’s licensee intermediary overseeing that
jurisdiction. The Licensed Producer is solely responsible for the
manufacturing and distribution of the licensed Products. Under
Gilla’s licensing agreements, Gilla provides its licensee
partners with the intellectual property required to manufacture the
licensed Products including standard operating procedures,
packaging design and the creative and marketing assets.For this,
Gilla retains a fixed licensing fee or variable licensing fee based
on criteria such as gross profit or gross sales within that
jurisdiction. The Company does not have any cannabis inventory
and/or licenses to manufacture or sell cannabis.
Gilla’s Business Model
Gilla
aims to be a global leader in delivering the most efficient and
effective vaping solutions for nicotine and cannabis related
products. The Company's multi-jurisdictional, broad portfolio
approach services both the nicotine and cannabis markets with
high-quality products that deliver a consistent and reliable user
experience. The Company has grown through investments in
manufacturing and distribution, E-liquid brands and acquisitions to
both broaden Gilla’s portfolio depth and geographical
footprint. Gilla’s business model targets the high growth
vaping industry to generate high margin returns on sales of the
Products to yield positive results for its shareholders, while
creating value for its customers and consumers. The Company seeks
to leverage its existing infrastructure and industry know-how to
further its bespoke business model across different regulatory
jurisdictions and new markets.
The
Company is targeting new geographic regions such as Asia and South
America by leveraging existing infrastructure and underutilized
manufacturing capacity. Furthermore, management also continues to
evaluate new verticals which may be applicable to the
Company’s expertise in the vape and vapor products
industry.
The
Company has developed a strong platform for growth based on the
following key elements:
●
Diversified Proprietary E-liquid Portfolio
– Gilla has developed and acquired premium E-liquid
brands across categories and price points.
●
Global Geographic Reach –
Gilla’s distribution infrastructure services 25 countries
spanning three continents.
●
Efficient Supply and Procurement –
Gilla’s manufacturing facilities ensure efficient,
sustainable production and supply of E-Liquid Products to the
highest quality standards.
●
Leading Capabilities – Gilla is
focused on execution and has retained knowledgeable and industry
leading executives across all functions of its business, including
operations, sales and finance, and is committed to delivering
industry leading customer service.
Performance Drivers
The
Company has developed six performance drivers that are key to
driving growth.
1.
Focus
on core business
The
Company’s premium E-liquid Products have the potential to
generate margins in excess of 65%. A focus on driving recurring
sales of higher margin E-liquid Products contained within
Gilla’s portfolio is expected to improve overall margins
which can support a vast amount of the Company’s operating
and overhead costs, enhancing revenues and
profitability.
2.
Expand
global reach
The
Company’s ability to innovate and launch new brands is a
competitive advantage. Gilla can leverage its existing
infrastructure and underutilized manufacturing capacity to
facilitate growth in and to efficiently access new
geographic regions such as Asia and South America.
8
3.
Bespoke
business model
The
Company currently operates in a regulated industry. Gilla can
leverage its proprietary know-how to further its bespoke business
model across different regulatory jurisdictions and new verticals
to introduce additional products which can accelerate revenue
growth and margins.
4.
Pursue
strategic acquisition opportunities
The
Company’s primary focus is on E-liquid and vaping delivery
solutions. Gilla has a strong platform to enter new markets and
verticals through strategic acquisitions as they may
arise.
5.
Invest
in brand and marketing efforts
The
Company’s store level marketing strategy has proven to
enhance sell-through. Gilla’s continued focus on servicing
global clientele locally through best-in-class point-of-sale
marketing and targeted sales programs can enhance brand awareness
and overall demand for its E-liquid Products.
6.
Attract
and retain talent
The
Company’s success is dependant on the ability to attract and
retain qualified and competent employees at all levels of the
business. Ensuring that Gilla has the best talent is one of the
Company’s biggest challenges and one of its greatest
opportunities.
Employees
As at
the date of this Annual Report, the Company has thirty-six (36)
full-time employees and four (4) key individuals engaged as
consultants. Collectively, these employees and consultants oversee
day-to-day operations of the Company supporting management,
administrative, book-keeping, accounting, manufacturing, logistics,
sales, marketing, and digital media functions of the Company. The
Company also retains reputable external legal advisors and
consultants with extensive knowledge of local laws and regulations.
The Company typically engages legal advisors and consultants that
are domiciled within each jurisdiction that the Company operates.
The Company has no unionized employees.
Being
in the growth-stage, the Company intends to increase (or decrease)
its number of employees as appropriate to achieve the
Company’s objectives. The Company intends to focus on
identifying, attracting and retaining talented, highly motivated,
customer-focused, team-orientated employees to support its
growth.
Competition
The
market for the Company’s E-liquid Products is very
competitive and subject to rapid change and regulatory
requirements. Generally, the E-liquid niche of the vapor industry
is extremely competitive with low barriers to entry, however,
recent regulatory requirements in the United States and the
European Union have created regulatory hurdles and approvals for
new entrants to those markets.
The
Company faces intense competition from direct and indirect
competitors, including “big tobacco”, “big
pharma”, and other known and established or yet to be formed
E-liquid or vaping companies or brands, each of whom pose a
competitive threat to the Company and its future business
prospects. The Company expects competition to intensify in the
future. Certain of these businesses are either currently competing
with the Company or are focusing significant resources on providing
products that will compete with the Company’s E-liquid
Product offerings in the future.
The
Company’s principal competitors can be classified into three
main categories: (i) E-liquid and vaping companies, (ii) tobacco
companies, and (iii) pharmaceutical companies. The Company competes
primarily on the basis of product quality, brand recognition, brand
loyalty, service, marketing, advertising and price. The Company is
subject to highly competitive conditions in all aspects of the
business. The competitive environment and the Company’s
competitive position can be significantly influenced by weak
economic conditions, erosion of consumer confidence,
competitors’ introduction of low-priced products or
innovative products, cigarette or E-liquid and other vapor excise
taxes, higher absolute prices and larger gaps between price
categories, and product regulation that diminishes the ability to
differentiate products or ability to market products in certain
jurisdictions.
9
Traditional
tobacco companies, including Reynolds American Inc., Altria Group
Inc., Phillip Morris International Inc., British American Tobacco
PLC and Imperial Tobacco Group PLC are expanding into various
E-liquid, E-cigarette and vaping markets throughout the world. Each
of these companies have launched their own vaping offerings in
markets where the Company currently sells its E-liquid Products.
Because of their well-established sales and distribution channels,
marketing expertise and significant resources, “big
tobacco” may be better positioned than small competitors,
such as the Company, to capture a larger share of the vaping
market. The Company also faces competition from smaller tobacco
companies that are much larger, well capitalized, and more
established than the Company.
The
Company faces direct competition from independent pure play vaping
companies, including, Electronic Cigarettes International Group
Ltd., Vapor Hub International Inc., Healthier Choices Management
Corp. and other private companies that currently own, distribute
and market competing products. The Company also faces indirect
competition from the traditional tobacco companies offering
cigarettes, nicotine replacement therapies (“NRT”) and
smokeless tobacco products. It is likely that these companies will
enter the market as the E-liquid and vapor industry grows. There
can be no assurance that the Company will be able to compete
successfully against any of these traditional tobacco players and
smaller competitors, some of whom have greater resources, capital,
industry experience, market penetration or developed distribution
networks.
Intellectual Property
The
Company seeks to protect its intellectual property using a
combination of trademarks, trade secrets, copyrights and
contractual provisions. Trademarks are expected to form an integral
part of the Company’s brand marketing. The Company conducts
intellectual property surveillance of direct and indirect
competition as well as potential threats that would become the
Company’s competition. This surveillance addresses direct and
indirect competitors as well as threats that could be market
followers or intellectual property barriers for future
development.
Trademarks
The
following table outlines trademarks owned by the Company as of the
date of this Annual Report:
File Number
|
Jurisdiction
|
Matter
|
Status
|
EU015575566
|
European
Union
|
Wordmark
“COIL GLAZE”
|
Registered
|
86310913
|
United
States
|
Wordmark
“CROWN E-LIQUID”
|
Registered
|
86210739
|
United
States
|
Wordmark
“CRAFT VAPES”
|
Registered
|
1702434
|
Canada
|
Design
mark Moshi “M” logo
|
Registered
|
1702106
|
Canada
|
Wordmark
“VAPEMOSHI”
|
Registered
|
1702107
|
Canada
|
Wordmark
“MOSHI E-LIQUIDS”
|
Registered
|
1702430
|
Canada
|
Design
mark Moshi “LION” logo
|
Registered
|
The
Company plans to continue to expand its portfolio of brand names
and its proprietary trademarks worldwide as the business
grows.
Patents
The
Company does not own any domestic or foreign patents relating to
its Products or any vaporizer hardware.
Trade Secrets
Certain
aspects of the business, which management considers extremely
valuable to the Company’s success and market leadership, have
been retained as “in house” trade secrets in an effort
to avoid public disclosure through the patent process. The decision
to protect these intellectual property or proprietary information
is primarily driven by the low profitability of being able to
detect or establish infringement of such intellectual
property.
10
Contractual Restrictions
The
Company seeks to avoid disclosure of its intellectual property and
proprietary information by requiring all employees as a condition
of employment to enter into non-disclosure, confidentially and
intellectual property assignment agreements. In addition, the
Company will also generally enter into confidentiality and
non-disclosure agreements with consultants, manufacturers’
representatives, distributors, suppliers and others to attempt to
limit access to, use and disclosure of the Company’s
proprietary information.
Government Regulations
Government
authorities in the United States, the European Union, Canada and in
other countries extensively regulate, among other things, the
research, development, testing, approval, manufacturing, labeling,
post-approval monitoring and reporting, packaging, promotion,
storage, advertising, distribution, marketing and export and import
of electronic products for the vaporization and administration of
inhaled doses of nicotine including E-liquid, E-cigarettes, cigars,
cigarillos and pipes, as well as cartridges of nicotine solutions
and related products. The Company must comply with these
regulations, as applicable, in the jurisdictions where it offers
and sells its E-liquid Products. The process of obtaining
regulatory approvals and the subsequent compliance with applicable
federal, state, local and foreign statutes and regulations require
the expenditure of substantial time and financial resources. The
following is a summary of the key regulatory matters generally
affecting the E-liquid, E-cigarettes and other vaping product
marketplace in the United States, the European Union and Canada.
This summary does not purport to be a comprehensive overview of all
applicable laws and regulations that may impact the Company’s
business.
United States
The
United States Food and Drug Administration (the “FDA”)
is permitted to regulate E-liquid, E-cigarettes and other vaping
products as “tobacco products” under the Family Smoking Prevention and Tobacco Control
Act of 2009 (the “Tobacco Control Act”), based
on the December 2010 U.S. Court of Appeals for the D.C.
Circuit’s decision in Sottera, Inc. v. Food & Drug
Administration, 627 F.3d 891 (D.C. Cir. 2010). Furthermore,
the FDA is not permitted to regulate E-liquid, E-cigarettes and
other vaping products as “drugs” or
“devices” or a “combination product” under
the Federal Food, Drug and
Cosmetic Act unless marketed for therapeutic
purposes.
Since
the Company does not market its E-liquid Products for therapeutic
purposes, the Products that contain nicotine are subject to being
classified as “tobacco products” under the Tobacco
Control Act. Although the FDA is prohibited from issuing
regulations banning all cigarettes or all smokeless tobacco
products, or requiring the reduction of nicotine yields of a
tobacco product to zero, the Tobacco Control Act grants the FDA
broad authority to impose restrictions over the design,
manufacture, distribution, sale, marketing and packaging of
tobacco. Furthermore, the FDA may be required to issue future
regulations regarding the promotion and marketing of tobacco
products sold or distributed over the internet, by mail order or
through other non-face-to-face transactions in order to prevent the
sale of tobacco products to minors.
The
Tobacco Control Act also requires an establishment of a Tobacco
Products Scientific Advisory Committee to provide advice,
information and recommendations with respect to the safety,
dependence or health issues related to tobacco products. The
Tobacco Control Act could result in a decrease in tobacco product
sales in the United States, including the sales of the
Products.
The FDA
had previously indicated that it intended to regulate E-cigarettes
under the Tobacco Control Act through the issuance of
“Deeming Regulations” that would include E-liquid,
E-cigarettes, and other vaping products (collectively,
“Deemed Tobacco Products”) under the Tobacco Control
Act and subject to the FDA’s jurisdiction.
On May
10, 2016, the FDA issued the “Deeming Regulations”
which came into effect August 8, 2016. The Deeming Regulations
amended the definition of “tobacco products” to include
E-liquid, E-cigarettes and other vaping products. Deemed Tobacco
Products include, but are not limited to, E-liquids, atomizers,
batteries, cartomizers, clearomisers, tank systems, flavors,
bottles that contain E-liquids and programmable software. Beginning
August 8, 2016, Deemed Tobacco Products became subject to all FDA
regulations applicable to cigarettes, cigarette tobacco, and other
tobacco products which require:
11
●
a prohibition on
sales to those younger than 18 years of age and requirements for
verification by means of photographic identification;
●
health and
addictiveness warnings on product packages and in
advertisements;
●
a ban on vending
machine sales unless the vending machines are located in a facility
where the retailer ensures that individuals under 18 years of age
are prohibited from entering at any time;
●
registration with,
and reporting of product and ingredient listings to, the
FDA;
●
no marketing of new
tobacco products prior to FDA review;
●
no direct and
implied claims of reduced risk such as "light", "low" and "mild"
descriptions unless FDA confirms (a) that scientific evidence
supports the claim and (b) that marketing the product will benefit
public health;
●
payment of user
fees;
●
ban on free
samples; and
●
childproof
packaging.
In
addition, the Deeming Regulations requires any Deemed Tobacco
Product that was not commercially marketed as of the
“grandfathering” date of February 15, 2007, to obtain
premarket approval before it can be marketed in the United States.
Premarket approval could take any of the following three pathways:
(1) submission of a premarket tobacco product application
(“PMTA”) and receipt of a marketing authorization
order; (2) submission of a substantial equivalence report and
receipt of a substantial equivalence order; or (3) submission of a
request for an exemption from substantial equivalence requirements
and receipt of an substantial equivalence exemption determination.
The Company cannot predict if its E-liquid Products, all of which
would be considered “non-grandfathered”, will receive
the required premarket approval from the FDA if the Company were to
undertake obtaining premarket approval through any of the available
pathways.
Since
there were virtually no E-liquid, E-cigarettes or other vaping
products on the market as of February 15, 2007, there is no way to
utilize the less onerous substantial equivalence or substantial
equivalence exemption pathways that traditional tobacco corporation
can utilize. In order to obtain premarket approval, practically all
E-liquid, E-cigarettes or other vaping products would have to
follow the PMTA pathway which would cost hundreds of thousands of
dollars per application. Furthermore, the Deeming Regulations also
effectively froze the US market on August 8, 2016 since any new
E-liquid, E-cigarette or other vaping product would be required to
obtain an FDA marketing authorization though one of the
aforementioned pathways. Deemed Tobacco Products that were on the
market prior to August 8, 2016 were provided with a two-year grace
period where such products can continue to market until the August
8, 2018 PMTA submission deadline. Upon submission of a PMTA,
products would then be given an additional twelve months of market
access pending the FDA’s review. Without obtaining marketing
authorization by the FDA prior to August 8, 2019, such products
would be required to be removed from the market until such
authorization could be obtained.
State
and local governments currently legislate and regulate tobacco
products, including what is considered a tobacco product, how
tobacco taxes are calculated and collected, to whom tobacco
products can be sold and by whom, in addition to where tobacco
products, specifically cigarettes may be smoked and where they may
not. Certain municipalities have enacted local ordinances which
preclude the use of E-liquid, E-cigarettes and other vaping
products where traditional tobacco burning cigarettes cannot be
used and certain states have proposed legislation that would
categorize vaping products as tobacco products, equivalent to their
tobacco burning counterparts. If these bills become laws, vaping
products may lose their appeal as an alternative to traditional
cigarettes, which may have the effect of reducing the demand for
the Products.
The
Company may be required to discontinue, prohibit or suspend sales
of its E-liquid Products in states that require us to obtain a
retail tobacco license. If the Company is unable to obtain certain
licenses, approvals or permits and if the Company is not able to
obtain the necessary licenses, approvals or permits for financial
reasons or otherwise and/or any such license, approval or permit is
determined to be overly burdensome to the Company, then the Company
may be required to cease sales and distribution of its E-liquid
Products to those states, which would have a material adverse
effect on the Company’s business, results of operations and
financial condition.
As a
result of FDA import alert 66-41 (which allows the detention of
unapproved drugs promoted in the U.S.), U.S. Customs has from time
to time temporarily and in some instances indefinitely detained
certain products. If the FDA modifies the import alert from its
current form which allows U.S. Customs discretion to release the
products, to a mandatory and definitive hold the Company may no
longer be able to ensure a supply of raw materials or saleable
product, which will have material adverse effect on the
Company’s business, results of operations and financial
condition.
12
At
present, neither the Prevent All
Cigarette Trafficking Act (which prohibits the use of the
U.S. Postal Service to mail most tobacco products and which amends
the Jenkins Act, which
would require individuals and businesses that make interstate sales
of cigarettes or smokeless tobacco to comply with state tax laws)
nor the Federal Cigarette Labeling
and Advertising Act (which governs how cigarettes can be
advertised and marketed) apply to E-liquid, E-cigarettes and other
vaping products. The application of either or both of these federal
laws to the Products would have a material adverse effect on the
Company’s business, results of operations and financial
condition.
The
tobacco industry expects significant regulatory developments to
take place over the next few years, driven principally by the World
Health Organization’s Framework Convention on Tobacco Control
(“FCTC”). The FCTC is the first international public
health treaty on tobacco, and its objective is to establish a
global agenda for tobacco regulation with the purpose of reducing
initiation of tobacco use and encouraging cessation. Regulatory
initiatives that have been proposed, introduced or enacted
include:
●
the levying of
substantial and increasing tax and duty charges;
●
restrictions or
bans on advertising, marketing and sponsorship;
●
the display of
larger health warnings, graphic health warnings and other labeling
requirements;
●
restrictions on
packaging design, including the use of colors and generic
packaging;
●
restrictions or
bans on the display of tobacco product packaging at the point of
sale, and restrictions or bans on cigarette vending
machines;
●
requirements
regarding testing, disclosure and performance standards for tar,
nicotine, carbon monoxide and other smoke constituent
levels;
●
requirements
regarding testing, disclosure and use of tobacco product
ingredients;
●
increased
restrictions on smoking in public and work places and, in some
instances, in private places and outdoors;
●
elimination of duty
free allowances for travelers; and
●
encouraging
litigation against tobacco companies.
If
E-liquid, E-cigarettes or other vaping products are subject to one
or more significant regulatory initiatives enacted under the FCTC,
the Company’s business, results of operations and financial
condition could be materially and adversely affected.
European Union
On
April 3, 2014, the European Union issued the “New Tobacco
Product Directive” and is intended to regulate “tobacco
products”, including cigarettes, roll-your-own tobacco,
cigars and smokeless tobacco, and “electronic cigarettes and
herbal products for smoking”, including E-cigarettes,
E-liquid, refill containers, liquid holding tanks and E-liquid
bottles sold directly to consumers. The New Tobacco Product
Directive became effective May 20, 2016.
The New
Tobacco Product Directive introduces a number of new regulatory
requirements for E-cigarettes, E-liquid and other vaping products,
which includes the following: (i) restricts the amount of nicotine
that E-cigarettes and E-liquid can contain; (ii) requires
E-cigarettes, E-liquid and refill containers to be sold in child
and tamper-proof packaging and nicotine liquids to contain only
“ingredients of high purity”; (iii) provides that
E-cigarettes, E-liquid and other vaping products must deliver
nicotine doses at “consistent levels under normal conditions
of use” and come with health warnings, instructions for their
use, information on “addictiveness and toxicity”, an
ingredients list, and information on nicotine content; (iv)
significantly restricts the advertising and promotion of
E-cigarettes, E-liquid and other vaping products; and (v) requires
E-cigarette, E-liquid and other vaping product manufacturers and
importers to notify EU Member States before placing new products on
the market and to report annually such to Member States (including
on their sales volumes, types of users and their
“preferences”). Failure to make annual reports to
Member State Competent Authorities or to properly notify prior to a
substantive change to an existing product or introduction of a new
product could result in the Company’s inability to market or
sell its Products and cause material adverse effect on the
Company’s business, results of operations and financial
condition.
13
The New
Tobacco Product Directive requires Member States to transpose into
law New Tobacco Product Directive provisions by May 20, 2016. An
“EU directive” requires Member States to achieve
particular results. However, it does not dictate the means by which
they do so. Its effect depends on how Member States transpose the
New Tobacco Product Directive into their national laws. Member
States may decide, for example, to introduce further rules
affecting E-cigarettes, E-liquid and other vaping products (for
example, age restrictions) provided that these are compatible with
the principles of free movement of goods in the Treaty on the
Functioning of the European Union. The Tobacco Product Directive
also includes provisions that allow Member States to ban specific
E-cigarettes, E-liquid and other vaping products or specific types
of E-cigarettes, E-liquid and other vaping products in certain
circumstances if there are grounds to believe that they could
present a serious risk to human health. If at least three Member
States impose a ban and it is found to be duly justified, the
European Commission could implement a European Union wide ban.
Similarly, the New Tobacco Product Directive provides that Member
States may prohibit a certain category of tobacco, flavoring or
related products on grounds relating to a specific situation in
that Member State for public health purposes. Such measures must be
notified to the European Commission to determine whether they are
justified.
There
are also other national laws in Member States regulating
E-cigarettes, E-liquid and other vaping products. It is not clear
what impact the new Tobacco Product Directive will have on these
laws.
Canada
On
September 27, 2017, Health Canada released a Notice to the Industry
that portions of Bill S-5 related to the sale of vaping products
that are marketed without health or therapeutic claims are to be
enacted immediately upon Royal Assent. In effect, this both
legitimizes the sale of vaping products within Canada and creates
an initial regulatory framework. Health Canada has taken the stance
that vaping products that are not marketed as therapeutic are to be
considered consumer products and subject to the requirements of the
Canada Consumer Product Safety
Act (“CCPSA”). Under the CCPSA, there is a
“general prohibition” on products that are classified
as “very toxic” under the Consumer Chemicals and Containers Regulations,
2001 (“CCCR, 2001”). Health Canda has reviewed
the toxicity of nicotine containing products and has determined
that “vaping liquids containing equal to or more than 66
mg/ml (6.6%) nicotine meet the classification of "very toxic" under
the CCCR, 2001 and will be prohibited from import, advertising or
sale under Section 38 of the CCCR, 2001. None of the
Company’s E-liquid Products for sale fall under this
classification of “very toxic” and are therefore able
to be marketed for sale within Canada. Health Canada has also
determined that products containing any nicotine that falls below
the “very toxic” classification to be regulated as
“toxic” under the CCCR, 2001. This classification
requires the use of childproof packaging, specific labeling
requirements and pictograms as outlined in the CCCR,
2001.
At
present, the Company has made efforts to ensure that its E-liquid
Products that are being marketed in Canada are in full compliance
with the recommendations of Health Canada and will expect no
interruption to business upon Royal Ascent of Bill
S-5.
Health
Canada had also stated an intent to develop additional regulations
under the authority of the CCPSA, however, at this time it is
unclear what those additional regulations may be or how they will
affect the Company’s business. If E-liquid, E-cigarettes or
other vaping products are subject to one or more significant
regulatory initiatives enacted under the Bill S-5 or otherwise, the
Company’s business, results of operations and financial
condition could be materially and adversely affected.
Currently
in Canada, electronic smoking products (i.e., electronic products
for the vaporization and administration of inhaled doses of
nicotine including electronic cigarettes, cigars, cigarillos and
pipes, as well as cartridges of nicotine solutions and related
products) fall within the scope of the Food and Drugs Act. All of these
products require market authorization prior to being imported,
advertised or sold in Canada. Market authorization is granted by
Health Canada following successful review of scientific evidence
demonstrating safety, quality and efficacy with respect to the
intended purpose of the health product. To date, no electronic
smoking product has been authorized for sale by Health
Canada.
In the
absence of evidence establishing otherwise, an electronic smoking
product delivering nicotine is regulated as a “new
drug” under Division 8, Part C of the Food and Drug Regulations. In addition,
the delivery system within an electronic smoking kit that contains
nicotine must meet the requirements of the Medical Devices Regulations.
Appropriate establishment licences issued by Health Canada are also
needed prior to importing, and manufacturing electronic cigarettes.
Products that are found to pose a risk to health and/or are in
violation of the Food and Drugs
Act and related regulations may be subject to compliance and
enforcement actions in accordance with the Health Products and Food
Branch Inspectorate’s Compliance and Enforcement Policy
(POL-0001). According to Health Canada regulations, it is not
permissible to import, advertise or sell electronic smoking
products without the appropriate authorizations, and persons that
violate these regulations are subject to repercussions from Health
Canada, including but not limited to, seizure of the
products.
14
Since
no scientific evidence demonstrating safety, quality and efficacy
with respect to the intended purpose of E-cigarettes, E-liquid or
other vaping products has been submitted to Health Canada to date,
there is the possibility that in the future Health Canada may
modify or retract the current prohibitions currently in place.
However, there can be no assurance that the Company will be in
total compliance, remain competitive, or financially able to meet
future requirements and regulations imposed by Health
Canada.
To
date, Health Canada has not imposed any restrictions on
E-cigarettes, E-liquid and other vaping products that do not
contain nicotine. E-cigarettes, E-liquid and other vaping products
that do not make any health claim and do not contain nicotine may
legally be sold in Canada. Thus, vendors can openly sell
nicotine-freeE-cigarettes, E-liquid and other vaping products.
However, there are vape shops operating throughout Canada selling
E-cigarettes, E-liquid and other vaping products containing
nicotine without any implications from Health Canada. E-cigarettes,
E-liquid and other vaping products are subject to standard product
regulations in Canada, including the Canada Consumer Product Safety Act and
the Consumer Packaging and
Labelling Act.
At
present, neither the Tobacco
Act (which regulates the manufacture, sale, labelling and
promotion of tobacco products) nor the Tobacco Products Labelling Regulations
(Cigarettes and Little Cigars) (which governs how cigarettes can be
advertised and marketed) apply to E-cigarettes, E-liquid and other
vaping products. The application of these federal laws to
E-cigarettes, E-liquid and other vaping products would have a
material adverse effect on the Company’s business, results of
operations and financial condition.
Company’s efforts to mitigate risks associated with new and
evolving regulation.
The
Company is constantly seeking to stay in compliance with all
existing and reasonably expected future regulations. The Company,
through its internal compliance team, market consultants and
technicians and testing labs hopes to stay in accordance with all
standards whether set forth in the New Tobacco Products Directive
or the Deeming Regulations. Making sure that all E-liquid Products
meet and exceed the standards set forth by each market’s
regulatory body is of the highest concern for the Company. Staying
in compliance with all marketing and packaging directives is
imperative to maintaining access to the markets. Although these
processes are costly and time consuming, it is imperative for the
Company’s success that these steps are taken and constantly
kept up to date. Failure to comply in a timely fashion to any
particular directive or regulation could have material adverse
effects on the results of business operations.
BACKGROUND AND HISTORY OF THE ISSUER
The
Company is the resulting entity of a reverse merger on November 21,
2012 of a company engaged in the sale and distribution of
E-cigarettes and vaporizers. Prior to the reverse merger, the
Company was a mineral-property development company. On November 21,
2012, the reverse merger was completed and the principal business
of the Company was that of the sale and distribution E-cigarettes.
The current primary business of the Company consists of the
manufacturing, marketing and distribution of generic and premium
branded E-liquid, which is used in vaporizers, E-cigarettes, and
other vaping hardware and accessories.
The
Company has focused on building a strong platform for growth though
investing in brands and distribution to consumers. The Company has
now developed and acquired manufacturing operations, premium
E-liquid brands and a global distribution platform.
Acquisitions of E-liquid Manufacturing Business
United States
On
July 1, 2015, the Company closed the acquisition of all the issued
and outstanding shares of E Vapor Labs Inc. (“E Vapor
Labs”), a Florida based E-liquid manufacturer. Pursuant to a
share purchase agreement, dated June 25, 2015, the Company acquired
E Vapor Labs for a total purchase price of $1,125,000 payable to
the vendors of E Vapor Labs on the following basis: (i) $225,000 in
cash on closing; and (ii) $900,000 in promissory notes issued on
closing. The promissory notes were issued in three equal tranches
of $300,000 due four (4), nine (9) and eighteen (18) months
respectfully from closing. The promissory notes were all unsecured,
non-interest bearing, and on each respective maturity date for each
of the three tranches of promissory notes issued, at the option of
the vendors, up to one-third of each tranche of the promissory
notes could be repaid in Common Shares of the Company, calculated
using the five day weighted average closing market price prior to
the maturity of the promissory notes. The promissory notes were all
subject to adjustments as outlined in the share purchase
agreement.
15
The
acquisition of E Vapor Labs provided the Company with its own
E-liquid manufacturing platform located in the United States. The
scalability of this manufacturing facility provided the Company
with an opportunity to continue to manufacture and distribute
private-label products for E Vapor Labs’ existing clientele
while at the same time providing the Company with the required
infrastructure to aggressively pursue a consolidation strategy of
the highly-fragmented E-liquid industry to build the
Company’s global E-liquid portfolio and manufacture such
Products in house.
Canada
On July
31, 2017, the Company’s wholly owned subsidiary, Gilla
Enterprises Inc., acquired all of the issued and outstanding shares
of Vape Brands International Inc. (“VBI”), a
Canada-based E-liquid manufacturer and distributor. In
consideration for the acquisition, the Company paid to the vendors
of VBI the following consideration: (i) 2,500,000 Common Shares of
the Company valued at $0.14 per share for a total value of
$350,000; (ii) warrants for the purchase of 2,000,000 Common Shares
of the Company exercisable over twenty-four (24) months at an
exercise price of $0.20 per share from the closing date, such
warrants vesting in five (5) equal tranches every four (4) months
following the closing date; (iii) a total of CAD $550,000 in
non-interest bearing, unsecured vendor-take-back loans (the
“VTB”) due over twenty-four (24) months, with principal
repayments beginning five (5) months from the closing date until
maturity of up to CAD $25,000 per month; and (iv) an earn-out (the
“Earn-Out”) capped at: (a) the total cumulative amount
of CAD $2,000,000; or (b) five (5) years from the closing date. The
Earn-Out shall be calculated as: 15% of the gross profit generated
in Canada by VBI’s co-pack and distribution business; 10% of
the revenue generated in Canada by Gilla’s existing E-liquid
brands; and 15% of the revenue generated globally on VBI’s
existing E-liquid brands. Furthermore, the Earn-Out shall be
calculated and paid to the vendors of VBI quarterly in arrears and
only as 50% of the aforementioned amounts on incremental revenue
between CAD $300,000 and CAD $600,000 per quarter and 100% of the
aforementioned amounts on incremental revenue above CAD $600,000
per quarter with the Earn-Out payable to the vendors in the fifth
year repeated and paid to the vendors in four (4) quarterly
payments after the end of the Earn-Out period, subject to the
cumulative limit of the Earn-Out. No Earn-Out shall be payable to
the vendors of VBI if total revenue for the Earn-Out calculation
period is less than CAD $300,000 per quarter.
The
acquisition of VBI provided the Company with its second E-liquid
manufacturing platform located in Canada. The Company acquired the
Company to leverage and grow its current Canadian E-liquid business
and to provide manufacturing redundancy.
Acquisition of an Online E-liquid Retailer
On
July 14, 2015, the Company closed the acquisition of all the issued
and outstanding shares of E-Liq World, LLC
(“VaporLiq”), an E-liquid online retailer. Pursuant to
a share purchase agreement, dated July 14, 2015, the Company
acquired VaporLiq for a total purchase price of $126,975 payable to
the vendors of VaporLiq on the following basis: (i) 500,000 Common
Shares of the Company valued at $0.17 per Common Share for a total
value of $85,000; and (ii) 500,000 Common Share purchase warrants
with a deemed value of $41,975, which were exercisable to acquire
500,000 Common Shares at an exercise price of $0.20 for a period of
18 months from the date of issuance.
The
acquisition of VaporLiq provided the Company with a recognized
online brand in the industry and access to VaporLiq’s
existing customer base and business relationships.
Acquisitions of Premium E-liquid Brands
Craft Vapes Brands
On
November 2, 2015, the Company closed the acquisition of all of the
assets of 901 Vaping Company LLC (“901 Vaping”), an
E-liquid manufacturer, including all of the rights and title to own
and operate the Craft Vapes, Craft Clouds and Miss
Pennysworth’s Elixirs E-liquid brands (the “Craft Vapes
Brands”). Pursuant to an asset purchase agreement, dated
October 21, 2015, the Company purchased the assets of 901 Vaping
for a total purchase price of $173,207 which included the
following: (i) the issuance of 1,000,000 Common Shares of the
Company valued at $0.15 per Common Share for an aggregate value of
$150,000; (ii) cash consideration equal to 901 Vaping’s
inventory and equipment of $23,207; and (iii) a quarterly-earn out
based on the gross profit stream derived from product sales of the
Craft Vapes Brands commencing on the closing date up to a maximum
of 25% of the gross profit stream. The Company did not assume any
liabilities of 901 Vaping.
The Mad Alchemist Brands
On
December 2, 2015, the Company acquired all of the assets of The Mad
Alchemist, LLC (“TMA”), an E-liquid manufacturer,
including the assets, rights and title to own and operate The Mad
Alchemist and Replicant E-liquid brands (the “The Mad
Alchemist Brands”). Pursuant to an asset purchase agreement
(the “TMA Asset Purchase Agreement”), dated November
30, 2015, the Company purchased the assets of TMA for a total
purchase price of $500,000 which included the following: (i) the
issuance of 819,672 Common Shares of the Company valued at $0.122
per Common Share for an aggregate value of $100,000; (ii) $400,000
in cash payable in ten (10) equal payments of $20,000 in cash and
$20,000 in Common Shares every three (3) months following the
closing date; and (iii) a quarterly-earn out based on the gross
profit stream derived from product sales of The Mad Alchemist
Brands commencing on the closing date up to a maximum of 25% of the
gross profit stream. The Company did not assume any liabilities of
TMA.
16
On
April 15, 2016, the Company entered into a settlement agreement
(the “TMA Settlement Agreement”) with TMA and the
vendors of TMA (collectively, the “TMA Vendors”).
Subject to the terms and conditions of the TMA Settlement
Agreement, the parties settled (i) any and all compensation and
expenses owing by the Company to the TMA Vendors and (ii) the
$400,000 in remaining cash payable by the Company to the TMA
Vendors pursuant to the TMA Asset Purchase Agreement in exchange
for the Company paying to the TMA Vendors a total settlement
consideration of $133,163 payable as $100,000 in cash and $33,163
in the Company’s assets as a payment-in-kind. Of the $100,000
payable in cash under the TMA Settlement Agreement, $45,000 was
paid upon signing of the settlement, $27,500 was payable thirty
days following signing of the settlement and the remaining $27,500
was payable at the later of (i) sixty days following the signing of
the TMA Settlement Agreement or (ii) the completion of the
historical audit of TMA. In addition, Company and the TMA Vendors
mutually terminated all employment agreements between the Company
and the TMA Vendors, entered into on closing of the TMA Asset
Purchase Agreement, and all amounts were fully settled pursuant to
the TMA Settlement Agreement.
The
acquisitions of the Craft Vapes Brands and The Mad Alchemist Brands
provided the Company with the ability to quickly expand its Product
portfolio with internationally recognized E-liquid brands while
gaining access to new personal and know-how to further grow the
business organically and expand into key targeted international
markets.
International Growth and Expansion
The
Company currently has operations in Slovakia focussing on
distribution and administration of its European business. The
Company has also entered into a contract with a third party to have
the third party manufacture the Company’s E-liquids for its
European sales.
ITEM 1A. RISK FACTORS.
In
addition to other information in this Annual Report, the following
risk factors should be carefully considered in evaluating the
Registrant’s business because such factors may have a
significant impact on the business, operating results, liquidity
and financial condition. The materialization of any of the risks
set forth below would mean that the Registrant’s actual
results could differ materially from those projected in any
forward-looking statements. These risks described below, as well as
additional risks and uncertainties not presently known, or that are
currently considered to be immaterial, may impact the business,
operating results, liquidity and financial condition. If any of
such risks occur, the business, operating results, liquidity and
financial condition could be materially affected in an adverse
manner. Under such circumstances, the trading price of the
Registrant’s securities could decline, and investors may lose
all or part of their investment.
Risks Related to the Company’s Business
The Company’s auditors have issued an opinion expressing
uncertainty regarding the Company’s ability to continue as a
going concern. If the Company is not able to continue operations,
investors could lose their entire investment in the
Company.
The
Company has a history of operating losses, and may continue to
incur operating losses for the foreseeable future. This raises
substantial doubts about the Company’s ability to continue as
a going concern. The Company’s auditors issued an opinion in
their audit report dated May 3, 2018 expressing uncertainty about
the Company’s ability to continue as a going concern. This
means there exists substantial doubt whether the Company can
continue as an ongoing business without additional financing and/or
generating profits from its operations. If the Company is unable to
continue as a going concern and the Company fails, investors in the
Company could lose their entire investment.
The market for E-liquid and other vaping products is a niche market
and is relatively new and emerging. If the market develops more
slowly or differently than the Company expects, the business,
growth prospects and financial condition could be adversely
affected.
E-liquid
and other vaping products, having recently been introduced to
market, are at an early stage of development, represent a niche
market and are evolving rapidly and are characterized by an
increasing number of global market entrants. The Company’s
future sales and any future profits are substantially dependent
upon the widespread acceptance and use of vaping products. Rapid
growth in the use of, and interest in, E-liquid and other vaping
products is recent, and may not continue on a lasting basis. The
demand and market acceptance for these products is subject to a
high level of uncertainty. Therefore, the Company is subject to all
of the business risks associated with a new business in a niche
market, including risks of unforeseen capital requirements, failure
of widespread market acceptance of E-liquid and other vaping
products, in general or, specifically the Products, failure to
establish business relationships and competitive disadvantages as
against larger and more established competitors. Results of
operations may be adversely affected by decreases in the general
level of economic activity and the demand for E-liquid and other
vaping products.
17
Furthermore,
the market for E-liquid and other vaping products is relatively new
and many may not achieve or sustain high levels of demand and
market acceptance. While traditional tobacco products are well
established and revenue from traditional cigarette sales represent
a substantial majority of total industry revenue, smokeless tobacco
products and vaping products represent only a small portion of the
industry. There can be no assurance that E-liquid and other vaping
products become widely adopted, or the market for vaping products
develop as the Company expects. If the market for E-liquid and
other vaping products develops more slowly, or differently than
expected, the business, growth prospects and financial condition of
the Company may be adversely affected.
The Company must comply with regulations imposed by government
authorities and may be required to obtain the approval of various
government agencies to market the Products.
The
Products are subject to regulation by governmental authorities in
certain jurisdictions. The Company must comply with such
regulations, as applicable, in the relevant regulated jurisdictions
where the Company offers and sells the Products. Achievement of the
Company’s business objectives are contingent, in part, upon
compliance with necessary and applicable regulatory requirements
enacted by these governmental authorities and obtaining all
regulatory approvals necessary. The Company cannot predict the time
required to secure all appropriate regulatory approvals. These
approvals could require significant time and resources from the
Company’s technical staff, and, if revisions are necessary,
could result in a delay in the introduction of the Products in
various markets or ultimately require the Company to exit from that
market. There can be no assurance that the Company will obtain any
or all of the approvals that may be required to market the
Products. Any delays in obtaining, or failure to obtain regulatory
approvals would significantly delay the development of the
Company’s plans and could have a material adverse effect on
the business, results of operations and financial condition of the
Company.
The regulation of tobacco products by the FDA in the United States
and the issuance of Deeming Regulations may materially adversely
affect the Company.
The
Deeming Regulations issued by the FDA require any Deemed Tobacco
Products, which include E-liquid and other vaping products, that
were not commercially marketed as of the grandfathering date of
February 15, 2007, to obtain premarket approval by the FDA before
any new E-liquid or other vaping products can be marketed in the
United States. However, any Deemed Tobacco Products that were on
the market in the United States prior to August 8, 2016 have a
two-year grace period to continue to market such products, ending
on August 8, 2018 whereby a premarket application, likely though
the PMTA pathway, must be completed and filed with the FDA. Upon
submission of a PMTA, products would then be given an additional
twelve months of market access pending the FDA’s review of
the submission. Without obtaining marketing authorization by the
FDA prior to August 8, 2019, non-authorized products would be
required to be removed from the market in the United States until
such authorization could be obtained. Failure to complete the
required premarket application, an endeavor that would be extremely
time consuming and financially costly, could prevent the Company
from marketing and selling the Products in the United States and,
thus, may have a material effect on the business, financial
condition and results of operations. Furthermore, there can be no
assurance that if the Company were to complete a premarket
application for each of the Products, that any application would be
approved by the FDA.
There may be changes in the laws, regulations and guidelines that
the Products are subject to.
The
implementation of the Company’s business plan and operations
are subject to a variety of laws, regulation and guidelines
relating to the manufacture, management, marketing and
transportation but also including laws relating to health and
safety and the conduct of operations. Any changes to or the
introduction of new or additional laws, regulations and guidelines,
due to matters beyond the control of the Company, could have a
material adverse effect on the business, results of operations and
financial condition of the Company.
The
Company may experience intense competition in the E-liquid and
vapour products industry which it currently operates.
The
Company may face intense competition from other companies, some of
which can be expected to have longer operating histories and more
financial resources, market penetration and experience than the
Company. Increased competition by larger and better financed
competitors could materially and adversely affect the business,
financial condition and results of operation of the
Company.
18
Because
the E-liquid and vapor products industry has relatively low
barriers to entry, the Company expects to face additional
competition from new entrants. To become and remain competitive,
the Company will require research and development, marketing, sales
and support. The Company may not have sufficient resources to
maintain research and development, marketing, sales and support
efforts on a competitive basis which could materially and adversely
affect the business, financial condition and results of operations
of the Company.
Some of the Products contain nicotine which is highly addictive and
use of E-liquid and other vaping products may pose a health risk to
users.
Some of
the Products contain nicotine which is considered to be a highly
addictive substance. Additionally, some manufactures of E-liquid
and other vaping products may also use flavoring concentrates
within their vaping products that contain other ingredients known
to be toxic to humans. Furthermore, vaping products may be more
attractive to young individuals as a smoking alternative, perceived
to be less damaging to one’s health than traditional
cigarettes. Any federal, state or local agencies with competent
authority to regulate E-liquid and other vaping products in their
respective jurisdictions could ban certain ingredients and/or force
reformulations of certain Products for the purposes of protecting
the public’s general health. There have also been instances
of vaping devices exploding during charging. Such instances can
cause bodily harm and could jeopardize consumer sentiment. Any one
or combination of these considerations could have a negative impact
on the Company’s ability to effectively market and sell the
Products which could materially and adversely effect the
Company’s business, financial condition and results of
operations.
The rapid development of the vaping industry has not provided
sufficient time for the medical profession to study the health
effects relating to the use of vaping products.
The
rapid development of vaping products has not provided sufficient
time for the medical profession to study the long-term health
effects of using such products. Therefore, it is uncertain as to
whether or not E-liquid and other vaping products are safe for
their intended use. If the medical profession were to determine
conclusively that using E-liquid and other vaping products posed a
significant threat to long-term human health, consumption could
decline rapidly and the Company may be forced to modify certain or
all of the Products. Such an outcome may have material adverse
effect on the Company’s financial condition and results of
operations.
If the Company’s transfer pricing policies get challenged,
the Company’s income tax expense may be adversely affected
which may have a significant impact on the Company’s future
earnings and future cash flows.
The
Company conducts its business operations in various jurisdictions
and through separate legal entities within such jurisdictions. The
Company and certain of its subsidiaries provide products and
services to, and may from time to time undertake certain
significant transactions with, other currently existing or new
subsidiaries in different jurisdictions. The tax laws of these
jurisdictions typically have detailed transfer pricing rules which
require that all transactions with non-resident related parties be
priced using arm’s length pricing principles and that
contemporaneous documentation must exist to support such pricing.
The taxation authorities in the jurisdictions where the Company
carries on business could challenge its arm’s length related
party transfer pricing policies. International transfer pricing is
a subjective area of taxation and generally involves a significant
degree of judgment. If any of these taxation authorities are
successful in challenging the Company’s transfer pricing
policies, its income tax expense may be adversely affected and the
Company could also be subjected to interest and penalty charges.
Any such increase in the Company’s income tax expense and
related interest and penalties could have a significant impact on
the Company’s future earnings and future cash
flows.
Lack of diversification may increase the risk of an investment in
the Company. Results of operations and financial condition may
deteriorate if the Company fails to diversify.
The
current business of the Company consists of the manufacturing,
marketing and distribution of generic and premium branded E-Liquid,
which is the liquid used in vaporizers, E-cigarettes and other
vaping hardware and accessories. Larger companies have the ability
to manage their risk by diversification. However, the Company lacks
diversification, in terms of both the nature and geographic scope.
As a result, the Company will likely be impacted more acutely by
factors affecting its industry or the regions in which it operates
than if the Company were more diversified, enhancing the risk
profile. If the Company cannot diversify or expand operations, the
Company’s financial condition and results of operations could
deteriorate.
19
The Company is dependent on its management team to operate the
business who has no prior experience in the tobacco
industry.
The
Company manages its capital structure and makes adjustments to it,
based on the funds available, in order to maintain the
Company’s daily operations. The Board of Directors does not
establish quantitative return on capital criteria for management,
but rather relies on the expertise of the Company’s
management to sustain the future development of the business. In
part, the Company’s success is largely dependent on the
continued service of the members of the management team, who are
critical in establishing corporate strategies, focus and future
growth. The Company’s success will be dependent on the
ability to attract and retain a qualified and competent management
team in order to manage operations. Therefore, the Company’s
operations may be severely disrupted, and may incur additional
expenses to recruit and retain new officers. In addition, if any of
the Company’s executives join a competitor or form a
competing business, the Company may lose its existing
customers.
Furthermore,
the Company’s management team has no prior experience in the
tobacco industry, which could impair the Company’s ability to
comply with legal and regulatory requirements. There can be no
assurance that the Company’s management team will be able to
implement and affect programs, adhere to product packaging or other
regulatory policies in an effective and timely manner that would
adequately respond to any legal or regulatory compliance
requirements imposed by law. Failure to comply with such laws and
regulations could lead to the imposition of fines and penalties and
further result in the deterioration of the Company’s
operations.
The Company may be subject to litigation in the ordinary course of
business. Furthermore, warranty claims, product liability claims
and product recalls could harm the business, results of operations
and financial condition.
From
time to time, the Company may be subject to various legal
proceedings and claims, either asserted or unasserted. Any such
claims, whether with or without merit, could be time-consuming and
expensive to defend and could divert management’s attention
and resources. There can be no assurance that the outcome of future
litigation, if any, will not have a material adverse effect on the
business, results of operations and financial
condition.
Furthermore,
the Company is inherently exposed to potential warranty and product
liability claims in the event that the Products fail to perform as
expected or such failure of the Products results, or is alleged to
result, in bodily injury or property damage (or both). Such claims
may arise despite quality controls, proper testing and instruction
for use of the Products, either due to a manufacturing defect or
due to the individual’s improper use of the Product. In
addition, if any of the Products are, or are alleged, to be
defective, then the Company may be required to participate in a
recall.
The
tobacco industry in general has historically been subject to
frequent product liability claims. As a result, the Company may
experience product liability claims from the marketing and sale of
the Products. Any product liability claim brought against the
Company, with or without merit, could result in:
●
liabilities that
substantially exceed the Company’s product liability
insurance, which the Company would then be required to pay from
other sources, if available;
●
an increase in the
Company’s product liability insurance rates or the inability
to maintain insurance coverage in the future on acceptable terms,
or at all;
●
damage to the
Company’s reputation including the reputation of its brands
and the Products which could result in decreased demand and overall
sales;
●
regulatory
investigations that could require costly recalls or modifications
of the Products;
●
litigation costs;
and
●
the diversion of
management’s attention from managing the Company’s
primary business.
20
Any one
or combination of the foregoing could have a material adverse
effect on the Company’s business, results of operations and
financial condition.
The Company is substantially dependent on its third-party suppliers
to sustain operations.
The
Company is substantially dependent on its third-party suppliers.
The Company depends on the ability of its suppliers to deliver raw
materials on a timely basis, in adequate quantities, at a
consistent quality and at a reasonable cost in order to meet
operational needs. Changes in business conditions, wars,
governmental changes and other factors beyond the Company’s
control which are not presently anticipated, could affect the
ability of a supplier to meet the Company’s needs.
Furthermore, if the Company experiences significant growth and
demand for the Products, there can be no assurance that the
additional supply of raw materials will be available in a timely
manner. Loss of any of the Company’s suppliers, or the
disruption in the supply of raw materials, could have a material
adverse effect on the business and on existing relationships with
the Company’s customers.
The Company may be affected if the Products are taxed like other
tobacco products or the Company is required to collect and remit
sales tax on certain of its sales.
Presently,
the Products are not taxed like cigarettes or other tobacco
products in the jurisdictions which the Company operates.
Cigarettes and other tobacco products have generally faced
significant increases in the amount of taxes collected on the sale
of their products. Should any state or federal government or taxing
authority in the jurisdictions which the Company operates impose
taxes similar to those levied against cigarettes and tobacco
products on the Products, it may have a material adverse effect on
the demand for its Products. Moreover, the Company may be unable to
establish the systems and processes needed to track and submit the
taxes collected, which would limit the Company’s ability to
market the Products and operate efficiently which could have a
material adverse effect on the Company’s business, results of
operations and financial condition.
The Company competes with importers, distributors and manufacturers
who may not comply with government regulations.
The
Company faces competition from importers, distributors and
manufacturers who may illegally ship their products into the
jurisdictions which the Company operates. These market participants
may not have the added cost and expense of complying with
government regulations and taxes, and as a result, will be able to
offer their products at a more competitive price, potentially
allowing them to capture a larger market share. Moreover, should
the Company be unable to sell certain of the Products during any
regulatory approval process, there can be no assurances that the
Company would be able to recapture those customers lost to foreign
domiciled competitors during any “blackout” periods,
during which the Company may be unable to sell the Products. This
competitive disadvantage may have a material adverse effect on the
Company’s business, results of operations and financial
condition.
Conventional tobacco sales have been declining, which could have a
material adverse effect on the Company.
Conventional
tobacco sales, in terms of volume, have been declining as a result
of many regulatory restrictions, increased awareness in smoking
cessation and a general decline in social acceptability of smoking.
Although the E-liquid and vapor products industry is growing
rapidly, it represents a small portion of the overall tobacco
industry. A continual decline in tobacco sales could adversely
affect the growth of the E-liquid niche, which could have a
material adverse effect on the Company’s business, results of
operations and financial condition.
The Company does not own any patents or proprietary rights other
than certain trademarks relating to the Company’s
brands.
The
Company does not own any patents or proprietary rights to the
Products other than select trademarks and wordmarks relating to the
Company’s brand names and logos. Furthermore, the Company
does not own any patents or proprietary rights of any nature
relating to vaping hardware which must be used in combination with
the Products. Competitors offering similar products to the Company,
may own such patents or proprietary rights allowing them to disturb
the market which could have a material adverse effect on the
Company’s business, results of operations and financial
condition.
21
The Company may be subject to intellectual property infringement
claims.
The
Company’s success and value depends, in part, upon the
Company not infringing the intellectual property rights of others.
A number of the Company’s competitors, and its third parties,
may have issued or pending patents or trademarks, and may obtain
additional patents, trademarks and proprietary rights for
technologies and branding similar to those used by the Company in
the Products. Some of these patents or trademarks may grant very
broad protection to the owners of such intellectual property. The
Company cannot determine with certainty whether any issued patents,
trademarks, or the issuance of any intellectual property rights,
would require the Company to obtain licenses or cease certain
activities. The Company may become subject to claims by other
parties that the Products may infringe on intellectual property
rights resulting from the overlap in functionality, increased
awareness and overall prevalence of the Products.
The Company may become dependent on foreign sales to maintain
operations.
If the
FDA, Health Canada or any other state or federal government agency
restricts or prohibits the sale of the Products in the United
States or Canada, in part or in whole, the Company’s ability
to maintain operations will become dependent on the ability to
successfully market the Products and brands in foreign
jurisdictions where the Products can be sold. The Company’s
inability to establish distribution channels in foreign
jurisdictions, specifically those that allow for the sale of
E-liquid and other vaping products will deprive the Company of the
operating revenue that may be required to fund any domestic
regulatory approvals to maintain the Company’s business
operations.
The Products face intense media attention and public
pressure.
E-liquid
and other vaping products are new to the marketplace and since its
introduction, certain members of the media, politicians, government
regulators and advocate groups, including independent medical
physicians have called for an outright ban of all vaping products,
pending regulatory reviews and a demonstration of safety. A partial
or outright ban would have a material adverse effect on the
Company’s business, results of operation and financial
condition.
The Company may be exposed to foreign currency risk.
The
Company’s global business operates mainly in U.S. Dollars,
Canadian Dollars, Euros and British Pounds. The Company’s
functional and reporting currency is the U.S. Dollar. Accordingly,
the revenues and expenses of operating under another currency other
than U.S. Dollars will be translated at average rates of exchange
in effect during the applicable reporting period. Assets and
liabilities will be translated at the exchange rates in effect at
each balance sheet date. As a result, the Company’s
consolidated financial position is subject to foreign currency
fluctuation risk, which could materially adversely impact its
operating results and cash flows. Although the Company may enter
into currency hedging arrangements in respect of its foreign
currency cash flows, there can be no assurance that the Company
will do so, or if it does, that the full amount of the foreign
currency exposure will be hedged at any time.
Risks Associated with the Company’s Common
Shares
The Company is subject to compliance with securities laws, which
exposes the Company to potential liabilities, including potential
rescission rights.
There
is no predictable method by which investors in the Common Shares or
other securities of the Company shall be able to realize any gain
or return on their investment in the Company, or shall be able to
recover all or any substantial portion of the value of their
investment. There is, currently no public market for the Common
Shares, and no assurance can be given that a market will develop or
that an investor will be able to liquidate their investment without
considerable delay, if at all. Consequently, should an investor
suffer a change in circumstances arising from an event not
contemplated at the time of their investment, and should an
investor therefore wish to transfer the Common Shares owned by
them, they may find that there is only a limited or no ability to
transfer or market the Common Shares. Accordingly, purchasers of
Common Shares or other securities of the Company need to be
prepared to bear the economic risk of their investment for an
indefinite period of time. If a market should develop, the price
may be highly volatile. Factors such as those discussed in this
“Risk Factors” section, or elsewhere in this Annual
Report, may have a significant impact upon the market price of the
securities of the Company. Owing to what may be expected to be the
low price of the securities, many brokerage firms may not be
willing to effect transactions in the Common Shares or other
securities of the Company.
22
Even if
an investor were to find a broker willing to affect a transaction
in the Common Shares or other securities of the Company, the
combination of brokerage commissions and any other selling costs
may exceed the selling price. Further, many lending institutions
will not permit the use of such securities as collateral for any
loans. The Company has no agreement with any securities brokers or
dealers that are a member of the National Association of Securities
Dealers, Inc., to act as a market maker for the Common Shares or
other securities of the Company. Should the Company fail to obtain
one or more market makers for the such securities, the trading
level and price of the securities may be materially and adversely
affected. Should the Company happen to obtain only one market maker
for the Company’s securities, the market maker would in
effect dominate and control the market for such securities. The
Company’s Common Shares are covered by a U.S. Securities and
Exchange Commission rule that imposes additional sales practice
requirements on broker-dealers who sell such securities to persons
other than their established customers and accredited investors.
For purposes of the rule, the phrase “accredited
investors” means, in general terms, institutions with assets
in excess of $5,000,000, or individuals having a net worth in
excess of $1,000,000 or having an annual income that exceeds
$200,000 (or that, when combined with a spouse’s income,
exceeds $300,000). For transactions covered by the rule, the
broker-dealer must make a special suitability determination for the
purchaser and receive the purchaser’s written, agreement to
the transaction prior to the sale. Consequently, the rule may
affect the ability of broker-dealers to sell the Common Shares or
other securities of Company which may affect the ability of
investors to sell their securities in any market that might
consequently develop.
The
Company has offered and sold Common Shares to investors pursuant to
certain exemptions from the registration requirements of the
Securities Act of 1933, as well as those of various state
securities laws. The basis for relying on such exemptions is
factual; that is, the applicability of such exemptions depends upon
the Company’s conduct and that of those persons contacting
prospective investors and making the offering. The Company has not
received a legal opinion to the effect that any of the prior
offerings were exempt from registration under any federal or state
law. Instead, the Company has relied upon the operative facts as
the basis for such exemptions, including information provided by
investors themselves.
If any
prior offering did not qualify for such exemption, an investor
would have the right to rescind their purchase of the Common
Shares, if it so desired. It is possible that if an investor should
seek rescission, such investor would succeed. A similar situation
prevails under state law in those states where the securities may
be offered without registration in reliance on the partial
pre-emption from the registration or qualification provisions of
such state statutes under the National Securities Markets
Improvement Act of 1996. If investors were successful in seeking
rescission, the Company would face severe financial demands that
could adversely affect its business and operations. Additionally,
if the Company did not in fact qualify for the exemptions upon
which it has relied, the Company may become subject to significant
fines and penalties imposed by the U.S. Securities and Exchange
Commission as well as other state securities agencies.
A significant number of the issued and outstanding Common Shares
are owned, directly or indirectly, by insiders of the Company who
may be able to control the price and trading volume of the Common
Shares.
Of the
currently issued and outstanding Common Shares, approximately
28,862,715 Common Shares (approximately 20.15% of the total number
of issued and outstanding Common Shares) are owned by, or are under
the direct or indirect control of Company’s insiders. That
number of shares is enough to dominate and control the price and
trading volume of the Common Shares. Because such Common Shares are
controlled by such a limited number of persons, selling decisions
can be expected to have a substantial impact upon (or
“overhang” over) the market, if any, for the Common
Shares. Any sale of a large number of Common Shares over a short
period of time could significantly depress the market price of the
securities.
The majority of the Company’s authorized Common Shares remain
unissued.
The
majority of the Company’s authorized but unissued Common
Shares remain unissued. The Board of Directors has the authority to
issue any unissued but authorized Common Shares without the consent
or vote of the shareholders of the Company. The issuance of such
additional Common Shares may dilute the interests of investors in
the securities and will reduce their proportionate ownership and
voting power in the Company.
23
The Company does not intend to pay cash dividends in the
foreseeable future.
On
January 17, 2008, the Board of Directors declared a cash dividend
of its Common Share shareholders of record on February 4, 2008 in
the amount of $0.035 per Common Share, which was distributed on
February 15, 2008. The Company currently intends to retain all
future earnings for use in the operation and expansion of the
Company’s business. The Company does not intend to pay any
cash dividends in the foreseeable future but will review this
policy as circumstances dictate.
There is currently no market for the Company’s Common Shares
and there can be no assurance that any market will ever develop or
that the Common Shares will be listed for trading on a recognized
exchange. Therefore, investors may be unable to liquidate their
investments.
The
Company is a fully reporting OTC Markets company with its Common
Shares trading on the OTC QB marketplace in the United States
quoted under the symbol “GLLA”. There has not been any
established trading market for the Common Shares and there is
currently no market for the Company’s securities. Even if the
Company is ultimately approved for trading on a recognized
exchange, there can be no assurance as the prices at which the
Common Shares will trade if a trading market develops, of which
there can be no assurance. Until an orderly market develops, if
ever, in the Common Shares, there can be no assurance that
investors will be able to liquidate their investments.
The Common Shares are illiquid and may in the future be subject to
price volatility unrelated to the Company’s
operations.
The
Common Shares have no market price and, if and when a market price
is established, could fluctuate substantially due to a variety of
factors, including but not limited to market perception of the
Company’s ability to achieve planned growth, quarterly
operating results of other corporations in the same industry,
trading volume in the Common Shares, changes in general conditions
in the economy and the financial markets or other developments
affecting the Company or its competitors. In addition, the stock
market is subject to extreme price and volume fluctuations. This
volatility has had a significant effect on the market price of
securities issued by many corporations for reasons unrelated to
their operating performance and could have the same effect on the
Common Shares. Sales of substantial amounts of Common Shares, or
the perception that such sales could occur, could adversely affect
the market price of the Common Shares (if and when a market price
is established) and could impair the Company’s ability to
raise capital through the sale of equity securities.
Other Risks
The Company’s ability to continue as a going concern is
dependent on the ability to further implement its business plan,
raise capital, and generate revenues.
The
time required for the Company to become profitable from operations
is highly uncertain, and the Company cannot assure that it will
achieve or sustain operating profitability or generate sufficient
cash flow to meet its planned capital expenditures. If required,
the Company’s ability to obtain additional financing from
other sources also depends on many factors beyond its control,
including the state of the capital markets and the prospects for
its business. The necessary additional financing may not be
available to the Company or may be available only on terms that
would result in further dilution to the current owners of its
securities. The Company cannot assure that it will generate
sufficient cash flow from operations or obtain additional financing
to meet its obligations which could result in a material adverse
effect on the Company’s financial condition.
The Company’s current business has a limited operating
history and, accordingly, investors will not have any basis on
which to evaluate the Company’s ability to achieve its
business objectives.
The
Company has limited operating results to date. Since the Company
does not have an established operating history, investors will have
no basis upon which to evaluate the Company’s ability to
achieve its business objectives.
24
The absence of any significant operating history for the Company
makes forecasting its revenue and expenses difficult, and the
Company may be unable to adjust its spending in a timely manner to
compensate for unexpected revenue shortfalls or unexpected
expenses.
As a
result of the absence of any significant operating history for the
Company, it is difficult to accurately forecast the Company’s
future revenue. In addition, the Company has limited meaningful
historical financial data upon which to base planned operating
expenses. Current and future expense levels are based on the
Company’s operating plans and estimates of future revenue.
Revenue and operating results are difficult to forecast because
they generally depend on the Company’s ability to promote and
sell the Products. As a result, the Company may be unable to adjust
its spending in a timely manner to compensate for any unexpected
revenue shortfall, which would result in further substantial
losses. The Company may also be unable to expand its operations in
a timely manner to adequately meet demand to the extent it exceeds
expectations.
The Company’s limited operating history does not afford
investors a sufficient history on which to base an investment
decision.
The
Company is currently in the early stages of developing its
business. There can be no assurance that at this time that the
Company will operate profitably or will have adequate working
capital to meet its obligations as they become due.
Investors
must consider the risks and difficulties frequently encountered by
early stage companies, particularly in rapidly evolving and
disruptive markets. Such risks include the following:
●
ability to
anticipate and adapt to a competitive market;
●
ability to
effectively manage expanding operations; amount and timing of
operating costs and capital expenditures relating to the rapid
growth of the business, operations, and infrastructure;
and
●
dependence upon key
personnel to market and sell the Products, such loss of any key
personnel adversely affecting the operations and sales of the
Products.
The
Company cannot be certain that its business strategy will be
successful or that the Company will successfully address these
risks. In the event that the Company does not successfully address
these risks, its business, prospects, financial condition, and
results of operations could be materially and adversely affected
and the Company may not have the resources to continue or expand
its business operations.
Dependence on the Company’s management, without whose
services, the Company’s business operations could
cease.
At this
time, the Company’s management is wholly responsible for the
development and execution of the business plan. The Company’s
management is under no contractual obligation to remain employed by
the Company, although they have no present intent to leave. If the
Company’s management should choose to leave for any reason
before the Company has hired additional personnel, the
Company’s operations may fail. Even if the Company is able to
find additional personnel, it is uncertain whether the Company
could find qualified management who could develop the business
along the lines described herein or would be willing to work for
compensation the Company could afford. Without such management, the
Company could be forced to cease operations and investors in the
Common Shares or other securities of the Company could lose their
entire investment.
Lack of additional working capital may cause curtailment of any
expansion plans while the raising of capital through the sale of
equity securities would dilute existing shareholders’
percentage of ownership.
The
Company’s available capital resources may not be adequate to
fund its working capital requirements. Any shortage of capital
could affect the Company’s ability to fund its working
capital requirements to sustain operations. If the Company requires
additional capital, funds may not be available on acceptable terms,
if at all. In addition, if the Company raises additional capital
through the sale of equity or convertible debt securities, the
issuance of such securities could dilute existing shareholders. If
funds are not available, the Company could be placed in the
position of having to cease all operations.
25
The Company does not presently have a traditional credit facility
with a financial institution which may adversely affect the
Company’s operations.
The
Company does not presently have a traditional credit facility with
a financial institution. The absence of a traditional credit
facility with a financial institution could adversely impact the
Company’s operations. If adequate funds are not otherwise
available, the Company may be required to delay, scale back or
eliminate portions of its operations. Without such credit
facilities, the Company could be forced to cease operations and
investors in the Common Shares or other securities of the Company
could lose their entire investment.
The Company will need to increase the size of its organization, and
may experience difficulties in managing growth.
The
Company currently has thirty-six (36) full-time employees and four
(4) key individuals engaged as consultants. The Company expects to
experience a period of significant expansion in headcount,
facilities, infrastructure and overhead and anticipates that
further expansion will be required to address potential growth and
market opportunities. Future growth will impose significant added
responsibilities on members of management, including the need to
identify, recruit, maintain and integrate managers. The
Company’s future financial performance and its ability to
compete effectively will depend, in part, on its ability to manage
any future growth effectively.
The Company may not have adequate internal accounting controls.
While the Company has certain internal procedures in its budgeting,
forecasting and in the management and allocation of funds, the
Company’s internal controls may not be adequate.
The
Company is constantly striving to improve its internal accounting
controls. While the Company believes that its internal controls are
adequate for its current level of operations, the Company believes
that it may need to employ additional accounting staff as the
Company’s operations ramp up. The Company has appointed an
outside independent director as Chairman of the Audit Committee,
however there is no guarantee that actions undertaken by the Audit
Committee will be adequate or successful or that such improvements
will be carried out on a timely basis. If, in the future, the
Company does not have adequate internal accounting controls, the
Company may not be able to appropriately budget, forecast and
manage its funds. The Company may also be unable to prepare
accurate accounts on a timely basis to meet its continuing
financial reporting obligations and the Company may not be able to
satisfy its obligations under applicable securities
laws.
ITEM 1B. UNRESOLVED STAFF COMMENTS.
None.
ITEM 2. PROPERTIES.
The
Company occupies office space at 475 Fentress Blvd., Unit L,
Daytona Beach, Florida, 32114, USA, with payments made monthly on a
month to month basis, which serves as the Company’s
registered office and US headquarters. The Company also occupies
office space at 2525 Tedlo St., Unit A, Mississauga, Ontario, L5A
4A8, Canada, with payments made monthly and ending on June 30,
2019, which serves as the Company’s Canadian headquarters.
The Company has no investments in real estate.
ITEM 3. LEGAL PROCEEDINGS.
None.
ITEM 4. MINE SAFETY DISCLOSURES.
Not
applicable.
26
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY,
RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY
SECURITIES.
The
Company’s securities trade on the over-the-counter market as
a fully reporting OTC Markets company quoted on the OTC QB under
the symbol “GLLA”. The following table sets forth for
the periods indicated the range of high and low closing price per
share as reported by the over-the-counter market. These quotations
represent inter-dealer prices, without retail markups, markdowns or
commissions and may not necessarily represent actual transactions.
The market for the Company’s Common Shares has been sporadic
and there have been long periods during which there were few, if
any, transactions in the Common Shares and no reported quotations.
Accordingly, reliance should not be placed on the quotes listed
below, as the trades and depth of the market may be limited, and
therefore, such quotes may not be a true indication of the current
market value of the Company’s Common
Shares.
2016
|
HIGH
|
LOW
|
First
Quarter
|
$0.20
|
$0.09
|
Second
Quarter
|
$0.20
|
$0.13
|
Third
Quarter
|
$0.21
|
$0.13
|
Fourth
Quarter
|
$0.15
|
$0.07
|
2017
|
HIGH
|
LOW
|
First
Quarter
|
$0.18
|
$0.12
|
Second
Quarter
|
$0.15
|
$0.11
|
Third
Quarter
|
$0.15
|
$0.10
|
Fourth
Quarter
|
$0.15
|
$0.11
|
On
December 31, 2017, the closing price of the Company’s Common
Shares as reported on the OTC QB was $0.14 per share. On December
31, 2017, the Company had in excess of 448 beneficial shareholders
of its Common Shares with 134,869,261 Common Shares issued and
outstanding. As at the date of this Annual Report, the Company had
143,218,368 Common Shares issued and outstanding.
DIVIDENDS
On
January 17, 2008, the Board of Directors declared a cash dividend
to its Common Share shareholders of record on February 4, 2008 in
the amount of $0.035 per share, which was distributed on February
15, 2008. The Company has not determined when it shall make its
next dividend payment.
RECENT SALES OF UNREGISTERED SECURITIES
During
the period covered by this Annual Report, the Company did not have
any sales of securities in transactions that were not registered
under the Securities Act of 1933, as amended, that have not been
previously reported in a Form 8-K or Form 10-Q.
ITEM 6. SELECTED FINANCIAL DATA.
Earnings
per share for each of the fiscal years shown below are based on the
weighted average number of Common Shares outstanding.
|
Years ended
December 31,
|
|
|
2017
|
2016
|
Revenues
|
$4,600,586
|
$4,550,793
|
|
|
|
Net
Loss
|
$(6,647,947)
|
$(4,500,206)
|
|
|
|
Earnings (Loss) Per
Share
|
$(0.05)
|
$(0.04)
|
|
|
|
Total
assets
|
$4,280,955
|
$2,211,627
|
|
|
|
Total
liabilities
|
$10,836,158
|
$7,902,537
|
27
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATION.
The information and financial data discussed below is derived from
the audited consolidated financial statements of Gilla Inc. for the
year ended December 31, 2017. The financial statements were
prepared and presented in accordance with United States generally
accepted accounting principles and are expressed in U.S. Dollars.
The information and financial data discussed below is only a
summary and should be read in conjunction with the financial
statements and related notes of Gilla Inc. contained elsewhere in
this Annual Report, which fully represent the financial condition
and operations of Gilla Inc., but which are not necessarily
indicative of future performance.
Overview
Gilla
Inc. was incorporated under the laws of the State of Nevada on
March 28, 1995 under the name of Truco, Inc. The Company later
changed its name to Web Tech, Inc., and then to Cynergy, Inc.,
Mercantile Factoring Credit Online Corp., Incitations, Inc., Osprey
Gold Corp. and to its present name. The Company adopted the present
name, Gilla Inc., on February 27, 2007. The Company’s
registered address is 475 Fentress Blvd., Unit L, Daytona Beach,
Florida 32114.
The
current business of the Company consists of the manufacturing,
marketing and distribution of E-liquid, which is the liquid used in
vaporizers and E-cigarettes, and developer of turn-key vapor and
cannabis concentrate solutions for high-terpene vape oils, pure
crystalline, high-performance vape pens and other targeted
products.
Critical Accounting Policies
Basis of Preparation
The
Company's consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the
United States of America (“U.S. GAAP”) for annual
financial statements and with Form 10-K and article 8 of the
Regulation S-X of the United States Securities and Exchange
Commission (“SEC”).
Basis of Consolidation
These
consolidated financial statements include the accounts of the
Company and its wholly owned subsidiaries: Gilla Operations, LLC; E
Vapor Labs Inc. (“E Vapor Labs”); Gilla Enterprises
Inc. (“Gilla Enterprises”) and its wholly owned
subsidiaries Gilla Europe Kft., Gilla Operations Europe s.r.o. and
Vape Brands International Inc. (“VBI”); E-Liq World,
LLC; Charlie’s Club, Inc.; Gilla Operations Worldwide Limited
(“Gilla Worldwide”); Gilla Franchises, LLC and its
wholly owned subsidiary Legion of Vape, LLC; and Snoke Distribution
Canada Ltd. and its wholly owned subsidiary Snoke Distribution USA,
LLC. All inter-company accounts and transactions have been
eliminated in preparing these consolidated financial
statements.
Foreign Currency Translation
The
Company’s Canadian subsidiaries maintain their books and
records in Canadian Dollars (CAD) which is also their functional
currency. The Company’s Irish and Slovakian subsidiaries
maintain their books and records in Euros (EUR) which is also their
functional currency. The Company’s Hungarian subsidiary
maintains its books and records in Hungarian Forint (HUF) which is
also its functional currency. The Company and its U.S. subsidiaries
maintain their books and records in United States Dollars (USD)
which is both the Company’s functional currency and reporting
currency. The accounts of the Company are translated into United
States Dollars in accordance with provisions of Financial
Accounting Standards Board (“FASB”) Accounting
Standards Codification (“ASC”) No. 830, Foreign
Currency Matters (“ASC 830”). Transactions denominated
in currencies other than the functional currency are translated
into the functional currency at the exchange rates prevailing at
the dates of the transaction. Monetary assets and liabilities
denominated in foreign currencies are translated using the exchange
rate prevailing at the balance sheet date. Non-monetary assets and
liabilities are translated using the historical rate on the date of
the transaction. Revenue and expenses are translated at average
rates in effect during the reporting periods. All exchange gains or
losses arising from translation of these foreign currency
transactions are included in net income (loss) for the period. In
translating the financial statements of the Company's foreign
subsidiaries from their functional currencies into the Company's
reporting currency of United States Dollars, balance sheet accounts
are translated using the closing exchange rate in effect at the
balance sheet date and income and expense accounts are translated
using an average exchange rate prevailing during the reporting
period. Adjustments resulting from the translation, if any, are
included in accumulated other comprehensive income in stockholders'
equity. The Company has not, as at the date of these consolidated
financial statements, entered into derivative instruments to offset
the impact of foreign currency fluctuations.
28
Earnings (Loss) Per Share
Basic
earnings (loss) per share is computed by dividing net income (loss)
by the weighted average number of Common Shares outstanding for the
period, computed under the provisions of ASC No. 260-10,
Earnings per Share
(“ASC 260-10”). Diluted earnings (loss) per share is
computed by dividing net income (loss) by the weighted average
number of Common Shares outstanding plus common stock equivalents
(if dilutive) related to convertible preferred stock, stock options
and warrants for each period. There were no common stock equivalent
shares outstanding at December 31, 2017 and 2016 that have been
included in the diluted loss per share calculation as the effects
would have been anti-dilutive.
Cash and Cash Equivalents
The
Company considers all highly liquid investments with original
maturities of three months or less to be cash
equivalents.
Financial Instruments
Financial
assets and financial liabilities are recognized in the balance
sheet when the Company has become party to the contractual
provisions of the instruments.
The
Company’s financial instruments consist of cash and cash
equivalents, trade receivables, accounts payable, accrued interest,
due to related parties, accrued liabilities, customer deposits,
promissory notes, convertible debentures, loans from shareholders,
amounts owing on acquisitions and term loans. The fair values of
these financial instruments approximate their carrying value, due
to their short term nature. Fair value of a financial instrument is
defined as the price that would be received to sell an asset or
paid to transfer a liability in an orderly transaction between
market participants at the measurement date. The Company’s
financial instruments recorded at fair value in the consolidated
balance sheets are categorized based upon the level of judgment
associated with the inputs used to measure their fair value.
Hierarchical levels, defined by ASC No. 820, Fair Value Measurement and Disclosure
(“ASC 820”), with the related amount of subjectivity
associated with the inputs to value these assets and liabilities at
fair value for each level, are as follows:
Level
1
|
-
|
Unadjusted
quoted prices in active markets for identical assets or
liabilities;
|
Level
2
|
-
|
Observable
inputs other than Level 1 prices such as quoted prices for
similar assets or liabilities; quoted prices in markets with
insufficient volume or infrequent transactions (less active
markets); or model-derived valuations in which all significant
inputs are observable or can be derived principally from or
corroborated by observable market data for substantially the full
term of the assets or liabilities; and
|
Level
3
|
-
|
Inputs
that are not based on observable market data.
|
Cash
and cash equivalents are reflected on the consolidated balance
sheets at fair value and classified as Level 1 hierarchy because
measurements are determined using quoted prices in active markets
for identical assets.
Advertising Costs
In
accordance with ASC No. 720, Other Expenses (“ASC
720”), Company expenses all advertising costs as incurred.
During the year ended December 31, 2017, the Company expensed
$261,974 (December 31, 2016 – $315,174) as corporate
promotions which have been recorded as an administrative
expense.
29
Revenue Recognition
The
Company records revenue when the following criteria are met:
persuasive evidence of an arrangement exists; delivery has
occurred; the selling price to the customer is fixed and
determinable; and collectability is reasonably assured. Customers
take delivery at the time of shipment for terms designated free on
board shipping point. For sales designated free on board
destination, customers take delivery when the product is delivered
to the customer's delivery site. Provisions for sales incentives,
product returns, and discounts to customers are recorded as an
offset to revenue in the same period the related revenue is
recorded.
Property and Equipment
Property
and Equipment is measured at cost less accumulated depreciation and
accumulated impairment losses. Costs include expenditures that are
directly attributable to the acquisition of the asset. Gains and
losses on disposal of an item of property and equipment is
determined by comparing the proceeds from disposal with the
carrying amount of the property and equipment which is recognized
in the statement of operations.
Depreciation
is recognized in the statement of operations on a straight-line
basis over the estimated useful lives of each part of an item of
property and equipment, since this most closely reflects the
expected pattern of consumption of the future economic benefits
embodied in the asset.
The
estimated useful lives of the respective assets are as
follows:
Furniture
and equipment:
|
3
years
|
Computer
hardware:
|
3
years
|
Manufacturing
equipment:
|
3
years
|
Depreciation
methods, useful lives and residual values are reviewed at each
financial year-end and adjusted if appropriate.
Inventory
Inventory
consists of finished E-liquid bottles, E-liquid components,
bottles, E-cigarettes and accessories as well as related packaging.
Inventory is stated at the lower of cost as determined by the
first-in, first-out (FIFO) cost method, or market value. The
Company measures inventory write-downs as the difference between
the cost of inventory and market value. At the point of any
inventory write-downs to market, the Company establishes a new,
lower cost basis for that inventory, and any subsequent changes in
facts and circumstances do not result in the restoration of the
former cost basis or increase in that newly established cost
basis.
The
Company reviews sales and returns from the preceding 12 months as
well as future demand forecasts and writes off any excess or
obsolete inventory. The Company also assesses inventory for
obsolescence by testing inventory to ensure they have been properly
stored and maintained so that they will perform according to
specifications. In addition, the Company assesses the market for
competing products to determine if existing inventory will be
competitive in the marketplace.
If
there were to be a sudden and significant decrease in future demand
for the Company’s products, or if there were a higher
incidence of inventory obsolescence because of rapidly changing
technology or customer demands, the Company could be required to
write down inventory, and accordingly, gross margin could be
adversely affected.
Shipping and Handling Costs
The
Company does not record any shipping income. When the Company
charges its customers a cost associated with shipping and handling,
it records that cost in administrative expenses as an offset to the
Company’s shipping expense. During the year ended December
31, 2017, the Company expensed $462,716 (December 31, 2016 –
$341,749) as shipping expense which have been recorded as an
administrative expense.
30
Income Taxes
The
Company follows ASC No. 740-10, Income Taxes (“ASC
740-10”), which requires the recognition of deferred tax
assets and liabilities for the expected future tax consequences of
events that have been included in the consolidated financial
statements or tax returns. Under this method, deferred tax assets
and liabilities are determined based on the difference between
financial statements and tax bases of assets and liabilities using
enacted tax rates in effect for the year in which the differences
are expected to reverse. Temporary differences between taxable
income reported for financial reporting purposes and income tax
purposes include, but are not limited to, accounting for
intangibles, debt discounts associated with convertible debt,
equity based compensation and depreciation and amortization. A
valuation allowance is provided to reduce the deferred tax assets
reported if, based on the weight of available evidence, it is more
likely than not that some portion or all of the deferred tax assets
will not be realized.
Impairment of Long Lived Assets
Long-lived
assets to be held and used by the Company are periodically reviewed
to determine whether any events or changes in circumstances
indicate that the carrying amount of the asset may not be
recoverable. For long-lived assets to be held and used, the Company
bases its evaluation on impairment indicators such as the nature of
the assets, the future economic benefit of the assets, any
historical or future profitability measurements, as well as other
external market conditions or factors that may be present. In the
event that facts and circumstances indicate that the carrying
amount of an asset or asset group may not be recoverable and an
estimate of future undiscounted cash flows is less than the
carrying amount of the asset, an impairment loss will be recognized
for the difference between the carrying value and the fair
value.
Goodwill
Goodwill
represents the excess purchase price over the estimated fair value
of net assets acquired by the Company in business combinations. The
Company accounts for goodwill and intangible assets in accordance
with ASC No. 350, Intangibles-Goodwill and Other
(“ASC 350”). ASC 350 requires that goodwill and other
intangibles with indefinite lives be tested for impairment annually
or on an interim basis if events or circumstances indicate that the
fair value of an asset has decreased below its carrying value. In
addition, ASC 350 requires that goodwill be tested for impairment
at the reporting unit level (operating segment or one level below
an operating segment) on an annual basis and between annual tests
when circumstances indicate that the recoverability of the carrying
amount of goodwill may be in doubt. Application of the goodwill
impairment test requires judgment, including the identification of
reporting units, assigning of assets and liabilities to reporting
units, assigning of goodwill to reporting units, and determining
the fair value. Significant judgments required to estimate the fair
value of reporting units include estimating future cash flows,
determining appropriate discount rates and other assumptions.
Changes in these estimates and assumptions or the occurrence of one
or more confirming events in future periods could cause the actual
results or outcomes to materially differ from such estimates and
could also affect the determination of fair value and/or goodwill
impairment at future reporting dates.
Comprehensive Income or Loss
The
Company reports comprehensive income or loss in its consolidated
financial statements. In addition to items included in net income
or loss, comprehensive income or loss includes items charged or
credited directly to stockholders’ equity, such as foreign
currency translation adjustments and unrealized gains or losses on
available for sale marketable securities.
Use of Estimates
The
preparation of consolidated financial statements in conformity with
U.S. GAAP 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
consolidated financial statements and the reported amounts of
revenue and expenses during the period. Actual results could differ
from these estimates, and such differences could be material. The
key sources of estimation uncertainty at the balance sheet date,
which have a significant risk of causing a material adjustment to
the carrying amounts of assets within the next financial year,
include reserves and write downs of receivables and inventory,
useful lives and impairment of property and equipment, impairment
of goodwill, accruals, valuing stock based compensation, valuing
equity securities, valuing options or convertible debentures and
deferred taxes and related valuation allowances. Certain of the
Company’s estimates could be affected by external conditions,
including those unique to the Company’s industry and general
economic conditions. It is possible that these external factors
could have an effect on the Company’s estimates that could
cause actual results to differ from its estimates. The Company
re-evaluates all of its accounting estimates at least quarterly
based on the conditions and records adjustments when
necessary.
31
Website Development Costs
Under
the provisions of ASC No. 350, Intangibles – Goodwill and Other
(“ASC 350”), the Company capitalizes costs incurred in
the website application and infrastructure development stage.
Capitalized costs are amortized over the estimated useful life of
websites which the Company considers to be five years. Ongoing
website post-implementation cost of operations, including training
and application, will be expensed as incurred.
Convertible Debt Instruments
The
Company accounts for convertible debt instruments when the Company
has determined that the embedded conversion options should not be
bifurcated from their host instruments in accordance with ASC No.
470-20, Debt with Conversion and
Other Options (“ASC 470-20”). The Company
records, when necessary, discounts to convertible notes for the
intrinsic value of conversion options embedded in debt instruments
based upon the differences between the fair value of the underlying
common stock at the commitment date of the note transaction and the
effective conversion price embedded in the note. The Company
amortizes the respective debt discount over the term of the notes,
using the straight-line method, which approximates the effective
interest method. The Company records, when necessary, induced
conversion expense, at the time of conversion for the difference
between the reduced conversion price per share and the original
conversion price per share.
Warrants
The
Company accounts for common stock purchase warrants at fair value
in accordance with ASC No. 815-40, Derivatives and Hedging (“ASC
815-40”). The Black-Scholes option pricing valuation method
is used to determine the fair value of warrants consistent with ASC
No. 718, Compensation –
Stock Compensation (“ASC 718”). Use of this
method requires that the Company make assumptions regarding stock
value, dividend yields, expected term of the warrants and risk free
interest rates.
Stock Issued in Exchange for Services
The
valuation of the Company’s common stock issued in exchange
for services is valued at an estimated fair market value as
determined by the most readily determinable value of either the
stock or services exchanged.
Intangible Assets
On
acquisition, intangible assets, other than goodwill, are initially
recorded at their fair value. Following initial recognition,
intangible assets with a finite life are amortized on a straight
line basis over their useful lives. Useful lives are assessed at
year end.
The
following useful lives are used in the calculation of
amortization:
Brands:
|
|
5
years
|
Customer
relationships:
|
|
5
years
|
Results of Operations – Year ended December 31, 2017 compared
to the year ended December 31, 2016.
Revenue
For the
year ended December 31, 2017, the Company generated $4,600,586 in
sales from E-liquid, vaporizers, E-cigarettes and accessories as
compared to $4,550,793 in sales for the year ended December 31,
2016. During the year ended December 31, 2017, the Company focused
on building international sales in Canada and Europe having
developed and acquired international manufacturing operations,
premium E-liquid brands and distribution. Of the $4,600,586 in
revenue generated for the year ended December 31, 2017, $2,834,353
(62% of total sales) was generated in Europe, $1,067,261 (23% of
total sales) was generated in the United States and $698,972 (15%
of total sales) was generated in Canada, a result of the
Company’s growing internationally operations. Of the
$4,550,793 in revenue generated for the year ended December 31,
2016, $2,596,172 (57% of total sales) was generated in the United
States, $1,904,889 (42% of total sales) was generated in Europe and
$49,732 (1% of total sales) was generated in
Canada.
32
The
Company’s cost of goods sold for the year ended December 31,
2017 was $1,640,684 which represents E-liquid, bottles, hardware
and related packaging as compared to $1,927,657 for the year ended
December 31, 2016. Gross profit for the year ended December 31,
2017 was $2,959,902 with margins of 64% as compared to a gross
profit of $2,623,136 and margins of 58% for the year ended December
31, 2016. The Company’s increased margins during the
comparative period was the result of increased sales of high margin
premium E-liquid Products compared to lower margin sales of generic
E-liquid.
Operating Expenses
For the
year ended December 31, 2017, the Company incurred an
administrative expense of $4,903,460, consulting fees to related
parties of $504,358, depreciation expense of $73,114, amortization
expense of $105,337, bad debt expense of $299,680, stock option
expense of $1,267,867, impairment of fixed asset expense of
$12,228, loss on sale of fixed asset expense of $1,537, impairment
of inventory expense of $245,430, impairment of intangible asset
expense of $70,000, impairment of goodwill expense of $109,444 and
a gain on settlement of $366,664. Total operating expenses for the
year ended December 31, 2017 was $7,225,791.
For the
year ended December 31, 2016, the Company incurred an
administrative expense of $5,305,326, consulting fees to related
parties of $473,149, depreciation expense of $56,055, amortization
expense of $94,000, bad debt expense of $256,280, impairment of
fixed asset expense of $70,142, impairment of inventory expense of
$39,124, impairment of intangible asset expense of $122,983,
impairment of goodwill expense of $208,376, gain on related party
settlement of $9,263, loss on issuance of Common Shares of $28,426
and a gain on settlement of $274,052. Total operating expenses for
the year ended December 31, 2016 was $6,370,547.
Administrative
costs were primarily comprised of rent, legal and audit fees,
marketing fees, travel expenses, consulting fees and employee
wages. The increase in consulting fees to related parties of
$31,209 is mainly attributable to the effects of foreign exchange
translation. Bad debt expense for the year ended December 31, 2017
and 2016 relates to an allowance for uncollected receivables. The
stock option expense of $1,267,867 relates to the adoption of a new
stock option plan during the year ended December 31,
2017.
The
impairment of fixed assets of $12,228 and the impairment of
inventory of $245,430 during the year ended December 31, 2017 is
related to the closing of the Budapest office. The impairment of
fixed assets of $70,142 during the year ended December 31, 2016 is
the result of a write off of manufacturing equipment that was not
in working order and that the Company has been unable to sell. The
impairment of website and inventory recorded for the years ended
December 31, 2016 is due to the write off of website and inventory
obsolescence.
During
the year ended December 31, 2017, the Company determined that the
customer relationships acquired through the acquisition of E Vapor
Labs were impaired due to changes in the marketplace that caused
the Company to move in a direction different from the acquired E
Vapor Labs business that serviced those customers. As a result, the
Company recorded an impairment of intangible assets in the amount
of $70,000. During the year ended December 31, 2017, the Company
tested goodwill for impairment, and as a result, the Company fully
impaired goodwill related to the acquisition of the assets of
VaporLiq in the amount of $109,444 which formerly represented the
value of business acumen and access to key E-liquid brands
acquired. The goodwill has been impaired as it is difficult to
allocate value to VaporLiq business acumen and new purchases of
brands are not due to business acumen acquired from the
acquisition.
33
During
the year ended December 31, 2017, the gain on settlement of
$366,664 is mainly attributable to a settlement entered into with
the vendors of E Vapor Labs to settle amounts owing on the
acquisition.
During
the year ended December 31, 2016, the Company entered into the TMA
Settlement Agreement and recorded a gain on settlement in the
amount of $274,052. Further, the Company tested goodwill and
intangibles acquired though the acquisition of the assets of TMA
and fully impaired such assets in the amount of $208,376 and
$122,983, respectively, which formerly represented the value of The
Mad Alchemist Brands, customer relationships, workforce and
business acumen that was acquired.
Loss from Operations
For the
year ended December 31, 2017, the Company incurred a loss from
operations of $4,265,889 as compared to $3,747,411 for the year
ended December 31, 2016 due to the reasons discussed
above.
Other Expenses
For the
year ended December 31, 2017, total other expenses were $2,490,093
attributable to a foreign exchange loss of $260,751, amortization
of debt discount of $1,231,445 and interest expense of $997,897.
For the year ended December 31, 2016, total other expenses were
$752,795 attributable to a foreign exchange loss of $35,477,
amortization of debt discount of $94,546 and interest expense of
$622,772.
Net Loss and Comprehensive Loss
Net
loss amounted to $6,647,947 for the year ended December 31, 2017
compared to a net loss of $4,500,206 for the year ended December
31, 2015.
Comprehensive
net loss amounted to $6,920,473 for the year ended December 31,
2017 compared to a comprehensive net loss of $4,514,452 for the
year ended December 31, 2016. The change in comprehensive net loss
compared to net loss is due to foreign currency translation
adjustments resulting from the Company’s translation of
financial statements from Canadian Dollars, Euros and Hungarian
Forints to U.S. Dollars.
34
Liquidity and Capital Resources
For the year ended December 31, 2017 compared to the year ended
December 31, 2016
As at
December 31, 2017, the Company had total assets of $4,280,955
(compared to total assets of $2,211,627 at December 31, 2016)
consisting of cash and cash equivalents of $62,292, trade
receivables of $232,386, inventory of $451,318, other current
assets of $175,645, property and equipment of $285,817, website
development of $5,083, intangibles of $691,809 and goodwill of
$2,376,605. The assets of the Company are primarily the result of
the Company’s business operations and acquisitions including
Vape Brands International, Inc. (see “Acquisition of
VBI”).
As at
December 31, 2017, the Company had total liabilities of $10,836,158
(compared to total liabilities of $7,902,537 at December 31, 2016)
consisting of accounts payable of $2,187,712, accrued liabilities
of $419,436, customer deposits of $97,400, loans from shareholders
of $257,303, due to related parties of $252,841, promissory notes
of $498,522, amounts owing on acquisition of $538,952, Convertible
Debentures of $277,149, Term Loan of $1,051,334, long term
promissory notes of $346,002, long term amounts owing on
acquisitions of $1,364,274, long term loans from shareholders of
$794,635, long term due to related parties of $2,281,773 and long
term accrued interest due to related parties of $468,825. For more
information regarding the liabilities of the Company, see
“Shareholder
Loans”, “Term
Loan”, “Promissory Notes” and
“Convertible
Debentures”.
At
December 31, 2017, the Company had negative working capital of
$4,659,008 and an accumulated deficit of $19,898,841.
As at
December 31, 2016, the Company had total assets of $2,211,627
consisting of cash and cash equivalents of $184,754, trade
receivables of $80,409, inventory of $545,135, other current assets
of $251,381, property and equipment of $93,068, website development
of $7,083, intangibles of $160,300 and goodwill of
$889,497.
As at
December 31, 2016, the Company had total liabilities of $7,902,537
consisting of accounts payable of $1,740,071, accrued liabilities
of $404,633, accrued interest due to related parties of $263,790,
customer deposits of $56,834, loans from shareholders of $429,708,
due to related parties of $1,478,883, promissory notes of $17,750,
amounts owing on acquisition of $838,317, Term Loan of $1,031,300 ,
long term loans from shareholders of $471,641, long term due to
related parties of $1,085,906 and Convertible Debentures of
$83,704.
At
December 31, 2016, the Company had negative working capital of
$5,199,607 and an accumulated deficit of $13,250,894.
Net cash used in operating activities
For the
year ended December 31, 2017, the Company used cash of $1,898,335
(December 31, 2016 –$1,939,969) in operating activities to
fund administrative, marketing and sales. The decrease is
attributable to the results of operations and changes in the
operating assets and liabilities as discussed above.
Net cash used in investing activities
For the
year ended December 31, 2017, net cash used in investing activities
was $63,145 attributable to the addition of capital assets
(December 31, 2016 – $78,841).
Net cash flow from financing activities
For the
year ended December 31, 2017, net cash provided by financing
activities was $2,020,402 compared to net cash provided by
financing activities of $2,061,414 for the year ended December 31,
2016. Net cash provided by financing activities for the year ended
December 31, 2017 was primarily attributable to the net proceeds
from the private placement, net proceeds from the promissory notes
and net proceeds from the Shareholder Loan (see “Shareholder Loan”).
35
Acquisition of VBI
On July
31, 2017, the Company’s wholly owned subsidiary, Gilla
Enterprises, acquired all of the issued and outstanding shares of
VBI, a Canada-based E-liquid manufacturer and
distributor.
The
following summarizes the preliminary fair value of the assets
acquired, liabilities assumed and the consideration transferred at
the acquisition date:
Assets acquired:
|
Preliminary Allocation
|
Cash
|
$1,377
|
Receivables
|
5,576
|
Other
current assets
|
74,598
|
Inventory
|
83,820
|
Fixed
assets
|
214,765
|
Intangible
assets
|
704,846
|
Goodwill
|
1,596,553
|
Total assets acquired
|
$2,681,535
|
|
|
Liabilities assumed:
|
|
Bank
indebtedness
|
$5,597
|
Accounts
payable
|
218,028
|
Customer
deposits
|
33,008
|
Loans
payable
|
112,218
|
Capital
lease
|
125,893
|
Due
to related parties
|
15,707
|
Deferred
tax liability
|
186,793
|
Total liabilities assumed
|
$697,244
|
|
|
Consideration:
|
|
Issuance
of Common Shares
|
$350,000
|
Issuance
of warrants
|
252,631
|
Vendor
Take Back
|
356,443
|
Earn
out
|
1,025,217
|
Total consideration
|
$1,984,291
|
In
consideration for the acquisition, the Company paid to the vendors
of VBI the following consideration: (i) 2,500,000 Common Shares of
the Company valued at $0.14 per share for a total value of
$350,000; (ii) warrants for the purchase of 2,000,000 Common Shares
of the Company exercisable over twenty-four (24) months at an
exercise price of $0.20 per share from the closing date, such
warrants vesting in five (5) equal tranches every four (4) months
following the closing date; (iii) a total of CAD $550,000 in
non-interest bearing, unsecured vendor-take-back loans (the
“VTB”) due over twenty-four (24) months, with principal
repayments beginning five (5) months from the closing date until
maturity of up to CAD $25,000 per month; and (iv) an earn-out (the
“Earn-Out”) capped at: (a) the total cumulative amount
of CAD $2,000,000; or (b) five (5) years from the closing date. The
Earn-Out shall be calculated as: (x) 15% of the gross profit
generated in Canada by VBI’s co-pack and distribution
business; (y) 10% of the revenue generated in Canada by
Gilla’s existing E-liquid brands; and (z) 15% of the revenue
generated globally on VBI’s existing E-liquid brands.
Furthermore, the Earn-Out shall be calculated and paid to the
vendors of VBI quarterly in arrears and only as 50% of the
aforementioned amounts on incremental revenue between CAD $300,000
and CAD $600,000 per quarter and 100% of the aforementioned amounts
on incremental revenue above CAD $600,000 per quarter with the
Earn-Out payable to the vendors in the fifth year repeated and paid
to the vendors in four (4) quarterly payments after the end of the
Earn-Out period, subject to the cumulative limit of the Earn-Out.
No Earn-Out shall be payable to the vendors of VBI if total revenue
for the Earn-Out calculation period is less than CAD $300,000 per
quarter. A 15% discount rate has been used to calculate the present
value of the Earn-Out on the Company’s estimate of cost of
financing for comparable instruments with similar term and risk
profiles. Over the term of the respective Earn-Out, interest will
be accrued at 15% per annum to accrete the Earn-Out to maximum
payable amount.
36
|
Total
|
Present
value of Earn-Out at the acquisition date
|
$1,025,217
|
Interest
expense related to accretion
|
59,110
|
Exchange
rate differences
|
(3,015)
|
Less:
Current amount owing
|
(209,487)
|
Present value at December 31, 2017
|
$871,825
|
A 15%
discount rate has been used to calculate the present value of the
VTB based on the Company’s estimate of cost of financing for
comparable instruments with similar term and risk profiles. Over
the term of the VTB, interest will be accrued at 15% per annum to
accrete the VTB to its respective principal amount.
|
Total
|
|
Present
value of the VTB at the acquisition date
|
$356,443
|
|
Interest
expense related to accretion
|
26,681
|
|
Exchange
rate differences
|
(7,177)
|
|
Less:
Current amount owing
|
(154,465)
|
|
Long term portion at December 31, 2017
|
$221,482
|
|
The
results of operations of VBI have been included in the consolidated
statements of operations from the acquisition date. The following
table presents pro forma results of operations of the Company and
VBI as if the companies had been combined as of January 1, 2016.
The unaudited condensed combined pro forma information is presented
for informational purposes only. The unaudited pro forma results of
operations are not necessarily indicative of results that would
have occurred had the acquisition taken place at the beginning of
the earliest period presented, or of future results.
|
December 31,
2017
|
December
31,
2016
|
Pro
forma revenue
|
$5,564,473
|
$5,984,345
|
Pro
forma loss from operations
|
$4,539,534
|
$3,816,691
|
Pro
forma net loss
|
$7,034,982
|
$4,522,221
|
Shareholder Loans
The
Company has outstanding current loans from shareholders as
follows:
|
December 31,
2017
|
December
31,
2016
|
Non-interest bearing, unsecured, no specific terms
of repayment(i)
|
$-
|
$5,000
|
Bears interest of 1.5% per month on a cumulative
basis, unsecured, no specific terms of repayment(ii)
|
13,116
|
23,223
|
Bears interest of 6% per annum on a cumulative
basis, secured by the assets of the Company, matures on March 2,
2018(v)
|
244,187
|
401,485
|
|
$257,303
|
$429,708
|
37
The
Company has outstanding long term loans from shareholders as
follows:
|
December 31,
2017
|
December
31,
2016
|
Bears interest of 10% per annum on a cumulative
basis, secured by the assets of the Company, matures on April 30,
2019(iii)
|
$351,679
|
$350,962
|
Bears interest of 10% per annum on a cumulative
basis, secured by the assets of the Company, matures on April 30,
2019(iv)
|
90,828
|
95,728
|
Bears interest of 10% per annum on a cumulative
basis, secured by the assets of the Company, matures on April 30,
2019(vi)
|
144,611
|
-
|
Bears interest of 10% per annum on a cumulative
basis, secured by the assets of the Company, matures on April 30,
2019(vii)
|
207,517
|
-
|
Bears interest of 6% per annum on a cumulative
basis, secured by the assets of the Company, matures on March 2,
2018(v)
|
-
|
24,951
|
|
$794,635
|
$471,641
|
(i)
During the year
ended December 31, 2017, amounts owing to a shareholder increased
from $5,000 to $22,692 which was then fully settled through the
issuance of 226,920 private placement units at a price of $0.10 per
unit. Each unit consisted of one Common Share and a half Common
Share purchase warrant exercisable over twelve months at an
exercise price of $0.20 per share.
(ii)
During the year
ended December 31, 2017, the Company accrued interest of $5,621 on
this shareholder loan (December 31, 2016 – $5,992). Total
accrued interest owing on such shareholder loan at December 31,
2017 was $19,341 (December 31, 2016 – $12,784) which is
included in accrued liabilities. During the year ended December 31,
2017, $10,000 of amounts owing on such shareholder loan was settled
with the issuance of face value $10,000 of Convertible Debentures
Series C-3 and $3,512 was settled with cash.
(iii)
On February 13,
2014, the Company entered into a secured promissory note (the
“Secured Note”) with a shareholder, whereby the Company
agreed to pay the party the aggregate unpaid principal amount of
CAD $500,000 on or before August 13, 2014, bearing interest at a
rate of 10% per annum, such interest to accrue monthly and added to
the principal. The Secured Note is secured by a general security
agreement granting a general security interest over all the assets
of the Company. During the years ended December 31, 2014 and 2015,
the Company and the shareholder extended the maturity date of the
Secured Note to January 1, 2016 and July 1, 2017, respectively.
During the years ended December 31, 2016 and 2017, the Company and
the shareholder extended the maturity date of the Secured Note to
July 1, 2018 and April 30, 2019, respectively. In connection to the
maturity date extensions, the Company issued warrants for the
purchase of Common Shares. The relative fair value of the warrants
issued were recorded as debt discount to be amortized over the life
of the loan. At December 31, 2017, the value of the Secured Note
was $351,679 (December 31, 2016 – $350,962) including a debt
discount of $46,871. During the years ended December 31, 2017 and
2016, the Company expensed $15,531 and $15,178, respectively, in
interest expense related to the amortization of the debt discount.
The amendments to the Secured Note were accounted for as a
modification of debt and no gain or loss was recognized on the
amendments.
During
the year ended December 31, 2017, the Company accrued interest of
$51,805 on the Secured Note (December 31, 2016 – $44,888).
Total accrued interest owing on the Secured Note at December 31,
2017 was $151,948 (December 31, 2016 – $93,221) which is
included in accrued liabilities.
(iv)
On July 15, 2014,
the Company entered into a secured promissory note (the
“Secured Note No.2”) with a shareholder, whereby the
Company agreed to pay the party the aggregate unpaid principal
amount of $100,000 on or before July 18, 2014, bearing interest at
a rate of 10% per annum, such interest to accrue monthly and added
to the principal. The Secured Note No.2 is secured by the general
security agreement issued with the Secured Note. During the years
ended December 31, 2014 and 2015, the Company and the shareholder
extended the maturity date of the Secured Note No.2 to January 1,
2016 and July 1, 2017, respectively. During the years ended
December 31, 2016 and 2017, the Company and the shareholder
extended the maturity date of the Secured Note No.2 to July 1, 2018
and April 30, 2019, respectively. In connection to the maturity
date extensions, the Company issued warrants for the purchase of
Common Shares. The relative fair value of the warrants issued were
recorded as debt discount to be amortized over the life of the
loan. At December 31, 2017, the value of the Secured Note No.2 was
$90,828 including a debt discount of $9,172 (December 31, 2016
– $95,728). During the years ended December 31, 2017 and
2016, the Company expensed $3,292 and $3,052, respectively, in
interest expense related to the amortization of the debt discount.
The amendments to the Secured Note were accounted for as a
modification of debt and no gain or loss was recognized on the
amendments.
During
the year ended December 31, 2017, the Company accrued interest of
$13,105 on the Secured Note No.2 (December 31, 2016 –
$11,863). Total accrued interest owing on the Secured Note No.2 at
December 31, 2017 was $38,257 (December 31, 2016 – $25,152)
which is included in accrued liabilities.
38
(v)
On March 2, 2016,
the Company entered into a loan agreement (the “Loan
Agreement”) with a shareholder, whereby the shareholder would
make available to the Company the aggregate principal amount of CAD
$670,000 (the “Shareholder Loan”) for capital
expenditures, marketing expenditures and working capital. Under the
terms of the Loan Agreement, the Shareholder Loan was made
available to the Company in two equal tranches of CAD $335,000, for
a total loan amount of CAD $670,000, with the first tranche
(“Loan Tranche A”) received on March 3, 2016 and the
second tranche (“Loan Tranche B”) received on April 14,
2016. At December 31, 2016, CAD $52,000 of the Loan Tranche B was
being held in trust by the shareholder to be released on the
incurrence of specific expenses. The Shareholder Loan bears
interest at a rate of 6% per annum, on the outstanding principal,
and shall mature on March 2, 2018, whereby any outstanding
principal together with all accrued and unpaid interest thereon
shall be due and payable. The Company shall also repay 5% of the
initial principal amount of Loan Tranche A and 5% of Loan Tranche
B, monthly in arrears, with the first principal repayment beginning
on June 30, 2016. The Company may elect to repay the outstanding
principal of the Shareholder Loan together with all accrued and
unpaid interest thereon prior to maturity without premium or
penalty. The Company also agreed to service the Shareholder Loan
during the term prior to making any payments to the Company’s
Chief Executive Officer, Chief Financial Officer and Board of
Directors. The Shareholder Loan is secured by a general security
agreement granting a general security interest over all the assets
of the Company. On March 2, 2016 and in connection to the Loan
Agreement, the Company issued warrants for the purchase of
1,000,000 Common Shares exercisable until March 2, 2018 at an
exerciseprice of $0.20 per share. The warrants shall vest in two
equal tranches, with 500,000 warrants to vest upon the close of
Loan Tranche A and the remaining 500,000 warrants to vest upon the
close of Loan Tranche B. On March 3, 2016 and April 14, 2016, the
Company closed Loan Tranche A and Loan Tranche B, respectively, at
which dates the warrants became fully vested and exercisable. The
relative fair value of the warrants issued were recorded as debt
discount to be amortized over the life of the loan. At December 31,
2017, the value of the Shareholder Loan was $244,187 (December 31,
2016 – $401,485) including a debt discount of $10,885. During
the years ended December 31, 2017 and 2016, the Company expensed
$61,695 and $55,920, respectively, in interest expense related to
the amortization of the debt discount. During the year ended
December 31, 2017, CAD $350,000 of the Shareholder Loan was assumed
by a separate shareholder.
During
the year ended December 31, 2017, the Company accrued interest of
$31,510 on the Shareholder Loan (December 31, 2016 –
$22,832). Total accrued interest owing on the Shareholder Loan at
December 31, 2017 was $53,941 (December 31, 2016 – $23,433)
which is included in accrued liabilities. At December 31, 2017, the
Company owes the shareholder $255,072 in principal payments
(December 31, 2016 - $174,656).
(vi)
On January 12,
2017, the Company entered into a bridge loan agreement (the
“Bridge Loan Agreement”) with a shareholder, whereby
the shareholder would make available to the Company the aggregate
principal amount of CAD $200,000 (the “Bridge Loan”) in
two equal tranches of CAD $100,000. The Company received the first
tranche on January 12, 2017 (“Bridge Loan Note A”) and
the second tranche on January 18, 2017 (“Bridge Loan Note
B”). The Bridge Loan is non-interest bearing and matured on
March 12, 2017. Pursuant to the terms of the Bridge Loan Agreement,
the shareholder received a 5% upfront fee upon the closing of
Bridge Loan Note A and a 5% upfront fee upon the closing of Bridge
Loan Note B. The Bridge Loan is secured by the general security
agreement issued in connection to the Secured Note. On January 12,
2017 and in connection to the Bridge Loan Agreement, the Company
issued warrants for the purchase of 50,000 Common Shares
exercisable until January 11, 2018 at an exercise price of $0.20
per share, with 25,000 warrants to vest upon the closing of Bridge
Loan Note A and the remaining 25,000 warrants vest upon the closing
of Bridge Loan Note B. On January 12,2017 and January 18, 2017, the
Company closed Bridge Loan Note A and Bridge Loan Note B,
respectively, at which dates the warrants became fully vested and
exercisable. During the year ended December 31, 2017, the Company
and the shareholder extended the maturity date of Bridge Loan to
April 30, 2019 and, commencing on November 15, 2017, the Company
began accruing interest at a rate of 10% per annum. In connection
to the amendment, the Company issued warrants for the purchase of
Common Shares. The relative fair value of the warrants issued were
recorded as debt discount to be amortized over the life of the
loan. At December 31, 2017, the value of the Bridge Loan was
$144,611 including a debt discount of $14,808 (December 31, 2016
– $nil). During the years ended December 31, 2017 and 2016,
the Company expensed $1,576 and $nil, respectively, in interest
expense related to the amortization of the debt discount. The
amendment to the Bridge Loan was accounted for as a modification of
debt and no gain or loss was recognized on the
amendments.
39
During
the year ended December 31, 2017, the Company accrued interest of
$1,998 on the Bridge Loan (December 31, 2016 – $nil). Total
accrued interest owing on the Bridge Loan at December 31, 2017 was
$1,998 (December 31, 2016 – $nil) which is included in
accrued liabilities.
(vii)
On November 15,
2017, CAD $350,000 of the Shareholder Loan was assumed by a
separate shareholder (the “Shareholder Loan No.2”).
Upon assumption of the Shareholder Loan No.2, CAD $52,000 (USD
$41,449) was offset by the amount held in trust by the shareholder
under the Shareholder Loan and CAD $11,000 (USD $8,769) was
forgiven by the shareholder. During the year ended December 31,
2017 and as a result of the loan forgiveness, the Company recorded
a gain on loan settlement in the amount of $8,221 and the principal
amount due under the Shareholder Loan No.2 was CAD $287,000. The
Company agreed to repay the unpaid principal amount of the
Shareholder Loan No.2 on or before April 30, 2019, bearing interest
at a rate of 10% per annum, such interest to accrue monthly and due
at maturity. In connection to the amendment, the Company issued
warrants for the purchase of Common Shares. The relative fair value
of the warrants issued were recorded as debt discount to be
amortized over the life of the loan. At December 31, 2017, the
value of the Shareholder Loan No.2 was $207,517 including a debt
discount of $21,251 (December 31, 2016 – $nil). During the
years ended December 31, 2017 and 2016, the Company expensed $2,262
and $nil, respectively, in interest expense related to the
amortization of the debt discount.
During
the year ended December 31, 2017, the Company accrued interest of
$2,868 on the Shareholder Loan No.2 (December 31, 2016 –
$nil). Total accrued interest owing on the Shareholder Loan No.2 at
December 31, 2017 was $2,868 (December 31, 2016 – $nil) which
is included in accrued liabilities.
Term Loan
On
January 18, 2016, the Company entered into a term loan (the
“Term Loan”) with the Lenders, whereby the Lenders
would loan the Company the aggregate principal amount of CAD
$1,000,000 for capital expenditures, marketing expenditures and
working capital. The agent who arranged the Term Loan was not a
related party of the Company. The Term Loan bears interest at a
rate of 16% per annum, on the outstanding principal, and was to
mature on July 3, 2017, whereby any outstanding principal together
with all accrued and unpaid interest thereon shall be due and
payable. The Term Loan is secured the intercreditor and
subordination agreement as well as the security agreement issued in
connection to the Credit Facility. The Term Loan is subject to a
monthly cash sweep, calculated as the total of (i) CAD $0.50 for
every E-liquid bottle, smaller than 15 ml, sold by the Company
within a monthly period; and (ii) CAD $1.00 for every E-liquid
bottle, greater than 15 ml, sold by the Company within a monthly
period (the “Cash Sweep”). The Cash Sweep will be
disbursed to the Lenders in the following priority: first, to pay
the monthly interest due on the Term Loan; and second, to repay any
remaining principal outstanding on the Term Loan. The Company may
elect to repay the outstanding principalof the Term Loan together
with all accrued and unpaid interest thereon prior to the maturity,
subject to an early repayment penalty of the maximum of (i) 3
months interest on the outstanding principal; or (ii) 50% of the
interest payable on the outstanding principal until maturity (the
“Early Repayment Penalty”). The Term Loan shall be
immediately due and payable at the option of the Lenders if there
is a change in key personnel meaning the Company’s current
Chief Executive Officer and Chief Financial Officer. On January 18,
2016 and in connection to the Term Loan, the Company issued
warrants for the purchase of 250,000 Common Shares exercisable
until December 31, 2017 at an exercise price of $0.20 per share. In
addition, the Company also extended the expiration date of the
250,000 warrants issued on August 1, 2014 in connection with the
Credit Facility until December 31, 2017, with all other terms of
the warrants remaining the same. The relative fair value of the
warrants issued were recorded as debt discount to be amortized over
the life of the loan.
The
Company’s Chief Executive Officer and Chief Financial Officer
are both participants of the consortium of Lenders of the Term
Loan, each having committed to provide ten percent of the principal
amount of the Term Loan. Neither the Chief Executive Officer nor
the Chief Financial Officer participated in the warrants issued or
warrants extended in connection with the Term Loan and both parties
have appropriately abstained from voting on the Board of Directors
to approve the Term Loan, where applicable.
On July
15, 2016, the Company and the Lenders of the Term Loan entered into
a term loan amendment (the “Term Loan Amendment”) in
which the Lenders agreed to extend to the Company an additional CAD
$600,000 in principal to increase the Term Loan facility up to the
aggregate principal amount of CAD $1,600,000. The parties also
extended the maturity date of the Term Loan to July 2, 2018 with
all other terms of the Term Loan remaining the same. The
Company’s Chief Executive Officer and its Chief Financial
Officer are both participants in the consortium of Lenders having
each committed to provide a total of CAD $150,000 of the initial
principal of the Term Loan and the additional principal of the Term
Loan pursuant to the Term Loan Amendment.
40
On July
15, 2016 and in connection to the Term Loan Amendment, the Company
issued warrants for the purchase of 300,000 Common Shares
exercisable until December 31, 2018 at an exercise price of $0.20
per share. The Company also extended the expiration dates of: (i)
the warrants for the purchase of 250,000 Common Shares issued on
January 18, 2016 in connection to the Term Loan; and (ii) the
warrants for the purchase of 250,000 Common Shares issued on August
1, 2014 and extended on January 18, 2016 in connection to the Term
Loan, both until December 31, 2018, with all other terms of the
warrants remaining the same. The relative fair value of the
warrants issued were recorded as debt discount to be amortized over
the life of the loan.
During
the year ended December 31, 2016, the Company was advanced CAD
$1,600,000 from the Term Loan including the CAD $294,000 and CAD
$3,093 rolled in from the Credit Facility as well as CAD $240,581
of advances from the Company’s Chief Executive Officer and
Chief Financial Officer.
On
February 27, 2017, the Company and the Lenders of the Term Loan
entered into a term loan amendment (the “Term Loan Amendment
No.2”) to amend certain terms and conditions of the Term
Loan. Pursuant to the Term Loan Amendment No.2, the parties agreed
to modify the Cash Sweep to be calculated as the total of CAD
$0.01667 per ml of E-liquid sold by the Company within a monthly
period, such modification to be retroactively applied as of January
1, 2017. The Lenders also agreed to cancel the Early Repayment
Penalty and waive any interest payment penalties due under the Term
Loan. On February 27, 2017 and in connection to the Term Loan
Amendment No.2, the Company agreed to issue 500,000 private
placement units at a price of $0.10 per unit as a settlement of
financing fees with a relative fair value of $48,485. Each unit
consisted of one Common Share and a half Common Share purchase
warrant exercisable over twelve months at an exercise price of
$0.20 per share. On April 4, 2017, the Company issued the 500,000
units. The Company’s Chief Executive Officer and its Chief
Financial Officer received a total of 93,622 units which included
93,622 Common Shares and warrants for the purchase of 46,811 Common
Shares. The Term Loan Amendment No.2 was accounted for as a
modification of debt and no gain or loss was recognized on the
amendment.
The
relative fair value of the warrants issued in relation to the Term
Loan and Term Loan amendments were recorded as debt discount to be
amortized over the life of the loan. At December 31, 2017, the
value of the Term Loan was $1,051,334 including a debt discount of
$48,485 (December 31, 2016 – $1,031,300). During the years
ended December 31, 2017 and 2016, the Company expensed $92,754 and
$62,210, respectively, in interest expense related to the
amortization of the debt discount. Neither the Chief Executive
Officer nor the Chief Financial Officer participated in the
warrants issued or warrants extended in connection with the Term
Loan Amendment.
During
the year ended December 31, 2017, the Company expensed $173,035 in
interest on the Term Loan (December 31, 2016 – $140,540).
Pursuant to the Cash Sweep, during the year ended December 31,
2017, the Company paid a total of $281,413 to the Lenders
consisting of $195,347 in interest and $88,066 in principal
repayments. During the year ended December 31, 2016, the Company
paid a total of $187,898 to the Lenders consisting of $111,083 in
interest and $76,815 in principal payments. At December 31, 2017,
the Company owes the Lenders a payment of $18,840, consisting fully
of interest which was paid to the Lenders on January 24, 2018 as
per the terms of the Cash Sweep (December 31, 2016 - $81,060,
consisting of $29,471 in interest and $51,589 in principal
repayments).
The
amount owing on the Term Loan is as follows:
|
December 31,
2017
|
December
31,
2016
|
Opening
balance/amount advanced
|
$1,144,337
|
$1,219,840
|
Debt
discount (net)
|
(68,768)
|
(113,037)
|
Exchange
loss (gain) during the period/year
|
86,143
|
(28,159)
|
Principal
payments made
|
(88,066)
|
(76,815)
|
Interest
accrued
|
173,035
|
140,540
|
Interest
payments made
|
(195,347)
|
(111,069)
|
Ending
balance
|
$1,051,334
|
$1,031,300
|
41
Promissory Notes
The
Company has outstanding current promissory notes as
follows:
|
December 31,
2017
|
December
31,
2016
|
|
|
|
Unsecured, bears interest at 15% per annum,
matures February 18, 2019(i)
|
$230,109
|
$-
|
Unsecured, bears interest at 18% per annum,
matures June 19, 2019(iii)
|
30,000
|
-
|
Unsecured, bears interest at 10% per annum,
matures September 28, 2017(v)
|
-
|
17,750
|
Secured, bears interest at RBP + 2% per annum, due
on demand(vi)
|
39,855
|
-
|
Secured, bears interest at RBP + 3% per annum, due
on demand(vii)
|
64,774
|
-
|
Lease agreement, bears interest at 4.7% per annum,
matures October 13, 2023(viii)
|
23,441
|
-
|
Unsecured, interest free, matures October 29,
2017(ix)
|
7,971
|
|
Secured, bears interest at 24%, matures March 6,
2018 (x)
|
102,372
|
|
|
$498,522
|
$17,750
|
The
Company has outstanding long term promissory notes as
follows:
|
December 31,
2017
|
December
31,
2016
|
Unsecured, bears interest at 15% per annum,
matures February 18, 2019(ii)
|
$234,034
|
$-
|
Unsecured, bears interest at 18% per annum,
matures June 19, 2019(iii)
|
17,500
|
-
|
Lease agreement, bears interest at 4.7% per annum,
matures October 13, 2023(viii)
|
94,468
|
-
|
|
$346,002
|
$-
|
(i)
On October 12,
2017, the Company issued an unsecured promissory note in the
principal amount of CAD $300,000. The promissory note matures on
April 12, 2018 and bears interest at a rate of 15% per annum,
accrued monthly and due at maturity. In connection to the
promissory note, the Company issued warrants for the purchase of
100,000 Common Shares of the Company exercisable at $0.20 per share
until April 11, 2019. The relative fair value of the warrants
issued were recorded as a debt discount to be amortized over the
life of the loan. During the years ended December 31, 2017 and
2016, the Company expensed $2,212 and $nil, respectively, in
interest expense related to the amortization of the debt discount.
During the year ended December 31, 2017, the Company accrued $7,689
in interest on the promissory note which has been recorded in
accrued liabilities (December 31, 2016 – $nil). At December
31, 2017, the value of the promissory note was $230,109 inclusive
of a debt discount of $9,021 (December 31, 2016 – $nil). As
of the filing of these financial statements this note is currently
in default.
(ii)
On August 18, 2017,
the Company issued an unsecured promissory note in the principal
amount of CAD 300,000. The promissory note matures on February 18,
2019 and bears interest at a rate of 15% per annum, paid monthly in
arrears with interest payments beginning on March 18, 2018. The
interest accrued for the initial seven (7) months shall be due at
maturity. In connection to the promissory note, the Company issued
warrants for the purchase of 150,000 Common Shares of the Company
exercisable at $0.20 per share until February 18, 2019. The
relative fair value of the warrants issued were recorded as a debt
discount to be amortized over the life of the loan. During the
years ended December 31, 2017 and 2016, the Company expensed $3,765
and $nil, respectively, in interest expense related to the
amortization of the debt discount. During the year ended December
31, 2017, the Company accrued $13,264 in interest on the promissory
note which has been recorded in accrued liabilities (December 31,
2016 – $nil). At December 31, 2017, the value of the
promissory note was $234,034 inclusive of a debt discount of $5,096
(December 31, 2016 – $nil).
42
(iii)
On June 30, 2017,
the Company issued an unsecured promissory note in the principal
amount of $60,000. The principal together with interest at a rate
of 18% per annum is payable in monthly instalments of $3,400 with
the first payment due on July 19, 2017 and the final payment due on
June 19, 2019. In the event of default, by way of any missed
payment under the promissory note and not cured for a period of 15
days, at the option of the holder, the entire unpaid principal
amount outstanding would become due and payable. During the year
ended December 31, 2017, the Company paid $4,500 in interest on the
promissory note (December 31, 2016 – $nil). At December 31,
2017, $30,000 in principal on the promissory note has been
classified as a current liability and $17,500 has been classified
as a long term liability on the Company’s consolidated
balance sheet.
(iv)
On April 20, 2017,
the Company issued an unsecured promissory note in the principal
amount of $20,000. The principal together with interest at a rate
of 10% over the term of the promissory note is payable in monthly
instalments of $2,750 with the first payment due on May 15, 2017
and the final payment due on December 15, 2017. In the event of
default, by way of any missed payment under the promissory note and
not cured for a period of 15 days, at the option of the holder, the
entire unpaid principal amount outstanding would become due and
payable. During the year ended December 31, 2017, the Company paid
$2,000 in interest on the promissory note (December 31, 2016
– $nil). The unsecured promissory note was fully settled and
repaid at December 31, 2017.
(v)
On September 28,
2016, the Company issued an unsecured promissory note in the
principal amount of $21,000. The principal together with interest
at a rate of 10% per annum is payable in monthly instalments of
$2,000 with the first payment due on October 28, 2016 and the final
payment due on September 28, 2017. In the event of default, by way
of any missed payment under the promissory note and not cured for a
period of 15 days, at the option of the holder, the entire unpaid
principal amount outstanding would become due and payable. During
the year ended December 31, 2017, the Company paid $1,350 in
interest on the promissory note (December 31, 2016 – $750).
The unsecured promissory note was fully settled and repaid at
December 31, 2017.
(vi)
On July 18, 2016,
VBI entered into a revolving credit facility with The Royal Bank of
Canada (“RBC”) for CAD $50,000. The facility is secured
by the assets of VBI, due on demand and bears interest at a rate of
RBC Prime (“RBP”) + 2%. Interest is payable monthly in
arrears. During the year ended December 31, 2017, the Company paid
$835 in interest on the facility (December 31, 2016 – $nil).
At December 31, 2017, $39,855 in principal remains owing on the
facility.
(vii)
On July 18, 2016,
VBI entered into a credit facility with RBC for CAD $106,000. The
facility is secured by the assets of VBI, due on demand and bears
interest at the rate of RBP + 3%, maturing on July 18, 2021.
Interest is payable monthly in arrears and the Company is required
to make monthly principal payments of CAD $1,416. During the year
ended December 31, 2017, the Company paid $1,712 in interest and
made principal repayments of $8,835 on the facility (December 31,
2016 – $nil and $nil, respectively). At December 31, 2017,
$64,774 in principal remains owing on the facility.
(viii)
On October 13,
2016, VBI entered into a capital lease agreement with RBC for the
lease of manufacturing equipment in the amount of CAD $175,132.
Under the lease agreement, the Company is required to make monthly
payments of interest and principal to RBC in the amount of CAD
$2,451, the lease matures on October 13, 2023. During the year
ended December 31, 2017, the Company paid $2,041 in interest and
made principal repayments of $7,725 on the facility (December 31,
2016 – $nil and $nil, respectively). At December 31, 2017, a
total of $117,909 in principal remains payable under the lease with
$23,441 being allocated to current liabilities and $94,468 being
allocated to long term liabilities on the consolidated balance
sheet.
(ix)
On closing of the
VBI acquisition, VBI had an amount owing to a vendor of VBI in the
principal amount of CAD $20,000. Pursuant to the share purchase
agreement, the Company agreed to repay the loan to the vendor with
two (2) payments of CAD $5,000, payable thirty (30) and sixty (60)
days after the closing and a final payment of CAD $10,000 due
ninety (90) days after the closing. The loan is unsecured and
interest free. During the year ended December 31, 2017, the Company
repaid CAD $10,000 (USD $7,971) in principal on the loan (December
31, 2016 – $nil). At December 31, 2017, the loan was in
default and CAD $10,000 (USD $7,971) in principal remained
outstanding which subsequently repaid in January 2018.
43
(x)
On December 7,
2017, the Company entered into a revolving credit facility (the
“Revolving Facility”) in the aggregate principal amount
of CAD $200,000. The Revolving Facility is secured by certain
inventory and receivables of the Company, due March 6, 2018 with an
option to extend and bears interest at a rate of 24% per annum
payable monthly in arrears. The Revolving Facility is also subject
to a standby fee with respect to the unused portion of the
facility, calculated on a daily basis as being the difference
between the CAD $200,000 revolving limit and the then outstanding
advances, multiplied by 3% and divided by 365 and payable in
arrears on the last day of each month. During the year ended
December 31, 2017, the Company received $100,000 in advances under
the Revolving Facility. During the year ended December 31, 2017,
the Company accrued $1,616 in interest and $113 in standby fees on
the Revolving Facility (December 31, 2016 – $nil and $nil,
respectively). At December 31, 2017, $102,372 in principal remains
owing on the Revolving Facility.
Convertible Debentures
On
April 30, 2017 and pursuant to the terms of the Convertible
Debentures Series B, the Company sent notices of its election to
convert $423,000 in face value and $45,058 in accrued interest to
holders of Convertible Debentures Series B at $0.10 per share for a
total of 4,680,581 Common Shares of the Company. As a result of
these conversions, the Company recorded a debt discount in the
amount of $342,399. The above amount included the conversion of
$286,000 in face value and $30,465 in accrued interest held by
related parties of the Company.
On
April 30, 2017 and pursuant to the terms of the Convertible
Debentures Series C, the Company sent notices of its election to
convert $190,000 in face value and $14,367 in accrued interest to
holders of Convertible Debentures Series C at $0.10 per share for a
total of 2,043,670 Common Shares of the Company. As a result of
these conversions, the Company recorded a debt discount in the
amount of $168,798. The above amount included the conversion of
$5,000 in face value and $378 in accrued interest held by related
parties of the Company.
On
December 29, 2017 and pursuant to the terms of the Convertible
Debentures Series C, the Company converted $425,000 in face value
and $37,184 in accrued interest to holders of Convertible
Debentures Series C at $0.10 per share for a total of 4,621,836
Common Shares of the Company. As a result of these conversions, the
Company recorded a debt discount in the amount of $119,172. The
above amount included the conversion of $130,000 in face value and
$13,264 in accrued interest held by related parties of the
Company.
As at
December 31, 2017, face value $227,000 of Convertible Debentures
Series B and face value $110,000 of Convertible Debentures Series C
remain owing to their respective debenture holders.
Satisfaction of Our Cash Obligations for the Next 12
Months
These
consolidated 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. As
shown in these consolidated financial statements, at December 31,
2017, the Company has an accumulated deficit of $19,898,841
(December 31, 2016 – $13,250,894) and a working capital
deficiency of $4,659,008 (December 31, 2016 – $5,199,607 as
well as negative cash flows from operating activities of $1,898,335
(December 31, 2016 – $1,939,969) for the year ended December
31, 2017. These conditions represent material uncertainty that cast
significant doubts about the Company's ability to continue as a
going concern. The ability of the Company to continue as a going
concern is dependent upon achieving a profitable level of
operations or on the ability of the Company to obtain necessary
financing to fund ongoing operations. Management believes that the
Company will not be able to continue as a going concern for the
next twelve months without additional financing or increased
revenues.
To meet
these objectives, the Company continues to seek other sources of
financing in order to support existing operations and to expand the
range and scope of its business. However, there are no assurances
that any such financing can be obtained on acceptable terms and in
a timely manner, if at all. Failure to obtain the necessary working
capital would have a material adverse effect on the business
prospects and, depending upon the shortfall, the Company may have
to curtail or cease its operations.
These
consolidated financial statements do not include any adjustments to
the recorded assets or liabilities, that might be material, should
the Company have to curtail operations or be unable to continue in
existence.
44
Off-Balance Sheet Arrangements
The
Company has no off balance sheet arrangements.
Inflation
The
Company does not believe that inflation has had a material effect
on its business, financial condition or results of operations. If
the Company’s costs were to become subject to significant
inflationary pressures, it may not be able to fully offset such
higher costs through price increases. The Company’s inability
or failure to do so could adversely affect its business, financial
condition and results of operations.
Recent Accounting Pronouncements
The
Company has reviewed all recently issued, but not yet effective,
accounting pronouncements and does not expect the future adoption
of any such pronouncements to have a significant impact on its
results of operations, financial condition or cash
flow.
Material Commitments
a)
Premises Leases
– Mississauga, Ontario.
Effective
April 1, 2016, a subsidiary of the Company entered into a lease
agreement for a rental premises in Mississauga, Ontario, Canada.
The terms of the lease agreement are to be for a period of 3 years
and ending on June 30, 2019 with payments made monthly. Minimum
annual lease payments are as follows and denominated in
CAD:
2018
|
78,125
|
2019
|
39,063
|
|
$117,188
|
b)
Charitable Sales
Promotion
On
January 21, 2016, the Company entered into an agreement with
Wounded Warriors Family Support Inc. in which the Company agreed to
make a donation of $1.00 for each sale of its “Vape
Warriors” E-liquid product during the period from January 1,
2016 to December 31, 2016, with a minimum donation of $50,000.
During the year ended December 31, 2016, the Company accrued the
full $50,000 in charitable contributions regarding this agreement.
During the year ended December 31, 2017, the Company settled the
full amount owing in exchange for 300,000 Common Shares at a fair
value of $36,000.
c)
Royalty
Agreement
On June
14, 2016, the Company entered into a royalty agreement related to
an E-liquid recipe purchased from an unrelated party in which the
Company agreed to pay to the recipe developer, a royalty of $0.25
per 60 ml of E-liquid sold that contains the recipe, up to a
maximum of $100,000. Although the Company has the ability to sell
the E-liquid globally, the royalty was only paid on E-liquid sold
within the United States. The Company is no longer selling the
original recipe and, as of December 31, 2017, has stopped accruing
royalty payments under this agreement. During the year ended
December 31, 2017, the Company paid $649 in relation to the royalty
agreement (December 31, 2016 – $9,683).
Subsequent Events
On
January 26, 2018 and in accordance with the terms of a warrant
agreement, the Company received a form of election to purchase
50,000 Common Shares of the Company at a price of $0.20 per share
for total gross proceeds of $10,000. Such Common Shares were issued
on March 15, 2018.
45
On
February 1, 2018 and in connection to a consulting agreement, the
Company issued warrants for the purchase of 250,000 Common Shares
exercisable until January 31, 2020 at an exercise price of $0.20
per Common Share. The warrants shall vest in eight equal tranches,
with the first tranche vested upon issuance and the remaining seven
tranches to vest equally every three months
thereafter.
On
March 23, 2018, the Company issued and sold on a private placement
basis, 3,677,271 Common Shares of the Company at a price of $0.11
per share for total gross proceeds of $404,500.
On
April 3, 2018, the Company issued an unsecured promissory note in
the principal amount of CAD $65,000. The promissory note matures on
April 20, 2018 and bears interest at a rate of 15% per annum,
accrued monthly but subject to a minimum interest payment of CAD
$750.
On
April 2, 2018, the Company entered into an equipment financing
facility (the “Equipment Facility”) in the aggregate
principal amount of CAD $340,850. The Equipment Facility is secured
by certain equipment of the Company, due April 1, 2020 and bears
interest at a rate of 15% per annum. The Company shall be required
to make principal and interest payments of CAD $16,527, monthly in
arrears. On April 2, 2018 and in connection with the Equipment
Facility, the Revolving Facility entered into on December 7, 2017
was terminated and retired and all amounts due under the Revolving
Facility were rolled into the Equipment Facility. On April 11,
2018, the Company received the balance of the aggregate principal
amount made available to the Company under the Equipment
Facility.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK.
This
item is not applicable to smaller reporting companies.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY
DATA.
46
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
FINANCIAL DISCLOSURE.
Changes in registrant’s Certifying Accountant
None.
ITEM 9A. CONTROLS AND PROCEDURES.
EVALUATION
OF DISCLOSURE CONTROLS AND PROCEDURES
During
the year, the Company has initiated disclosure controls and
procedures that are designed to ensure that material information
required to be disclosed in the Company’s periodic reports
filed under the Securities Exchange Act of 1934, as amended, or
1934 Act, is recorded, processed, summarized, and reported within
the time periods specified in the SEC’s rules and forms and
to ensure that such information is accumulated and communicated to
the Company’s management, including its chief executive
officer (principal executive officer) and chief financial officer
(principal accounting officer) as appropriate, to allow timely
decisions regarding required disclosure. During the year ended
December 31, 2017, the Company carried out an evaluation, under the
supervision and with the participation of its management, including
the chief executive officer (principal executive officer) and the
chief financial officer (principal accounting officer), of the
effectiveness of the design and operation of the Company’s
disclosure controls and procedures, as defined in Rule 13(a)-15(e)
under the 1934 Act. Based on this evaluation, because of the
Company’s limited resources and limited number of employees,
management concluded that its disclosure controls and procedures
were ineffective as at December 31, 2017.
REPORT
OF MANAGEMENT ON INTERNAL CONTROL OVER FINANCIAL
REPORTING
|
The
Company’s management is responsible for establishing and
maintaining adequate internal control over financial reporting. The
Company’s internal control over financial reporting is
designed to provide reasonable assurances regarding the reliability
of financial reporting and the preparation of the financial
statements of the Company in accordance with U.S. generally
accepted accounting principles, or GAAP. Because of its inherent
limitations, internal control over financial reporting may not
prevent or detect misstatements. Also, projections of any
evaluation of effectiveness to future periods are subject to the
risk that controls may become inadequate because of changes in
conditions, or that the degree or compliance with the policies or
procedures may deteriorate.
With
the participation of the Company’s chief executive officer
(principal executive officer) and chief financial officer
(principal accounting officer), management conducted an evaluation
of the effectiveness of the Company’s internal control over
financial reporting as at December 31, 2017 based on the framework
in Internal Control—Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission
("COSO"). Based on the Company’s evaluation and the material
weaknesses described below, management concluded that the Company
did not maintain effective internal control over financial
reporting as at December 31, 2017 based on the COSO framework
criteria. Management has identified control deficiencies regarding
the lack of segregation of duties and the need for a stronger
internal control environment. Management of the Company believes
that these material weaknesses are due to the small size of the
Company’s accounting staff. The small size of the
Company’s accounting staff may prevent adequate controls in
the future, such as segregation of duties, due to the cost/benefit
of such remediation. To mitigate the current limited resources and
limited employees, the Company relies heavily on direct management
oversight of transactions, along with the use of legal and
accounting professionals. As the Company grows, the number of
employees is expected to increase, which will enable the Company to
implement adequate segregation of duties within the internal
control framework.
These
control deficiencies could result in a misstatement of account
balances that would result in a reasonable possibility that a
material misstatement to the Company’s consolidated financial
statements may not be prevented or detected on a timely basis.
Accordingly, the Company has determined that these control
deficiencies as described above together constitute a material
weakness.
47
In
light of this material weakness, the Company performed additional
analyses and procedures in order to conclude that its consolidated
financial statements for the year ended December 31, 2017 included
in this Annual Report on Form 10-K were fairly stated in accordance
with US GAAP. Accordingly, management believes that despite the
Company’s material weaknesses, its consolidated financial
statements for the year ended December 31, 2017 are fairly stated,
in all material respects, in accordance with US GAAP.
This
Annual Report does not include an attestation report of the
Company’s registered public accounting firm regarding
internal control over financial reporting. Management’s
report was not subject to attestation by the Company’s
registered public accounting firm pursuant to temporary rules of
the Securities and Exchange Commission that permit the Company to
provide only management’s report in this Annual Report on
Form 10-K.
LIMITATIONS
ON EFFECTIVENESS OF CONTROLS AND PROCEDURES
The
Company’s management, including its chief executive officer
(principal executive officer) and chief financial officer
(principal accounting officer), does not expect that the
Company’s disclosure controls and procedures or internal
controls will prevent all errors and all fraud. A control system,
no matter how well conceived and operated, can provide only
reasonable, not absolute, assurance that the objectives of the
control system are met. Further, the design of a control system
must reflect the fact that there are resource constraints and the
benefits of controls must be considered relative to their costs.
Because of the inherent limitations in all control systems, no
evaluation of controls can provide absolute assurance that all
control issues and instances of fraud, if any, within the Company
have been detected. These inherent limitations include, but are not
limited to, the realities that judgments in decision-making can be
faulty and that breakdowns can occur because of simple error or
mistake. Additionally, controls can be circumvented by the
individual acts of some persons, by collusion of two or more
people, or by management override of the control. The design of any
system of controls also is based in part upon certain assumptions
about the likelihood of future events and there can be no assurance
that any design will succeed in achieving its stated goals under
all potential future conditions. Over time, controls may become
inadequate because of changes in conditions, or the degree of
compliance with the policies or procedures may deteriorate. Because
of the inherent limitations in a cost-effective control system,
misstatements due to error or fraud may occur and not be
detected.
Changes in Internal Controls
During
the fiscal year ended December 31, 2017, there have been no changes
in the Company’s internal control over financial reporting
that have materially affected or are reasonably likely to
materially affect the Company’s internal controls over
financial reporting.
ITEM 9B. OTHER INFORMATION.
Please
refer to the consolidated financial statements for additional costs
and expenditures and other financial information.
48
PART III
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE
GOVERNANCE.
DIRECTORS AND EXECUTIVE OFFICERS
Name
|
|
Age
|
|
Position
|
Graham
Simmonds
|
|
44
|
|
Chairman of the
Board of Directors and Chief Executive Officer
|
Gerald
Goldberg
|
|
74
|
|
Director and
Chairman of the Audit, Compensation and Governance
Committees
|
Dr.
Blaise A. Aguirre
|
|
53
|
|
Lead
Independent Director
|
Daniel
Yuranyi
|
|
61
|
|
Director and
Chief Procurement Officer
|
Christopher
Rich
|
|
64
|
|
Director
|
Ashish
Kapoor
|
|
40
|
|
Chief Financial
Officer and Corporate Secretary
|
The
business experience of the persons listed above during the past
five years are as follows:
Graham Simmonds (Chairman of the Board of Directors and Chief
Executive Officer)
Mr.
Simmonds has served as Chairman of the Board of Directors since May
14, 2015 and as Chief Executive Officer of the Company since
November 15, 2012. Mr. Simmonds has over 20 years of experience in
public company management and business development projects within
both the gaming and technology sectors. Mr. Simmonds is licensed
and/or has previously been licensed/registered with a number of
horse racing and gaming commissions in the United States and
Canada. Mr. Simmonds developed and launched the first in-home
digital video horse racing service in North America and is a former
director and partner in eBet Technologies Inc., a licensed ADW
operator and software developer for the online horse racing
industry in the United States. eBet Technologies Inc. was
successfully sold to Sportech PLC in December of 2012. Mr. Simmonds
is the chairman of CordovaCann Corp., a Canadian-domiciled
diversified cannabis investment company; a director and the CEO of
Baymount Incorporated, a diversified investment and venture capital
firm; and the CEO of Prime City One Capital Corp., a shell company
seeking investment opportunities. Mr. Simmonds was also the former
chairman and CEO of DealNet Capital Corp., a consumer finance
company listed on the TSX Venture Exchange in Toronto,
Canada.
We
believe Mr. Simmonds is well-qualified to serve as Chairman of the
Board of Directors due to his public company experience,
operational experience and business contacts.
Mr.
Goldberg has served as a Director of the Company since June 29,
2016 and is currently the Chairman of the Audit, Compensation and
Governance Committees. Mr. Goldberg is a Chartered Professional
Accountant and a former senior partner at two major accounting
firms. Mr. Goldberg has over 30 years of audit experience and was
the head of the public company audit division of a major firm. Mr.
Goldberg is active in corporate finance and corporate development
having been involved in the structure and design of numerous
innovative financing instruments, tax shelters and syndications,
both in Canada and the US. Mr. Goldberg was involved with the audit
of various public Canadian, US, Chinese and other foreign companies
listed in Canada and the US. Mr. Goldberg holds the designation of
C.T.A. University of South Africa and is a member of the Institute
of Chartered Professional Accountants of Ontario and the Pubic
Accountants Council of Ontario. Mr. Goldberg was and is a director
and audit committee chairman of numerous Canadian and US public
companies and has also served as the interim CEO of a publicly
listed licensed producer of medical marijuana.
We
believe Mr. Goldberg is well-qualified to serve as a member of the
Board of Directors and as Chairman of the Audit, Compensation and
Governance Committees due to experience as a Chartered Professional
Accountant and public company experience.
49
Dr. Blaise A. Aguirre (Lead Independent Director)
Dr.
Aguirre has served as a Director of the Company since November 7,
2014 and is currently the Lead Independent Director. Dr. Aguirre,
an internationally known expert, author and lecturer in child and
adolescent psychiatry, is the founding medical director of 3East at
McLean Hospital, and is an assistant professor of psychiatry at
Harvard Medical School. Dr. Aguirre served as an independent
director of Investors Capital Holdings Ltd. from October 28, 2011
until its sale to RCS Capital Company (RCAP:NYSE) in 2014.
Previously, Dr. Aguirre was a broker with Investors Capital Company
having obtained his series 7 and 63 securities licenses. Dr.
Aguirre sits on the board of directors that oversees the annual
running of the Illinois Marathon in Champaign, IL and is an advisor
to privately held companies including Hanah and Mirah. Dr. Aguirre
is also a board member of the Oprah Winfrey Leadership Academy for
Girls (OWLAG). Dr. Aguirre was a member of the Medical Advisory
Board of IVPCARE Inc. prior to their buyout by Walgreens. Dr.
Aguirre has developed and maintains enduring relationships with
institutional money managers and venture capitalists and has
developed expertise as a small cap stock analyst.
We
believe Dr. Aguirre is well-qualified to serve as a member of the
Board of Directors and as Lead Independent Director due to his
medical experience, financial markets knowledge and business
contacts.
Daniel Yuranyi (Director and Chief Procurement
Officer)
Mr.
Yuranyi has served as a Director and officer of the Company since
November 15, 2012. Mr. Yuranyi has over 30 years of experience in
the transportation, logistics, and distribution businesses having
successfully built and operated his own companies on a number of
occasions. Mr. Yuranyi has held senior positions with Loomis and
Gelco Express which was later sold to Air Canada. After helping
build a division of Gelco Express from $1M to more than $12M in
annualized sales, Mr. Yuranyi left to start a new business of his
own called United Messengers which quickly grew to become the
largest same-day messenger service in Canada. Most recently, Mr.
Yuranyi has invested in building distribution relationships with
European brands in the energy drink and bottled water
businesses.
We
believe Mr. Yuranyi is well-qualified to serve as a member of the
Board of Directors due to his experience in the distribution field
and business contacts.
Christopher Rich (Director)
Mr.
Rich has served as a Director of the Company since November 7,
2014. Mr. Rich is a successful television, film and theatre actor
and producer who studied acting at the University of Texas and
later at Cornell University, where Mr. Rich received a
master’s degree in theatre arts. Mr. Rich began his
performing career in New York performing on stage in many
off-Broadway and regional productions. Mr. Rich has appeared in
many television series, most notably on Murphy Brown and Reba. On
the big screen, Mr. Rich starred in The Joy Luck Club, Flight of
the Intruder, and the independent art film Prisoners of Inertia
with Amanda Plummer. Mr. Rich has appeared in numerous television
movies, with credits including Going Home opposite Jason Robards in
one of his last performances. Most recently, Mr. Rich starred in
Southern Christmas opposite Bo Derek and Shelley Long.
We
believe Mr. Rich is well-qualified to serve as a member of the
Board of Directors due to his film experience and
business/marketing contacts.
Ashish Kapoor (Chief Financial Officer and Corporate
Secretary)
Mr.
Kapoor has served as the Company’s Chief Financial Officer
since November 15, 2012 and as the Company’s Corporate
Secretary since May 5, 2015. Mr. Kapoor has over 18 years of
experience in providing capital markets advisory and assurance
services as a finance professional. After obtaining his Chartered
Accountant designation at Ernst & Young, Mr. Kapoor has gained
over 10 years of experience in investment banking, advising clients
across various industries. As a senior vice president at Macquarie
Capital Markets Canada Ltd., Mr. Kapoor was responsible for the
Canadian telecom, media, entertainment and technology investment
banking and principal investing group. During his 10 years at
Macquarie, Mr. Kapoor completed in excess of $3B in successful
principal investments and advised on a further $4B of mergers and
acquisitions for third party clients. Mr. Kapoor is a director and
the CFO of CordovaCann Corp., a Canadian-domiciled diversified
cannabis investment company, and a director of The Mint
Corporation, a globally certified payments company. Mr. Kapoor was
also the former CFO of DealNet Capital Corp., a consumer finance
company, and Transeastern Power Trust (prior to its current name,
Blockchain Power Trust), an independent power producer focused on
renewable energy sources. Mr. Kapoor obtained his Chartered
Accountant designation as part of the Ernst & Young’s
Toronto practice and was awarded the Gold Medal for first place in
Ontario, and the Bronze Medal for third place in Canada on the 2000
Chartered Accountancy Uniform Final Examination. Mr. Kapoor is also
a CFA Charter holder and holds a Masters of Accounting and a
Bachelor of Arts degree from University of
Waterloo.
50
SIGNIFICANT EMPLOYEES
The
Company does not expect to receive a significant contribution from
employees that are not executive officers.
FAMILY RELATIONSHIPS
There
are no directors, executive officers or persons nominated or
persons chosen by the Company to become a director or executive
officer of the Company who are directly related to an individual
who holds the position of director or executive officer or is
nominated to one of the said positions.
INVOLVEMENT IN CERTAIN LEGAL PROCEEDINGS
There
are no material events that have occurred in the last five years
that would affect the evaluation of the ability or integrity of any
director, person nominated to become a director, executive officer,
promoter or control person of the Company.
SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING
COMPLIANCE
Section
16(a) of the Exchange Act requires that the executive officers and
directors, and persons who beneficially own more than 10% of the
equity securities of reporting companies, file reports of ownership
and changes in ownership with the Securities and Exchange
Commission. Officers, directors and greater than 10% shareholders
are required by SEC regulation to furnish the Company with copies
of all Section 16(a) forms they file. Based solely on the
Company’s review of the copies of such forms received, the
Company believes that during the year ended December 31, 2017 all
such filing requirements applicable to the Company were complied
with on a timely basis, except for the following
filings:
Name and
Relation to the Company
|
Number of Late
Reports
|
Transactions Not
Timely Reported
|
Known Failures
to File a Required Form (Type of Form indicated
herein)
|
Graham
Simmonds
(Chairman and
Chief Executive Officer)
|
8
|
10
|
Form 4, Form
5
|
Daniel
Yuranyi
(Director and
Chief Procurement Officer)
|
3
|
2
|
Form 4, Form
5
|
Ashish
Kapoor
(Chief Financial
Officer)
|
4
|
4
|
Form 4, Form
5
|
Dr. Blaise A.
Aguirre
(Director)
|
3
|
2
|
Form 4, Form
5
|
Gerald
Goldberg
(Director)
|
3
|
2
|
Form 3, Form 4,
Form 5
|
The
Company intends on remediating and filing such aforementioned
delinquent forms as soon as reasonably possible.
CODE OF ETHICS
The
Company has adopted a corporate Code of Ethics (the “Code of
Ethics”) that is applicable the Company’s officers,
directors and employees. The Code of Ethics requires that the
Company’s officers, directors and employees avoid conflicts
of interest, comply with all laws and other legal requirements,
conduct business in an honest and ethical manner, act in the
Company’s best interest, provide full, fair, accurate, timely
and understandable disclosure in public reports, ensure prompt
internal reporting of code violations, and provide accountability
for adherence to the code. The Code of Ethics was filed with the
SEC as Exhibit 99.2 to the Company’s Annual Report on Form
10-K for the year ended December 31, 2013 and is incorporated
herein by reference.
51
To the
knowledge of the Company’s management, there have been no
reported violations of the Code of Ethics. In the event of any
future amendments to, or waivers from, the provisions of the Code
of Ethics, the Company intends to describe on its Internet website,
within four business days following the date of a waiver or a
substantive amendment, the date of the waiver or amendment, the
nature of the amendment or waiver, and the name of the person to
whom the waiver was granted.
NOMINATIONS OF DIRECTORS
The
Board of Directors does not have a Nominations Committee (the
“Nominating Committee”) or a formal procedure with
respect to the nomination of directors. In addition, the Company
does not have any defined policy or procedure requirements of
shareholders to submit recommendations or nominations for
directors, and it has not established any specific or minimum
criteria for nominating directors or specific process for
evaluating any such nominees. The Board of Directors expects to
identify future potential director candidates from recommendations
made by its directors, management and shareholders, as
appropriate.
The
Board of Directors do not, at present, have a formal process in
place for assessing the effectiveness of the Board of Directors as
a whole, its committees or individual directors, but will consider
implementing one in the future should circumstances warrant. Based
on the Company’s size and its stage of development, the Board
of Directors considers a formal assessment process to be
unnecessary at the present time.
AUDIT COMMITTEE
The
purpose of the Company’s Audit Committee (the “Audit
Committee”) is to act on behalf of the Board of Directors to
oversee all material aspects of the Company’s reporting,
control, and audit functions, except those specifically related to
the responsibilities of another standing committee of the Board.
The Audit Committee's role includes a particular focus on the
qualitative aspects of financial reporting to shareholders and on
the Company’s processes for the management of business and
financial risk and for compliance with significant applicable
legal, ethical, and regulatory requirements.
In
addition, the Audit Committee is responsible for: (1) selection and
oversight of the Company’s independent accountant; (2)
establishing procedures for the receipt, retention and treatment of
complaints regarding accounting, internal controls and auditing
matters; (3) establishing procedures for the confidential,
anonymous submission by the Company’s employees of concerns
regarding accounting and auditing matters; (4) establishing
internal financial controls; (5) engaging outside advisors; and (6)
funding for the outside auditor and any outside advisors engagement
by the Audit Committee.
The
Audit Committee’s role also includes coordination with other
Board committees and maintenance of strong, positive working
relationships with management, external and internal auditors,
counsel, and other committee advisors.
The
Audit Committee is composed of Gerald Goldberg, Dr. Blaise A.
Aguirre and Christopher Rich. Gerald Goldberg serves as the
Chairman of the Audit Committee and audit committee financial
expert. All members of the Audit Committee are independent of
management. The Audit Committee adopted a charter on January 15,
2014 which was filed with the SEC as Exhibit 99.1 to the
Company’s Annual Report on Form 10-K for the year ended
December 31, 2013 and is incorporated herein by
reference.
COMPENSATION COMMITTEE
The
Board of Directors does not have a separate Compensation Committee
(the “Compensation Committee”), and such functions are
addressed by the entire Board. Although there is no formal
committee in place, Gerald Goldberg serves as the Chairman of the
ad hoc Compensation Committee consisting of members of the Board.
The Board believes that such functions of a Compensation Committee
can be adequately performed by the members of the
Board.
52
GOVERNANCE COMMITTEE
The
Board of Directors does not have a separate Governance Committee
(the “Governance Committee”), and such functions are
addressed by the entire Board. Although there is no formal
committee in place, Gerald Goldberg serves as the Chairman of the
ad hoc Governance Committee consisting of members of the Board. The
Board believes that such functions of a Governance Committee can be
adequately performed by the members of the Board.
ITEM 11. EXECUTIVE COMPENSATION.
SUMMARY COMPENSATION TABLE
The
following table sets forth information concerning the annual and
long-term compensation awarded to, earned by, payable/paid to
Graham Simmonds the Company’s Chairman of the Board of
Directors and Chief Executive Officer, Gerald Goldberg the
Company’s Director and Chairman of the Audit, Compensation
and Governance Committees, Dr. Blaise A. Aguirre the
Company’s Lead Independent Director, Daniel Yuranyi the
Company’s Director and Chief Procurement Officer, Christopher
Rich the Company’s Director, Ashish Kapoor the
Company’s Chief Financial Officer and Corporate Secretary,
Henry J. Kloepper the Company’s former Director and Stanley
D. Robinson the Company’s Director, for all services rendered
in all capacities to the Company for the years ended December 31,
2017 and 2016.
Name/Title
|
|
Year
|
Salary
$(1)
|
Bonus
$(1)
|
Stock
Awards
$(1)
|
Option
Awards
$(1)
|
Nonequity
Incentive Plan Compensation $(1)
|
Nonqualified
Deferred Compensation Earnings $(1)
|
All Other
Compensation
$(1)
|
Total
$(1)
|
Graham Simmonds(2)
|
|
2017
|
$131,233
|
-
|
-
|
$227,395(7)
|
-
|
-
|
-
|
$358,628
|
Chairman of the Board of
Directors and Chief Executive Officer
|
|
2016
|
$120,000
|
-
|
-
|
-
|
-
|
-
|
-
|
$120,000
|
Gerald Goldberg(3)(4)(6)
|
|
2017
|
$18,000
|
-
|
-
|
$69,349(8)
|
-
|
-
|
-
|
$87,349
|
Chairman of the Audit,
Compensation and Governance Committees
|
|
2016
|
$9,000
|
-
|
-
|
-
|
-
|
-
|
-
|
$9,000
|
Dr. Blaise A. Aguirre
(3)(6)
|
|
2017
|
$18,000
|
-
|
-
|
$69,349(8)
|
-
|
-
|
-
|
$87,348
|
Lead Independent
Director
|
|
2016
|
$18,000
|
-
|
-
|
-
|
-
|
-
|
-
|
$18,000
|
Daniel Yuranyi(2)
|
|
2017
|
$92,556
|
-
|
-
|
$69,349(8)
|
-
|
-
|
-
|
$161,905
|
Director and
Chief Procurement Officer
|
|
2016
|
$90,720
|
-
|
-
|
-
|
-
|
-
|
-
|
$90,720
|
Christopher Rich(3)(6)
|
|
2017
|
$18,000
|
-
|
-
|
$34,674(8)
|
-
|
-
|
-
|
$52,674
|
Director
|
|
2016
|
$18,000
|
-
|
-
|
-
|
-
|
-
|
-
|
$18,000
|
Ashish Kapoor(2)
|
|
2017
|
$131,233
|
-
|
-
|
$227,395(7)
|
-
|
-
|
-
|
$358,628
|
Chief Financial Officer
and Corporate
Secretary
|
|
2016
|
$120,000
|
-
|
-
|
-
|
-
|
-
|
-
|
$120,000
|
Henry J. Kloepper(3)(6)
|
|
2017
|
$6,000
|
-
|
-
|
-
|
-
|
-
|
-
|
$6,000
|
Henry J. Kloepper(3)(6)
|
|
2016
|
$18,000
|
-
|
-
|
-
|
-
|
-
|
-
|
$18,000
|
Stanley D. Robinson(3)(6)
|
|
2017
|
$6,000
|
-
|
-
|
-
|
-
|
-
|
-
|
$6,000
|
Former
Director
|
|
2016
|
$18,000
|
-
|
-
|
-
|
-
|
-
|
-
|
$18,000
|
(1)
All figures in the
table above are denominated in U.S. Dollars unless otherwise
noted.
(2)
On April 1, 2017,
the Company entered into formal employment agreements with Messrs.
Simmonds, Yuranyi and Kapoor.
(3)
Commencing on
January 1, 2015, the Board of Directors agreed to pay each of the
Company’s independent directors $1,500 per month for their
services, and that such compensation would be accrued monthly and
payable at such times as determined by the Company.
(4)
On June 29, 2016,
the Board of Directors appointed Mr. Goldberg to serve as a
Director of the Company.
53
(5)
On May 2, 2017, the
Board of Directors accepted the resignations of Mr. Kloepper and
Mr. Robinson as Directors of the Company.
(6)
On May 2, 2016, the
Board of Directors appointed Messrs. Goldberg and, Aguirre and Rich
to serve as members of the Company’s Audit Committee, with
Mr. Goldberg serving as Chairman of the Audit
Committee.
(7)
On June 16, 2017,
Mr. Simmonds and Mr. Kapoor were each granted 2,000,000 stock
options exercisable until June 15, 2020 at an exercise price of
$0.20 per share. The exercise price was determined by the Board of
Directors to be the target stock price as of the date of grant. The
fair value of each of the option grants was $227,395 which was
determined using the Black Sholes option-pricing model with the
following assumptions: Stock price: $0.14; Risk-free interest rate:
1.49%; Expected life: 3 years; and Estimated volatility in the
market price of the Common Shares: 306%.
(8)
On June 16, 2017,
Messrs. Goldberg, Aguirre and Yuranyi were each granted 500,000
stock options exercisable until June 15, 2020 at an exercise price
of $0.20 per share. The exercise price was determined by the Board
of Directors to be the target stock price as of the date of grant.
The fair value of each of the option grants was $69,349 which was
determined using the Black Sholes option-pricing model with the
following assumptions: Stock price: $0.14; Risk-free interest rate:
1.49%; Expected life: 3 years; and Estimated volatility in the
market price of the Common Shares: 306%.
(9)
On June 16, 2017,
Mr. Rich was granted 250,000 stock options exercisable until June
15, 2020 at an exercise price of $0.20 per share. The exercise
price was determined by the Board of Directors to be the target
stock price as of the date of grant. The fair value of each of the
option grants was $34,674 which was determined using the Black
Sholes option-pricing model with the following assumptions: Stock
price: $0.14; Risk-free interest rate: 1.49%; Expected life: 3
years; and Estimated volatility in the market price of the Common
Shares: 306%.
OUTSTANDING EQUITY AWARDS
The
following table outlines the outstanding equity awards held by the
Company’s officers, directors and employees (as a group) as
at December 31, 2017.
|
Option Awards
|
Stock Awards
|
|||||||
Name
|
Number
of securities underlying unexercised options (#)
exercisable
|
Number
of securities underlying unexercised options (#)
unexercisable
|
Equity
incentive plan awards: Number of securities underlying unexercised
unearned options (#)
|
Option
exercise Price ($)(1)
|
Option
expiration date
|
Number
of shares or units of stock that have not vested (#)
|
Market
value of shares or units of stock that have not vested
($)(1)
|
Equity
incentive plan awards: Number of unearned shares, units or other
rights that have not vested (#)
|
Equity
incentive plan awards: Market or payout value of unearned shares,
units or other rights that have not vested ($)(1)
|
Graham
Simmonds
|
2,000,000
|
-
|
-
|
$0.20
|
June 15,
2020
|
-
|
-
|
-
|
-
|
Gerald
Goldberg
|
500,000
|
-
|
-
|
$0.20
|
June 15,
2020
|
-
|
-
|
-
|
-
|
Dr. Blaise A.
Aguirre
|
500,000
|
-
|
-
|
$0.20
|
June 15,
2020
|
-
|
-
|
-
|
-
|
Daniel
Yuranyi
|
500,000
|
-
|
-
|
$0.20
|
June 15,
2020
|
-
|
-
|
-
|
-
|
Christopher
Rich
|
250,000
|
-
|
-
|
$0.20
|
June 15,
2020
|
-
|
-
|
-
|
-
|
Ashish
Kapoor
|
2,000,000
|
-
|
-
|
$0.20
|
June 15,
2020
|
-
|
-
|
-
|
-
|
Employees
|
3,000,000
|
-
|
-
|
$0.20
|
June 15,
2020
|
-
|
-
|
-
|
-
|
|
422,500
|
-
|
-
|
$0.20
|
December 11,
2020
|
-
|
-
|
-
|
-
|
(1)
All figures in the
table above are denominated in U.S. Dollars unless otherwise
noted.
54
COMPENSATION OF DIRECTORS
There
are no formal agreements with respect to the election and
compensation of directors.
Commencing
on January 1, 2015, the Board of Directors agreed to pay each of
the Company’s independent directors $1,500 per month for
their services, and that such compensation would be accrued monthly
and payable at such times as determined by the
Company.
The
Company does not have any form of pension plan that provides for
payments or benefits to the employees, officers or directors at,
following, or in connection with retirement. The Company does not
have any form of deferred compensation plan.
GOLDEN PARACHUTE COMPENSATION
The
following table outlines golden parachute compensation of the
Company’s officers as at the date of this Annual
Report.
Name
|
Cash
($)(1)
|
Equity
($)(1)
|
Pension / NQDC
($)(1)
|
Perquisites /
Benefits ($)(1)
|
Tax
Reimbursement ($)(1)
|
Other
($)(1)
|
Total
($)(1)
|
Graham
Simmonds(2)
|
$350,000
|
-
|
-
|
-
|
$18,000
|
-
|
-
|
Daniel
Yuranyi(2)
|
$120,000
|
-
|
-
|
-
|
$12,000
|
-
|
-
|
Ashish
Kapoor(2)
|
$350,000
|
-
|
-
|
-
|
$18,000
|
-
|
-
|
(1)
All figures in the
table above are denominated in Canadian Dollars unless otherwise
noted.
(2)
Please see
Employment Contracts (below) for a narrative description for the
terms of such individual’s golden parachute
compensation.
EMPLOYMENT CONTRACTS
The
Company recognizes that remuneration plays an important role in
attracting, motivating, rewarding and retaining knowledgeable and
skilled individuals to the Company’s management team.
However, the Company has not, as yet, generated any significant
income or cash flow from operations and operates within limited
financial resources to ensure that funds are available to advance
the Company’s business. The Board of Directors has to
consider not only the financial situation of the Company at the
time of the determination of executive compensation, but also the
estimated financial situation in the mid and long-term. As at the
date of this Annual Report, the Company has entered into employment
contracts with its executive officers. The Board of Directors plans
to continue to ensure that, at all times, its compensation
arrangements adequately reflect the responsibilities and risks
involved in being an effective director or officer of the
Company.
The
general objectives of the Company’s compensation strategy
will be to (a) compensate management in a manner that encourages
and rewards a high level of performance and outstanding results
with a view to increasing long-term shareholder value; (b) align
management’s interests with the long-term interests of
shareholders; (c) provide a compensation package that is
commensurate with other early stage issuers to enable the Company
to attract and retain talent; and (d) ensure that the total
compensation package is designed in a manner that takes into
account the constraints that the Company is under by virtue of the
fact that it is in an early stage of its development and growth,
without a history of earnings.
The
Board of Directors considers the following as key elements of
executive compensation awarded by the Company: (i) base salary;
(ii) annual incentive awards; and (iii) incentive stock options. In
determining compensation to be paid, the Board of Directors expects
that the base salary will be the principal component of executive
compensation. Upon establishing itself as a viable business, the
Board of Directors expects that it will create a comprehensive set
of business performance metrics or industry standard benchmarks to
determine executive compensation, including any performance based
annual awards. As at the date of this Annual Report, the Company
has not sought out or reviewed specific benchmark criteria and does
not expect to do so until its revenue from operations
increases.
55
The
Board of Directors believes that share-based and option-based
compensation as part of executive compensation arrangements can
align the interests of the Company’s directors, officers,
employees, consultants and advisors with those of its shareholders,
and provide a long-term incentive that rewards these individuals
for their contribution to the creation of shareholder value and to
reduce the cash compensation the Company would otherwise have to
pay.
The
Board of Directors appoints officers annually and each executive
officer serves at the discretion of the Board.
In an
effort to manage the economic challenges of past fiscal years, the
Company reached agreements with its executive officers that they
would accrue compensation payable to them for the 2016 and 2015
calendar years and payable at such times as determined by the
Company. On April 1, 2017, the Company entered into Employment
Agreements with each of Messrs. Simmonds, Yuranyi and
Kapoor.
As of
the date of this Annual Report, the Company is party to the
following employment agreements with the Company’s executive
officers:
Graham Simmonds, Chief Executive Officer - Employment
Contract
Pursuant
to the employment with Mr. Simmonds, Mr. Simmonds serves as the
Chief Executive Officer of the Company and is entitled to an annual
base salary of CAD $175,000 and is eligible to earn a cash
performance bonus. In addition, Mr. Simmonds is entitled to a car
allowance of CAD $1,500 per month.
Mr.
Simmonds’ employment contract may be terminated by the
Company without notice or payment in lieu of notice for just cause.
Mr. Simmonds may terminate his employment for any reason by
providing at least two months’ notice in writing. If the
Company elects to terminate the employment of Mr. Simmonds without
cause, and provided Mr. Simmonds is in compliance with the relevant
terms and conditions of his employment agreement, the Company shall
be obligated to pay Mr. Simmonds eighteen months of his monthly
base salary and any accrued and unpaid expenses and
fees.
If (i)
there has been a Change of Control (as defined below) of the
Company, and (ii) the Involuntary Termination (as defined below) of
the employment of Mr. Simmonds has occurred within twelve months of
the date of the Change of Control, the Company shall pay Mr.
Simmonds, in a lump sum, an amount equal to the sum of the
following:
a)
twenty-four months
of the base salary immediately prior to the date of the Change of
Control;
b)
the annual premium
cost to the Company of all the benefits provided to Mr. Simmonds by
the Company under his employment agreement immediately prior to the
date of the Change of Control; and
c)
any other
outstanding amounts owed to Mr. Simmonds under his employment
agreement.
In
addition, at the option of the Company, the Company may (i) pay to
Mr. Simmonds the fair market value determined as at the date of the
Change of Control by the Company of the automobile provided to Mr.
Simmonds under his employment agreement, (ii) pay to Mr. Simmonds
the aggregate amount required to lease such automobile at its
original value for a twelve month period, or (iii) transfer to Mr.
Simmonds the ownership in such automobile for one Canadian Dollar.
Furthermore, the Company shall also be required to pay to Mr.
Simmonds the lump sum of any other outstanding amounts owed to Mr.
Simmonds (including entities related to or controlled by Mr.
Simmonds) regardless of the terms of such amounts which will become
immediately due and payable upon Involuntary
Termination.
Ashish Kapoor, Chief Financial Officer – Employment
Contract
Pursuant
to the employment with Mr. Kapoor, Mr. Kapoor serves as the Chief
Financial Oficer of the Company and is entitled to an annual base
salary of CAD $175,000 and is eligible to earn a cash performance
bonus. In addition, Mr. Kapoor is entitled to a car allowance of
CAD $1,500 per month.
56
Mr.
Kapoor’s employment contract may be terminated by the Company
without notice or payment in lieu of notice for just cause. Mr.
Kapoor may terminate his employment for any reason by providing at
least two months’ notice in writing. If the Company elects to
terminate the employment of Mr. Kapoor without cause, and provided
Mr. Kapoor is in compliance with the relevant terms and conditions
of his employment agreement, the Company shall be obligated to pay
Mr. Kapoor eighteen months of his monthly base salary and any
accrued and unpaid expenses and fees.
If (i)
there has been a Change of Control of the Company, and (ii) the
Involuntary Termination of the employment of Mr. Kapoor has
occurred within twelve months of the date of the Change of Control,
the Company shall pay Mr. Kapoor, in a lump sum, an amount equal to
the sum of the following:
a)
twenty-four months
of the base salary immediately prior to the date of the Change of
Control;
b)
the annual premium
cost to the Company of all the benefits provided to Mr. Kapoor by
the Company under his employment agreement immediately prior to the
date of the Change of Control; and
c)
any other
outstanding amounts owed to Mr. Kapoor under his employment
agreement.
In
addition, at the option of the Company, the Company may (i) pay to
Mr. Kapoor the fair market value determined as at the date of the
Change of Control by the Company of the automobile provided to Mr.
Kapoor under his employment agreement, (ii) pay to Mr. Kapoor the
aggregate amount required to lease such automobile at its original
value for a twelve month period, or (iii) transfer to Mr. Kapoor
the ownership in such automobile for one Canadian Dollar.
Furthermore, the Company shall also be required to pay to Mr.
Kapoor the lump sum of any other outstanding amounts owed to Mr.
Kapoor (including entities related to or controlled by Mr. Kapoor)
regardless of the terms of such amounts which will become
immediately due and payable upon Involuntary
Termination.
Daniel Yuranyi, Chief Procurement Officer – Employment
Contract
Pursuant
to the employment with Mr. Yuranyi, Mr. Yuranyi serves as the Chief
Procurement Officer of the Company and is entitled to an annual
base salary of CAD $120,000 and is eligible to earn a cash
performance bonus. In addition, Mr. Yuranyi is entitled to a car
allowance of CAD $1,000 per month.
Mr.
Yuranyi’s employment contract may be terminated by the
Company without notice or payment in lieu of notice for just cause.
Mr. Yuranyi may terminate his employment for any reason by
providing at least two months’ notice in writing. If the
Company elects to terminate the employment of Mr. Yuranyi without
cause, and provided Mr. Yuranyi is in compliance with the relevant
terms and conditions of his employment agreement, the Company shall
be obligated to pay Mr. Yuranyi six months of his monthly base
salary and any accrued and unpaid expenses and fees.
If (i)
there has been a Change of Control of the Company, and (ii) the
Involuntary Termination of the employment of Mr. Yuranyi has
occurred within twelve months of the date of the Change of Control,
the Company shall pay Mr. Yuranyi, in a lump sum, an amount equal
to the sum of the following:
a)
twelve months of
the base salary immediately prior to the date of the Change of
Control;
b)
the annual premium
cost to the Company of all the benefits provided to Mr. Yuranyi by
the Company under his employment agreement immediately prior to the
date of the Change of Control; and
c)
any other
outstanding amounts owed to Mr. Yuranyi under his employment
agreement.
In
addition, at the option of the Company, the Company may (i) pay to
Mr. Yuranyi the fair market value determined as at the date of the
Change of Control by the Company of the automobile provided to Mr.
Yuranyi under his employment agreement, (ii) pay to Mr. Yuranyi the
aggregate amount required to lease such automobile at its original
value for a twelve month period, or (iii) transfer to Mr. Yuranyi
the ownership in such automobile for one Canadian Dollar.
Furthermore, the Company shall also be required to pay to Mr.
Yuranyi the lump sum of any other outstanding amounts owed to Mr.
Yuranyi (including entities related to or controlled by Mr.
Yuranyi) regardless of the terms of such amounts which will become
immediately due and payable upon Involuntary
Termination.
57
For the
purposes of the foregoing employment agreements, the occurrence of
any one or more of the following events shall constitute a change
of control (a “Change of Control”):
a)
the acceptance by
the Company’s shareholders representing in the aggregate more
than fifty percent (50%) of all the issued and outstanding Common
Shares of the Company, of any offer, whether by way of take-over
bid or otherwise, for all or any of the Common Shares of the
Company;
b)
the acquisition
hereafter, by whatsoever means (including, without limitation by
way of arrangement, merger or amalgamation), by any person (or two
or more persons acting jointly or in concert), directly or
indirectly, of the beneficial ownership of the Common Shares of the
Company or rights to acquire the Common Shares of the Company that,
together with such person’s then owned the Common Shares and
rights to acquire the Common Shares, if any, represent in the
aggregate more than fifty percent (50%) of all issued and
outstanding Common Shares of the Company;
c)
the passing of a
resolution by the Board of Directors or the common shareholders to
substantially liquidate the assets or wind-up or significantly
rearrange the affairs of the Company in one or more transactions or
series of transactions (including by way of an arrangement, merger
or amalgamation) or the commencement of proceedings for such a
liquidation, winding-up or re-arrangement;
d)
the sale by the
Company of all or substantially all of its assets (other than to an
affiliate of the Company in circumstances where the affairs of the
Company are continued, directly or indirectly, and where the
shareholders of the Company remain substantially the same following
the sale as existed prior to the sale;
e)
persons who were
proposed as nominees (but not including nominees under a common
shareholder proposal) to become members of the Board of Directors
immediately prior to a meeting of the common shareholders involving
a contest for, or an item of business relating to the election of
the Company’s directors, not constituting a majority of the
directors of the Company following such election; and
f)
any other event
which, in the opinion of the Board of Directors, reasonably
constitutes a change of control of the Company.
For the
purposes of the foregoing employment agreements, involuntary
termination (“Involuntary Termination”) shall
mean:
a)
any requirement by
the Company that the executive officer’s position and
principal office be relocated to a location materially different
than the executive officer’s location on the date of the
Change of Control, without the consent of the executive
officer;
b)
any material
reduction in the executive officer’s title, reporting
relationship, responsibilities or authority;
c)
any reduction in
the base salary of the executive officer;
d)
any material
reduction in the value of the executive officer’s employee
benefit programs; or
e)
the termination of
the executive officer’s employment other than for
cause.
REPORT ON REPRICING OF OPTIONS/SARS
None.
58
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.
A) SECURITY OWNERSHIP OF CERTAIN BENEFICIAL
OWNERS
The
table below sets forth the beneficial ownership of the
Company’s Common Shares, as of April 30, 2018,
by:
●
all of
the Company’s directors and executive officers,
individually,
●
all of
the Company’s directors and executive officers, as a group,
and
●
all
persons who beneficially owned more than 5% of the Company’s
outstanding Common Shares.
The
following persons (including any group as defined in Regulation
S-K, Section 228.403) are known to the Company, as the issuer, to
be beneficial owner of more than five percent (5%) of any class of
the said issuers voting securities.
To the
Company’s knowledge, none of the Common Shares listed below
are held under a voting trust or similar agreement. To the
Company’s knowledge, there are no pending arrangements,
including any pledges by any person of securities of the Company,
the operation of which may at a subsequent date result in a change
in control of the Company.
Name of Beneficial
Owner
|
Number of Common
Shares Beneficially Held
|
Number of
Additional Common Shares Deemed Outstanding
|
Total Number
of Common Shares Beneficially Owned
|
Percentage
Owned
|
Graham
Simmonds
|
13,785,279(5)
|
2,573,406(6)
|
16,358,685
|
11.22%
|
Daniel
Yuranyi
|
7,948,650
|
500,000(7)
|
8,448,650
|
5.88%
|
Ashish
Kapoor
|
5,051,608(8)
|
2,573,405(9)
|
7,625,013
|
5.23%
|
Dr. Blaise A.
Aguirre
|
1,267,178(10)
|
550,000(11)
|
1,817,178
|
1.26%
|
Christopher
Rich
|
810,000(12)
|
250,000(13)
|
1,060,000
|
0.74%
|
Gerald
Goldberg
|
-
|
500,000(14)
|
500,000
|
0.35%
|
Directors and
Executive Officers as a group
|
28,862,715
|
6,946,811
|
35,809,526
|
23.85%
|
|
|
|
|
|
Southshore
Capital Partners, LP
|
8,679,262
|
1,750,000
|
10,429,262
|
7.19%
|
(1)
This table is based
upon 143,218,368 Common Shares issued and outstanding as of April
30, 2018.
(2)
Beneficial
ownership is determined in accordance with the rules of the
Securities and Exchange Commission and includes voting and
investment power with respect to the Common Shares. Common Shares
subject to options or warrants currently exercisable or exercisable
within 60 days are deemed outstanding for computing the percentage
of the person holding such options or warrants, but are not deemed
outstanding for computing the percentage of any other
person.
(3)
To the best of the
Company’s knowledge, except as otherwise indicated, each of
the persons named in the table above has sole voting and investment
power with respect to the Common Shares beneficially owned by such
person.
(4)
The mailing address
of each of the individuals and entities listed above is c/o Gilla
Inc., 475 Fentress Blvd., Unit L, Daytona Beach, FL
32114.
(5)
Includes 6,326,791
Common Shares owned by GraySim Family Trust, 6,435,934 Common
Shares owned by The Woodham Group Inc. and 947,554 of the 1,895,107
Common Shares owned by SimKap Advisory Corp., an entity owned 50%
by Mr. Simmonds and 50% by Mr. Kapoor (see footnote
8).
(6)
Includes 2,000,000
stock options held directly by Mr. Simmonds (see Outstanding Equity
Awards), 7,971 warrants held by The Woodham Group Inc., 15,435
warrants held by GraySim Family Trust and 550,000 of the 1,100,000
warrants held by SimKap Advisory Corp., all exercisable at $0.20
per share.
(7)
Includes 500,000
stock options held directly by Mr. Yuranyi, exercisable at $0.20
per share (see Outstanding Equity Awards).
59
(8)
Includes 3,804,055
Common Shares owned by 2364201 Ontario Corp. and 947,553 of the
1,895,107 Common Shares owned by SimKap Advisory Corp., an entity
owned 50% by Mr. Kapoor and 50% by Mr. Simmonds (see footnote
5).
(9)
Includes 2,000,000
stock options held directly by Mr. Kapoor (see Outstanding Equity
Awards), 23,405 Common Shares owned by 2364201 Ontario Corp. and
550,000 of the 1,100,000 warrants held by SimKap Advisory Corp.,
exercisable at $0.20 per share.
(10)
Includes 59,000
Common Shares owned by Dr. Aguirre’s spouse.
(11)
Includes 550,000
stock options held directly by Dr. Aguirre, exercisable at $0.20
per share (see Outstanding Equity Awards).
(12)
Includes 810,000
Common Shares owned by Rich Richies Inc.
(13)
Includes 250,000
stock options held directly by Mr. Rich, exercisable at $0.20 per
share (see Outstanding Equity Awards).
(14)
Includes 500,000
stock options held directly by Mr. Goldberg, exercisable at $0.20
per share (see Outstanding Equity Awards).
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED
TRANSACTIONS, AND DIRECTOR INDEPENDENCE.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Detail
of related party transactions are described in notes 12, 13, 15 and
20 of the consolidated financial statements of the Company for the
years ended December 31, 2017 and 2016, and repeated
below.
Credit Facility (Note 12)
On
August 1, 2014, the Company entered into a revolving credit
facility (the “Credit Facility”) with an unrelated
party acting as an agent to a consortium of participants (the
“Lenders”), whereby the Lenders would make a revolving
credit facility in the aggregate principal amount of CAD $500,000
for the exclusive purpose of purchasing inventory for sale in the
Company’s ordinary course of business to approved customers.
The Credit Facility charged interest at a rate of 15% per annum on
all drawn advances and a standby fee of 3.5% per annum on the
undrawn portion of the Credit Facility. The Credit Facility matured
on August 1, 2015 whereby the outstanding advances together with
all accrued and unpaid interest thereon would be due and payable.
On August 1, 2014, and in connection to the Credit Facility, the
Company issued warrants for the purchase of 250,000 Common Shares
exercisable over two years at an exercise price of $0.30 per share.
The Company’s Chief Executive Officer and Chief Financial
Officer were both participants of the consortium of participants of
the Credit Facility, each having committed to provide ten percent
of the principal amount of the Credit Facility. The Credit Facility
was secured by all of the Company’s inventory and accounts
due relating to any inventory as granted in an intercreditor and
subordination agreement by and among the Company, the Secured Note
holder and the Lenders to establish the relative rights and
priorities of the secured parties against the Company and a
security agreement by and between the Company and the
Lenders.
During
the year ended December 31, 2014, the Company was advanced $387,110
(CAD $449,083) from the Credit Facility for the purchase of
inventory including $77,453 (CAD $89,852) of advances from the
Company’s Chief Executive Officer and Chief Financial Officer
as their participation in the Credit Facility.
On
April 24, 2015, the Company was advanced $89,590 (CAD $124,000)
from the Credit Facility including $17,918 (CAD $24,800) of
advances from the Company’s Chief Executive Officer and Chief
Financial Officer as their participation in the Credit
Facility.
On
September 1, 2015, the Company was advanced $122,825 (CAD $170,000)
from the Credit Facility including $24,565 (CAD $34,000) of
advances from the Company’s Chief Executive Officer and Chief
Financial Officer as their participation in the Credit
Facility.
60
On
January 18, 2016, and in connection to the Term Loan, the Company
and the Lenders entered into a loan termination agreement whereby
the Company and the Lenders terminated and retired the Credit
Facility. As a result, CAD $294,000 in amounts advanced from the
Credit Facility and CAD $3,093 in accrued interest owing on the
Credit Facility were rolled into the Term Loan.
During
the year ended December 31, 2017, the Company paid $nil of interest
and standby fees as a result of the Credit Facility (December 31,
2016 – $2,189).
Term Loan (Note 13)
On
January 18, 2016, the Company entered into a term loan (the
“Term Loan”) with the Lenders, whereby the Lenders
would loan the Company the aggregate principal amount of CAD
$1,000,000 for capital expenditures, marketing expenditures and
working capital. The agent who arranged the Term Loan was not a
related party of the Company. The Term Loan bears interest at a
rate of 16% per annum, on the outstanding principal, and was to
mature on July 3, 2017, whereby any outstanding principal together
with all accrued and unpaid interest thereon shall be due and
payable. The Term Loan is secured the intercreditor and
subordination agreement as well as the security agreement issued in
connection to the Credit Facility. The Term Loan is subject to a
monthly cash sweep, calculated as the total of (i) CAD $0.50 for
every E-liquid bottle, smaller than 15 ml, sold by the Company
within a monthly period; and (ii) CAD $1.00 for every E-liquid
bottle, greater than 15 ml, sold by the Company within a monthly
period (the “Cash Sweep”). The Cash Sweep will be
disbursed to the Lenders in the following priority: first, to pay
the monthly interest due on the Term Loan; and second, to repay any
remaining principal outstanding on the Term Loan. The Company may
elect to repay the outstanding principal of the Term Loan together
with all accrued and unpaid interest thereon prior to the maturity,
subject to an early repayment penalty of the maximum of (i) 3
months interest on the outstanding principal; or (ii) 50% of the
interest payable on the outstanding principal until maturity (the
“Early Repayment Penalty”). The Term Loan shall be
immediately due and payable at the option of the Lenders if there
is a change in key personnel meaning the Company’s current
Chief Executive Officer and Chief Financial Officer. On January 18,
2016 and in connection to the Term Loan, the Company issued
warrants for the purchase of 250,000 Common Shares exercisable
until December 31, 2017 at an exercise price of $0.20 per share. In
addition, the Company also extended the expiration date of the
250,000 warrants issued on August 1, 2014 in connection with the
Credit Facility until December 31, 2017, with all other terms of
the warrants remaining the same. The relative fair value of the
warrants issued were recorded as debt discount to be amortized over
the life of the loan.
The
Company’s Chief Executive Officer and Chief Financial Officer
are both participants of the consortium of Lenders of the Term
Loan, each having committed to provide ten percent of the principal
amount of the Term Loan. Neither the Chief Executive Officer nor
the Chief Financial Officer participated in the warrants issued or
warrants extended in connection with the Term Loan and both parties
have appropriately abstained from voting on the Board of Directors
to approve the Term Loan, where applicable.
On July
15, 2016, the Company and the Lenders of the Term Loan entered into
a term loan amendment (the “Term Loan Amendment”) in
which the Lenders agreed to extend to the Company an additional CAD
$600,000 in principal to increase the Term Loan facility up to the
aggregate principal amount of CAD $1,600,000. The parties also
extended the maturity date of the Term Loan to July 2, 2018 with
all other terms of the Term Loan remaining the same. The
Company’s Chief Executive Officer and its Chief Financial
Officer are both participants in the consortium of Lenders having
each committed to provide a total of CAD $150,000 of the initial
principal of the Term Loan and the additional principal of the Term
Loan pursuant to the Term Loan Amendment.
On July
15, 2016 and in connection to the Term Loan Amendment, the Company
issued warrants for the purchase of 300,000 Common Shares
exercisable until December 31, 2018 at an exercise price of $0.20
per share. The Company also extended the expiration dates of: (i)
the warrants for thepurchase of 250,000 Common Shares issued on
January 18, 2016 in connection to the Term Loan; and (ii) the
warrants for the purchase of 250,000 Common Shares issued on
August 1, 2014 and extended on January 18, 2016 in connection to
the Term Loan, both until December 31, 2018, with all other terms
of the warrants remaining the same. The relative fair value of the
warrants issued were recorded as debt discount to be amortized over
the life of the loan.
61
During
the year ended December 31, 2016, the Company was advanced CAD
$1,600,000 from the Term Loan including the CAD $294,000 and CAD
$3,093 rolled in from the Credit Facility as well as CAD $240,581
of advances from the Company’s Chief Executive Officer and
Chief Financial Officer.
On
February 27, 2017, the Company and the Lenders of the Term Loan
entered into a term loan amendment (the “Term Loan Amendment
No.2”) to amend certain terms and conditions of the Term
Loan. Pursuant to the Term Loan Amendment No.2, the parties agreed
to modify the Cash Sweep to be calculated as the total of CAD
$0.01667 per ml of E-liquid sold by the Company within a monthly
period, such modification to be retroactively applied as of January
1, 2017. The Lenders also agreed to cancel the Early Repayment
Penalty and waive any interest payment penalties due under the Term
Loan. On February 27, 2017 and in connection to the Term Loan
Amendment No.2, the Company agreed to issue 500,000 private
placement units at a price of $0.10 per unit as a settlement of
financing fees with a relative fair value of $48,485. Each unit
consisted of one Common Share and a half Common Share purchase
warrant exercisable over twelve months at an exercise price of
$0.20 per share. On April 4, 2017, the Company issued the 500,000
units. The Company’s Chief Executive Officer and its Chief
Financial Officer received a total of 93,622 units which included
93,622 Common Shares and warrants for the purchase of 46,811 Common
Shares. The Term Loan Amendment No.2 was accounted for as a
modification of debt and no gain or loss was recognized on the
amendment.
The
relative fair value of the warrants issued in relation to the Term
Loan and Term Loan amendments were recorded as debt discount to be
amortized over the life of the loan. At December 31, 2017, the
value of the Term Loan was $1,051,334 including a debt discount of
$48,485 (December 31, 2016 – $1,031,300). During the years
ended December 31, 2017 and 2016, the Company expensed $92,754 and
$62,210, respectively, in interest expense related to the
amortization of the debt discount. Neither the Chief Executive
Officer nor the Chief Financial Officer participated in the
warrants issued or warrants extended in connection with the Term
Loan Amendment.
During
the year ended December 31, 2017, the Company expensed $173,035 in
interest on the Term Loan (December 31, 2016 – $140,540).
Pursuant to the Cash Sweep, during the year ended December 31,
2017, the Company paid a total of $281,413 to the Lenders
consisting of $195,347 in interest and $88,066 in principal
repayments. During the year ended December 31, 2016, the Company
paid a total of $187,898 to the Lenders consisting of $111,083 in
interest and $76,815 in principal payments. At December 31, 2017,
the Company owes the Lenders a payment of $18,840, consisting fully
of interest which was paid to the Lenders on January 24, 2018 as
per the terms of the Cash Sweep (December 31, 2016 - $81,060,
consisting of $29,471 in interest and $51,589 in principal
repayments).
The
amount owing on the Term Loan is as follows:
|
December 31,
2017
|
December
31,
2016
|
Opening
balance/amount advanced
|
$1,144,337
|
$1,219,840
|
Debt
discount (net)
|
(68,768)
|
(113,037)
|
Exchange
loss (gain) during the period/year
|
86,143
|
(28,159)
|
Principal
payments made
|
(88,066)
|
(76,815)
|
Interest
accrued
|
173,035
|
140,540
|
Interest
payments made
|
(195,347)
|
(111,069)
|
Ending
balance
|
$1,051,334
|
$1,031,300
|
Convertible Debentures (Note 15)
Convertible Debentures Series A
On
September 3, 2013, December 23, 2013 and February 11, 2014, the
Company issued $425,000, $797,000 and $178,000, respectively, of
unsecured subordinated convertible debentures (“Convertible
Debentures Series A”). The Convertible Debentures Series A
matured on January 31, 2016 and charged interest at a rate of 12%
per annum, payable quarterly in arrears. The Convertible Debentures
Series A were convertible into Common Shares at a fixed conversion
rate of $0.07 per share at any time prior to the maturity date. Of
the $178,000 in face value of Convertible Debentures Series A
issued on February 11, 2014, $3,000 were issued in settlement of
loans from shareholders and $50,000 were issued in settlement of
loans from related parties.
62
Convertible Debentures Series B
On
December 31, 2015, the Company issued 650 unsecured subordinated
convertible debenture units (“Convertible Debentures Series
B”) for proceeds of $650,000. Each Convertible Debentures
Series B consisted of an unsecured subordinated convertible
debenture having a principal amount of $1,000 and warrants for the
purchase of 5,000 Common Shares at a price of $0.20 per share for a
period of twenty-four months from the date of issuance. The
Convertible Debentures Series B mature on January 31, 2018 and bear
interest at a rate of 8% perannum, payable quarterly in arrears.
The face value of the Convertible Debentures Series B, together
with all accrued and unpaid interest thereon, are convertible into
Common Shares at a fixed conversion rate of $0.10 per share at any
time prior to maturity. The Company also has the option to force
conversion of any outstanding Convertible Debentures Series B at
any time after six months from issuance and prior to maturity. Of
the $650,000 in face value of Convertible Debentures Series B
issued on December31, 2015, $276,000 were issued in settlement of
loans from related parties, $10,000 were issued in settlement of
related party consulting fees $20,000 were issued in settlement of
consulting fees owing to an unrelated party and $227,000 were
issued in settlement of loans from shareholders.
Convertible Debentures Series C
On May
20, 2016, the Company issued 375 unsecured subordinated convertible
debenture units (the “Convertible Debentures Series C”)
for proceeds of $375,000. Each Convertible Debentures Series C
consisted of an unsecured subordinated convertible debenture having
a principal amount of $1,000 and warrants for the purchase of
10,000 Common Shares at a price of $0.20 per share for a period of
twenty-four months from the date of issuance. The Convertible
Debentures Series C mature on January 31, 2018 and bear interest at
a rate of 8% per annum, accrued quarterly in arrears. The face
value of the Convertible Debentures Series C, together with all
accrued and unpaid interest thereon, are convertible into Common
Shares at a fixed conversion rate of $0.10 per share at any time
prior to maturity. The Company also has the option to force
conversion of any outstanding Convertible Debentures Series C at
any time after six months from issuance and prior to maturity. For
Canadian holders, the Company may only force conversion of any
outstanding Convertible Debentures Series C at such time that the
Company is a reporting issuer within the jurisdiction of Canada. Of
the $375,000 in face value of Convertible Debentures Series C
issued on May 20, 2016 (“Convertible Debentures Series
C-1”), $55,000 were issued in settlement of amounts owing to
related parties and $10,000 were issued in settlement of amounts
owing to an employee. The Company incurred costs of $22,725 as a
result of the issuance of Convertible Debentures Series C-1 on May
20, 2016.
On
December 31, 2016, the Company issued an additional 275 units of
Convertible Debentures Series C (“Convertible Debentures
Series C-2”) for proceeds of $275,000 which were fully issued
in exchange for cash.
On
January 20, 2017, the Company issued an additional 75 units of
Convertible Debentures Series C (“Convertible Debentures
Series C-3”) in settlement of $65,000 owing to a related
party and $10,000 owing in shareholder loans.
The
Company evaluated the terms and conditions of the Convertible
Debentures Series A, Convertible Debentures Series B and each
tranche of Convertible Debentures Series C (together, the
“Convertible Debentures”) under the guidance of ASC No.
815, Derivatives and
Hedging (“ASC 815”). The conversion feature met
the definition of conventional convertible for purposes of applying
the conventional convertible exemption. The definition of
conventional contemplates a limitation on the number of shares
issuable under the arrangement. The instrument was convertible into
a fixed number of shares and there were no down round protection
features contained in the contracts.
Since a
portion of the Convertible Debentures were issued in exchange for
nonconvertible instruments at the original instrument’s
maturity date, the guidance of ASC 470-20-30-19 & 20 were
applied. The fair value of the newly issued Convertible Debentures
were equal to the redemption amounts owed at the maturity date of
the original instruments. Therefore, there was no gain or loss on
extinguishment of debt recorded. After the exchange occurred, the
Company was required to consider whether the new hybrid contracts
embodied a beneficial conversion feature
(“BCF”).
For the
face value $425,000 of Convertible Debentures Series A issued on
September 3, 2013, the calculation of the effective conversion
amount did not result in a BCF because the effective conversion
price was greater than the Company’s stock price on the date
of issuance, therefore no BCF was recorded. However, for the face
value $797,000 of Convertible Debentures Series A that were issued
on December 23, 2013 and the face value $178,000 of Convertible
Debentures Series A that were issued on February 11, 2014, the
calculation of the effective conversion amount resulted in a BCF
because the effective conversion price was less than the
Company’s stock price on the date of issuance and a BCF in
the amount of $797,000 and $178,000, respectively, were recorded in
additional paid-in capital.
63
For the
face value $650,000 of Convertible Debentures Series B issued on
December 31, 2015, the relative fair value of the warrants included
in the issuance totaling $287,757 was calculated using the
Black-Scholes option pricing model. The resulting fair value of
such Convertible Debentures Series B issuance was calculated to be
$362,243. The calculation of the effective conversion amount
resulted in a BCF because the effective conversion price was less
than the Company’s stock price on the date of issuance and a
BCF in the amount of $133,657 was recorded in additional paid-in
capital.
For the
face value $375,000 of Convertible Debentures Series C-1 issued on
May 20, 2016, the relative fair value of the warrants included in
the issuance totaling $234,737 was calculated using the
Black-Scholes option pricing model. The resulting fair value of
such Convertible Debentures Series C-1 was calculated to be
$140,263. The calculation of the effective conversion amount
resulted in a BCF because the effective conversion price was less
than the Company’s stock price on the date of issuance and a
BCF in the amount of $117,538, net of transaction costs, was
recorded in additional paid-in capital.
For the
face value $275,000 of Convertible Debentures Series C-2 issued on
December 31, 2016, the relative fair value of the warrants included
in the issuance totaling $143,871 was calculated using the
Black-Scholes option pricing model. The resulting fair value of
such Convertible Debentures Series C-2 was calculated to be
$131,129. The calculation of the effective conversion amount
resulted in a BCF because the effective conversion price was less
than the Company’s stock price on the date of issuance and a
BCF in the amount of $131,129, was recorded in additional paid-in
capital.
For the
face value $75,000 of Convertible Debentures Series C-3 issued on
January 20, 2017, the relative fair value of the warrants included
in the issuance totaling $43,737 was calculated using the
Black-Scholes option pricing model. The resulting fair value of
such Convertible Debentures Series C-3 was calculated to be
$31,263. The calculation of the effective conversion amount
resulted in a BCF because the effective conversion price was less
than the Company’s stock price on the date of issuance and a
BCF in the amount of $31,263, was recorded in additional paid-in
capital.
The BCF
and the fair value of the warrants, which represents debt discount,
is accreted over the life of the Convertible Debentures using the
effective interest rate. Amortization of debt discount was recorded
as follows:
|
December 31,
2017
|
December 31,
2016
|
Convertible
Debentures Series A
|
$-
|
$17,341
|
Convertible
Debentures Series B
|
210,130
|
52,781
|
Conversion
of Convertible Debentures Series B
|
342,399
|
-
|
Convertible
Debentures Series C-1
|
148,099
|
21,674
|
Conversion
of Convertible Debentures Series C-1
|
183,567
|
-
|
Convertible
Debentures Series C-2
|
190,219
|
2,750
|
Conversion
of Convertible Debentures Series C-2
|
82,031
|
-
|
Convertible
Debentures Series C-3
|
52,628
|
-
|
Conversion
of Convertible Debentures Series C-3
|
22,372
|
-
|
|
$1,231,445
|
$94,546
|
Convertible
Debentures as of December 31, 2017 and December 31, 2016, are as
follows:
|
|
Balance, December 31, 2015
|
$87,158
|
Face
value Convertible Debentures Series C-1
|
375,000
|
Face
value Convertible Debentures Series C-2
|
275,000
|
Relative
fair value of detachable warrants
|
(378,608)
|
BCF
|
(248,667)
|
Transaction
costs
|
(22,725)
|
Amortization
of debt discount
|
94,546
|
Conversion
|
(23,000)
|
Cash
settlements
|
(75,000)
|
Balance, December 31, 2016
|
$83,704
|
Face
Value Convertible Debentures Series C-3
|
75,000
|
Relative
fair value of detachable warrants
|
(43,737)
|
BCF
|
(31,263)
|
Conversion
of Convertible Debentures Series B
|
(423,000)
|
Conversion
of Convertible Debenture Series C-1
|
(265,000)
|
Conversion
of Convertible Debenture Series C-2
|
(275,000)
|
Conversion
of Convertible Debenture Series C-3
|
(75,000)
|
Amortization
of debt discount
|
1,231,445
|
Balance, December 31, 2017
|
$277,149
|
|
|
64
Conversions and Repayments of Convertible Debentures Series
A
The
Company received forms of election whereby holders of the
Convertible Debentures Series A elected to convert the face value
of the debentures into Common Shares at $0.07 per share pursuant to
the terms of the Convertible Debentures Series A. As at December
31, 2017, the Company received the following forms of elections
from holders of the Convertible Debentures:
Date
Form of
Election
Received
|
Face Value of Convertible Debentures Series A
Converted
|
Number of
Common Shares Issued on Conversion
|
April
15, 2014
|
$50,000
|
714,286
|
September
30, 2014
|
800,000
|
11,428,572
|
November
10, 2014
|
275,000
|
3,928,571
|
March 9, 2015(1)
|
52,000
|
742,857
|
July
15, 2015
|
105,000
|
1,500,000
|
September
1, 2015
|
20,000
|
285,714
|
|
$1,302,000
|
18,600,000
|
(1)
On March 9, 2015,
the Company settled interest payable on the Convertible Debentures
Series A in the amount of $1,096 with the issuance of Common Shares
at a price of $0.15 per share, of which, $358 of interest payable
on the Convertible Debentures Series A was settled with a Director
of the Company.
On
January 25, 2016, the Company received a form of election to
convert face value $23,000 of Convertible Debentures Series A, such
328,571 Common Shares remain unissued. On March 10, 2016, the
Company settled face value $25,000 of Convertible Debentures Series
A with a cash payment. On July 6, 2016, the Company settled face
value $50,000 of Convertible Debentures Series A and agreed to pay
to the holders such face value in monthly payments ending on
November 1, 2016. As at December 31, 2016, the $50,000 was fully
paid.
As at
December 31, 2017, all Convertible Debentures Series A had been
fully settled and only the 328,571 Common Shares valued at $23,000
remain unissued, see note 19.
Conversions and Repayments of Convertible Debentures Series B &
C
On
April 30, 2017 and pursuant to the terms of the Convertible
Debentures Series B, the Company sent notices of its election to
convert $423,000 in face value and $45,058 in accrued interest to
holders of Convertible Debentures Series B at $0.10 per share for a
total of 4,680,581 Common Shares of the Company. As a result of
these conversions, the Company recorded a debt discount in the
amount of $342,399. The above amount included the conversion of
$286,000 in face value and $30,465 in accrued interest held by
related parties of the Company.
On
April 30, 2017 and pursuant to the terms of the Convertible
Debentures Series C, the Company sent notices of its election to
convert $190,000 in face value and $14,367 in accrued interest to
holders of Convertible Debentures Series C at $0.10 per share for a
total of 2,043,670 Common Shares of the Company. As a result of
these conversions, the Company recorded a debt discount in the
amount of $168,798. The above amount included the conversion of
$5,000 in face value and $378 in accrued interest held by related
parties of the Company.
65
On
December 29, 2017 and pursuant to the terms of the Convertible
Debentures Series C, the Company converted $425,000 in face value
and $37,184 in accrued interest to holders of Convertible
Debentures Series C at $0.10 per share for a total of 4,621,836
Common Shares of the Company. As a result of these conversions, the
Company recorded a debt discount in the amount of $119,172. The
above amount included the conversion of $130,000 in face value and
$13,264 in accrued interest held by related parties of the
Company.
As at
December 31, 2017, face value $227,000 of Convertible Debentures
Series B and face value $110,000 of Convertible Debentures Series C
remain owing to their respective debenture holders.
Interest on Convertible Debentures
During
the year ended December 31, 2017, the Company recorded interest
expense in the amount of $72,870 on the Convertible Debentures
(December 31, 2016 – $74,162). The interest owing on the
convertible debentures is included in accrued liabilities on the
Company’s consolidated balance sheet.
Related Party Transactions (Note 20)
Transactions
with related parties are incurred in the normal course of business
and are as follows:
(a)
|
The Company’s current and former officers and shareholders
have advanced funds on an unsecured, non-interest bearing basis to
the Company, unless stated otherwise below, for travel related and
working capital purposes. The Company has not entered into any
agreement on the repayment terms for these
advances.
|
Advances
from related parties due over the next 12 months are as
follows:
|
December 31,
2017
|
December
31,
2016
|
Advances
by and amounts payable to Officers of the Company, two of which are
also Directors
|
$169,666
|
$95,759
|
Advances
by and consulting fees payable to a corporation owned by two
Officers of the Company, one of which is also a
Director
|
-
|
313,745
|
Consulting
fees owing to persons related to Officers who are also Directors of
the Company
|
485
|
77,463
|
Advances
by Officers of the Company, one of which is also a Director, bears
interest at 1.5% per month
|
-
|
901,784
|
Amounts
payable to a corporation related by virtue of a common Officer and
Director of the Company
|
-
|
76,407
|
Consulting
fees and directors fees payable to Directors of the
Company
|
-
|
13,725
|
Incentive
fee bonus
|
82,690
|
-
|
|
$252,841
|
$1,478,883
|
During
the year ended December 31, 2017, the following related parties
agreed to defer amounts payable to them until April 30,
2019:
|
December 31,
2017
|
December
31,
2016
|
Advances
by and amounts payable to Officers of the Company, two of which are
also Directors
|
$856,975
|
$572,506
|
Advances
by and consulting fees payable to a corporation owned by two
Officers of the Company, one of which is also a
Director
|
682,360
|
372,400
|
Consulting
fees owing to persons related to Officers who are also Directors of
the Company
|
76,348
|
-
|
Advances
by Officers of the Company, one of which is also a Director, bears
interest at 1.5% per month
|
552,590
|
-
|
Consulting
fees and directors fees payable to Directors of the
Company
|
113,500
|
141,000
|
|
$2,281,773
|
$1,085,906
|
66
During
the year ended December 31, 2017, the Company settled $87,100 of
fees payable, deferred and otherwise, to two former Directors of
the Company with the issuance of 871,000 Common Shares at a price
of $0.10 per share. The amount allocated to Shareholders’
Deficiency, based on their fair value, amounted to $121,940. The
balance of $34,840 has been recorded as a loss on settlement of
debt.
During
the year ended December 31, 2017, the Company settled $30,000 of
amounts payable to a Director of the Company with the issuance of
300,000 Common Shares at a price of $0.10 per share. The amount
allocated to Shareholders’ Deficiency, based on their fair
value, amounted to $33,000. The balance of $3,000 has been recorded
as a loss on settlement of debt.
During
the year ended December 31, 2016, the Company deferred amounts
payable to a number of related parties. The amounts were
non-interest bearing and payable on April 1, 2018, in exchange for
agreeing to defer the fees, the Directors and Officers would
receive an incentive bonus equal to 10% of the amount deferred and
payable on April 1, 2018. The incentive bonus would be expensed
over the term of the deferrals. During the years ended December 31,
2017 and 2016, the Company expensed $84,343 and $nil, respectively,
in interest expense related to the incentive bonus. During the year
ended December 31, 2016, the Company settled $48,000 of deferred
amounts owing to an Officer and Director of the Company with the
issuance of 480,000 Common Shares at a price of $0.10 per share.
The amount allocated to Shareholders’ Deficiency, based on
their fair value, amounted to $76,800. The balance of $28,800 has
been recorded as a loss on settlement of debt.
(b)
|
Interest accrued to related parties were as follows:
|
|
December 31,
2017
|
December
31,
2016
|
|
|
|
Interest
accrued on advances by Officers of the Company, one of which is
also a Director
|
$413,477
|
$234,121
|
Advances
by and consulting fees payable to a corporation owned by two
Officers of the Company, one of which is also a
Director
|
55,348
|
29,669
|
|
$468,825
|
$263,790
|
During
the year ended December 31, 2017, the Company deferred the interest
owing to related parties until April 30, 2019.
(c)
|
Transactions with related parties were as
follows:
|
During
the year ended December 31, 2017, the Company expensed $nil
(December 31, 2016 – $72,394) in rent expense payable to a
corporation related by virtue of a common Officer and a common
Director of the Company.
During
the year ended December 31, 2017, the Company expensed $20,345
(December 31, 2016 – $22,304) in costs related to vehicles
for the benefit of three Officers, two of which are also Directors
of the Company, and for the benefit of a person related to an
Officer and Director of the Company. The Company also expensed
$129,411 (December 31, 2016 – $206,445) in travel and
entertainment expenses incurred by Officers and Directors of the
Company.
On
December 29, 2017, the Company agreed to issue 1,432,637 Common
Shares, at a price of $0.10 per share, to related parties, on the
conversion of $130,000 in face value of the Convertible Debentures
Series C and the settlement of $13,264 in interest accrued on the
Convertible Debentures Series C. Such Common Shares were issued on
March 29, 2018.
On June
30, 2017, the Company issued 3,042,931 Common Shares, at a price of
$0.10 per share, to an Officer who is also a Director of the
Company, on the conversion of $275,000 in face value of the
Convertible Debentures Series B and the settlement of $29,293 in
interest accrued on the Convertible Debentures Series
B.
On June
30, 2017, the Company issued 121,717 Common Shares, at a price of
$0.10 per share, to a person related to an Officer who is also a
Director of the Company, on the conversion of $11,000 in face value
of the Convertible Debentures Series B and the settlement of $1,171
in interest accrued on the Convertible Debentures Series
B.
67
On June
30, 2017, the Company issued 53,781 Common Shares, at a price of
$0.10 per share, to a Director of the Company, on the conversion of
$5,000 in face value of the Convertible Debentures Series C-1 and
the settlement of $378 in interest accrued on Convertible
Debentures Series C-1.
On
March 21, 2017, the Company issued 1,998,950 Common Shares as part
of private placement units, at a price of $0.10 per private
placement unit, for settlement of $199,895 in amounts owing to
related parties.
On
January 20, 2017, the Company issued 65 units of Convertible
Debentures Series C-3 in settlement of $65,000 owing to a related
party.
During
the year ended December 31, 2016, amounts owing to a former related
party in the amount of $9,263 were forgiven, as a result, the
Company recorded a gain on settlement in the amount of
$9,263.
On June
17, 2016, the Company issued 150,000 Common Shares, at a price of
$0.14 per share, to a person related to an Officer and Director of
the Company, on the signing of a new employment
agreement.
On May
20, 2016, the Company issued face value $55,000 of Convertible
Debentures Series C-1 to related parties consisting of $10,000 to a
person related to an Officer and Director for settlement of fees
payable, $10,000 to a Director of the Company for settlement of
directors fees payable and $35,000 to a corporation owned by two
Officers of the Company, one of which is also a Director, for
settlement of loans payable.
On May
20, 2016, the Company issued face value $15,000 of Convertible
Debentures Series C-1 to two Directors of the Company for
cash.
On
February 2, 2016, the Company settled $48,000 of deferred amounts
owing to an Officer and Director of the Company with the issuance
of 480,000 Common Shares at a price of $0.10 per share. Such Common
Shares were issued on May 19, 2016.
The
Company expensed consulting fees payable to related parties as
follows:
|
December 31,
2017
|
December
31,
2016
|
Officers
|
355,023
|
330,900
|
Persons
related to a Director
|
149,535
|
142,249
|
|
$504,558
|
$473,149
|
The
Company’s Chief Executive Officer and Chief Financial Officer
are both participants of the consortium of Lenders of the Credit
Facility and the Term Loan, each committed to provide a total of
CAD $150,000 of the Term Loan.
On
February 27, 2017 and in connection to the Term Loan Amendment
No.2, the Company agreed to issue 500,000 private placement units,
at a price of $0.10 per unit, for settlement of $50,000 in
financing fees. The Company’s Chief Executive Officer and its
Chief Financial Officer received a total of 93,622 units which
included 93,622 Common Shares and warrants for the purchase of
46,811 Common Shares.
68
Director Independence
As of
this Annual Report, Gerald Goldberg, Dr. Blaise A. Aguirre and
Christopher Rich are the members of the Company’s Board of
Directors who are deemed to be independent as defined in Rule
10A(m)(3) of the Exchange Act. During the fiscal year ended
December 31, 2017, Gerald Goldberg was appointed as Chairman of the
Audit, Compensation and Governance Committees, and Dr. Blaise A.
Aguirre was appointed as Lead Independent Director. During the
fiscal year ended December 31, 2015, Graham Simmonds was appointed
by the Board of Directors to serve as Chairman of the Board of
Directors. Mr. Simmonds is not deemed to be an independent member
of the Board.
The
Company’s Board of Directors currently has an Audit Committee
composed of Gerald Goldberg (Chairman of the Audit Committee and
lead financial expert), Dr. Blaise A. Aguirre (Audit Committee
Member) and Christopher Rich (Audit Committee Member). During the
fiscal year ended December 31, 2017, the Board of Directors
appointed Gerald Goldberg, Dr. Blaise A. Aguirre and Christopher
Rich to serve as members of the Audit Committee, with Gerald
Goldberg to serve as Chairman of the Audit Committee.
The
Company’s Board of Directors does not have a separate
Nominating Committee, Compensation Committee or Governance
Committee, and such functions are addressed by the entire Board.
Although the Board of Directors does not have a separate
Compensation Committee or Governance Committee, Gerald Goldberg
serves as the Chairman of the Compensation and Governance
Committees.
Graham
Simmonds and Daniel Yuranyi are members of the Board of Directors
who are also officers of the Company and are not deemed independent
members of the Board.
ITEM 14. PRINCIPAL ACCOUNTING FEES AND
SERVICES.
On
March 2, 2018, the Company’s Board of Directors engaged MNP
LLP to serve as the Company’s independent registered public
accounting firm for the fiscal year ended December 31,
2017.
(1) Audit Fees
MNP
LLP, the Company’s independent registered public accounting
firm, billed an aggregate of $112,909 (2016 – $85,000)
Canadian Dollars for audit of the Company’s annual
consolidated financial statements for the fiscal year ended
December 31, 2017 and included in the Company’s Annual Report
on Form 10-K.
MNP LLP
billed an aggregate of $64,704 (2016 – $56,175) Canadian
Dollars for review of the Company’s quarterly consolidated
financial statements for the periods ended March 31, June 30 and
September 31, 2017 and included in the Company’s Quarterly
Reports on Form 10-Q.
(2) Audit Related Fees
No
other professional services were rendered by MNP LLP for audit
related services rendered during the fiscal years ended December
31, 2017 and 2016, in connection with, among other things, the
preparation of a Registration Statement on Form 10-K.
(3) Tax Fees
MNP
LLP, the Company’s independent registered public accounting
firm, billed an aggregate of $39,493 (2016 – $83,272)
Canadian Dollars for tax compliance services for the fiscal year
ended December 31, 2017.
(4) All Other Fees
Not
applicable.
ITEM 15. EXHIBITS, FINANCIAL STATEMENT
SCHEDULES.
Financial Statements
Audited
Consolidated Financial Statements of Gilla Inc. for the Years Ended
December 31, 2017 and 2016.
69
Exhibits
Exhibit
Number
|
|
Exhibit Description
|
|
Filed
Herewith
|
|
Incorporated by Reference
|
||||
|
|
|
Form
|
|
Exhibit
|
|
Filing Date
|
|||
|
Articles
of Incorporation.
|
|
|
|
10-SB
|
|
3.1
|
|
11/15/1999
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Articles
of Amendment to the Articles of Incorporation.
|
|
|
|
8-K
|
|
3.2
|
|
5/14/2003
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Bylaws.
|
|
|
|
10-SB
|
|
3.2
|
|
11/15/1999
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Share
Purchase Agreement, by and between the Company and Credifinance
Capital Corp., dated as of June 22, 2012.
|
|
|
|
8-K
|
|
|
|
11/28/2012
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Letter
of Intent, by and between the Company and Snoke Distribution Canada
Ltd., dated as of June 25, 2012.
|
|
|
|
8-K
|
|
|
|
11/28/2012
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loan
Agreement, by and between the Company and Credifinance Capital
Corp., dated as of April 15, 2011.
|
|
|
|
8-K
|
|
|
|
11/28/2012
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loan
Termination Agreement, by and between the Company and Credifinance
Capital Corp., dated as of November 15, 2012.
|
|
|
|
8-K
|
|
|
|
11/28/2012
|
|
|
|
|
|
|
|
|
|
|
|
|
|
New
Loan Agreement, by and between the Company and Credifinance Capital
Corp., dated as of November 15, 2012.
|
|
|
|
8-K
|
|
|
|
11/28/2012
|
|
|
|
|
|
|
|
|
|
|
|
|
|
6%
Convertible Credit Note, by and between the Company and
Credifinance Capital Corp., dated as of November 15,
2012.
|
|
|
|
8-K
|
|
|
|
11/28/2012
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Form of
Gilla Inc. Private Placement Subscription Agreement and Investment
Letter, dated as of November 15, 2012.
|
|
|
|
8-K
|
|
|
|
11/28/2012
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exclusive
Distribution Agreement, by and between Snoke Distribution Canada
Ltd. and Ecoreal GmbH & Co. KG, dated as of November 24,
2011.
|
|
|
|
8-K
|
|
|
|
11/28/2012
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Secured
Note from the Company to Gravitas Financial Inc., dated as of
February 13, 2014.
|
|
|
|
8-K
|
|
|
|
2/19/2014
|
|
|
|
|
|
|
|
|
|
|
|
|
|
General
Security Agreement, by and between the Company and Gravitas
Financial Inc., dated as of February 13, 2014.
|
|
|
|
8-K
|
|
|
|
2/19/2014
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Letter
Agreement, by and between the Company and Drianan Marketing
Limited, dated as of January 22, 2014.
|
|
|
|
10-Q
|
|
|
|
5/21/2014
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Purchase
and Sale Agreement, by and among the Company, Drinan Marketing
Limited, Andrew Hennessy and Michele Hennessy, dated as of January
23, 2014.
|
|
|
|
10-Q
|
|
|
|
5/21/2014
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loan
Agreement (for a Credit Facility), by and between the Company and
Sarasvati Investments Inc., dated as of August 1,
2014.
|
|
|
|
8-K
|
|
|
|
8/8/2014
|
70
|
Intercreditor
and Subordination Agreement, by and among the Company, Sarasvati
Investments Inc., and Gravitas Financial Inc., dated as of August
1, 2014.
|
|
|
|
8-K
|
|
|
|
8/8/2014
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Security
Agreement from the Company to Sarasvati Investments Inc., dated as
of August 1, 2014.
|
|
|
|
8-K
|
|
|
|
8/8/2014
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Secured
Note No.2 from the Company to Gravitas Financial Inc., dated as of
July 15, 2014.
|
|
|
|
10-Q
|
|
|
|
11/18/2014
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Secured
Note Amendment, by and between the Company and Gravitas Financial
Inc., dated November 10, 2014.
|
|
|
|
10-Q
|
|
|
|
11/18/2014
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Secured
Note No.3 from the Company to Gravitas Financial Inc., dated as of
June 29, 2015.
|
|
|
|
10-Q
|
|
|
|
11/20/2015
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Form of
Unsecured Promissory Notes from the Company to the vendors of E
Vapor Labs Inc.
|
|
|
|
10-Q
|
|
|
|
11/20/2015
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Term
Loan Agreement, by and between the Company and Sarasvati
Investments Inc., dated as of January 18, 2016.
|
|
|
|
8-K
|
|
|
|
1/22/2016
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loan
Termination Agreement, by and between the Company and Sarasvati
Investments Inc., dated as of January 18, 2016.
|
|
|
|
8-K
|
|
|
|
1/22/2016
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loan
Agreement, by and between the Company and Gravitas International
Corporation, dated as of March 2, 2016.
|
|
|
|
8-K
|
|
|
|
3/8/2016
|
|
|
|
|
|
|
|
|
|
|
|
|
|
General
Security Agreement, by and between the Company and Gravitas
International Corporation, dated as of March 2, 2016.
|
|
|
|
8-K
|
|
|
|
3/8/2016
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Term
Loan Amendment, by and between the Company and Sarasvati
Investments Inc., dated as of July 15, 2016.
|
|
|
|
8-K
|
|
|
|
7/22/2016
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Bridge
Loan Agreement, by and between Gravitas Financial Inc., dated as of
January 12, 2017.
|
|
|
|
10-K
|
|
|
|
3/31/2017
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Term
Loan Amendment No.2, by and between the Company and Sarasvati
Investments Inc., dated as of February 27, 2017.
|
|
|
|
10-K
|
|
|
|
3/31/2017
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Option
Plan, dated as of June 16, 2017.
|
|
|
|
10-Q
|
|
|
|
8/14/2017
|
|
|
|
|
|
|
|
|
|
|
|
|
|
List of
Subsidiaries.
|
|
X
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Certification
of Chief Executive Officer Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
|
|
X
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Certification
of Chief Financial Officer Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
|
|
X
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Certification
of Chief Executive Officer Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.*
|
|
X
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Certifications
of Chief Financial Officer Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.*
|
|
X
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Audit
Committee Charter.
|
|
|
|
10-K
|
|
99.1
|
|
4/8/2014
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Code of
Ethics.
|
|
|
|
10-K
|
|
99.2
|
|
4/8/2014
|
|
|
|
|
|
|
|
|
|
|
|
|
101.INS
|
|
XBRL
Instance Document
|
|
X
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
101.SCH
|
|
XBRL
Taxonomy Extension Schema
|
|
X
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
101.CAL
|
|
XBRL
Taxonomy Extension Calculation Linkbase
|
|
X
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
101.DEF
|
|
XBRL
Taxonomy Definition Linkbase
|
|
X
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
101.LAB
|
|
XBRL
Taxonomy Extension label Linkbase
|
|
X
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
101.PRE
|
|
XBRL
Taxonomy Extension Presentation Linkbase
|
|
X
|
|
|
|
|
|
|
*
|
This
certification is deemed not filed for purposes of section 18 of the
Securities Exchange Act of 1934, as amended (the “Exchange
Act”), or otherwise subject to the liability of that section,
nor shall it be deemed incorporated by reference into any filing
under the Securities Act or the Exchange Act.
|
71
SIGNATURES
Pursuant
to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to
be signed on its behalf on May 18, 2018 by the
undersigned, thereunto authorized.
|
GILLA
INC.
|
|
|
|
|
|
|
|
By:
|
/s/
Graham
Simmonds
|
|
|
|
Graham
Simmonds
|
|
|
|
Chief Executive
Officer and Principal Executive Officer
|
|
|
By:
|
/s/
Ashish
Kapoor
|
|
|
|
Ashish
Kapoor
|
|
|
|
Chief
Financial Officer and
Principal
Accounting Officer
|
|
Pursuant
to the requirements of the Securities Exchange Act of 1934, this
report has been signed by the following persons on behalf of the
Registrant and in the capacities on the date(s)
indicated.
Name
|
Title
|
Date
|
/s/
Graham Simmonds
|
|
|
Graham
Simmonds
|
Chairman/
CEO
|
May
18, 2018
|
|
|
|
/s/
Gerald Goldberg
|
|
|
Gerald
Goldberg
|
Director
|
May
18, 2018
|
|
|
|
/s/ Dr.
Blaise A. Aguirre
|
|
|
Dr. Blaise A. Aguirre
|
Director
|
May
18, 2018
|
|
|
|
/s/
Daniel Yuranyi
|
|
|
Daniel Yuranyi
|
Director/CPO
|
May
18, 2018
|
|
|
|
/s/
Christopher Rich
|
|
|
Christopher Rich
|
Director
|
May
18, 2018
|
72
GILLA
INC.
CONSOLIDATED
FINANCIAL STATEMENTS
Years
Ended December 31, 2017 and 2016
(Amounts
expressed in US Dollars)
73
TABLE
OF CONTENTS
Report of Independent Registered Public Accounting
Firm
|
F-2
|
|
|
Consolidated Balance Sheets as at December 31, 2017 and
2016
|
F-3
|
|
|
Consolidated Statements of Operations and Comprehensive Loss for
the years ended December 31, 2017 and 2016
|
F-4
|
|
|
Consolidated Statement of Changes in Stockholders’ Deficiency
for the years ended December 31, 2017 and 2016
|
F-5
to F-7
|
|
|
Consolidated Statements of Cash Flows for the years ended December
31, 2017 and 2016
|
F-8
|
|
|
Notes to Consolidated Financial Statements
|
F-9
to F-44
|
F-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING
FIRM
To
the Board of Directors and Stockholders of Gilla
Inc.
Opinion on the Financial Statements
We
have audited the accompanying consolidated balance sheets of Gilla
Inc. and its subsidiaries (the “Company”) as at
December 31, 2017 and 2016, and the related consolidated statements
of operations and comprehensive loss, changes in
stockholders’ deficiency, and cash flows for each of the
years ended December 31, 2017 and 2016, and the related notes and
schedules (collectively referred to as the financial statements).
In our opinion, the financial statements present fairly, in all
material respects, the financial position of the Company as of
December 31, 2017 and 2016, and the results of its operations and
its cash flows for each of the years in the two-year period ended
December 31,2017, in conformity with accounting principles
generally accepted in the United States of
America.
The Company’s Ability to Continue as a Going
Concern
The accompanying
consolidated financial statements have been prepared assuming that
the Company will continue as a going concern. As discussed in Note
2 to the financial statements, the Company’s recurring losses
and negative cash flows from operations as well as working capital
deficiency and accumulated deficit raise substantial doubt about
its ability to continue as a going concern. Management’s
plans concerning these matters are also discussed in Note 2 to the
consolidated financial statements. The consolidated financial
statements do not include any adjustments that might result from
the outcome of this uncertainty.
Basis for Opinion
These
financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on the
Company's financial statements based on our audits. We are a public
accounting firm registered with the Public Company Accounting
Oversight Board (United States) (PCAOB) and are required to be
independent with respect to the Company in accordance with the U.S.
federal securities laws and the applicable rules and regulations of
the Securities and Exchange Commission and the
PCAOB.
We
conducted our audits in accordance with the standards of the PCAOB.
Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements
are free of material misstatement, whether due to error or fraud.
The Company is not required to have, nor were we engaged to
perform, an audit of its internal control over financial reporting.
As part of our audits, we are required to obtain an understanding
of internal control over financial reporting, but not for the
purpose of expressing an opinion on the effectiveness of the
Company's internal control over financial reporting. Accordingly,
we express no such opinion.
Our
audits included performing procedures to assess the risks of
material misstatement of the financial statements, whether due to
error or fraud, and performing procedures that respond to those
risks. Such procedures included examining, on a test basis,
evidence regarding the amounts and disclosures in the financial
statements. Our audits also included evaluating the accounting
principles used and significant estimates made by management, as
well as evaluating the overall presentation of the financial
statements. We believe that our audits provide a reasonable basis
for our opinion.
We have served
as the Company’s auditor since February 12,
2016.
|
|
Toronto,
Ontario
May 3,
2018
|
Chartered
Professional Accountants
Licensed Public
Accountants
|
F-2
Gilla Inc.
Consolidated Balance Sheets
(Amounts expressed in US Dollars)
|
As at
December 31,
2017
|
As at
December 31,
2016
|
ASSETS
|
||
Current
assets
|
|
|
Cash
and cash equivalents
|
$62,292
|
$184,754
|
Trade
receivables (net of allowance for doubtful accounts $161,340
(December 31, 2016 – $nil))
|
232,386
|
80,409
|
Inventory
(note 6)
|
451,318
|
545,135
|
Other
current assets (note 5)
|
175,645
|
251,381
|
Total
current assets
|
921,641
|
1,061,679
|
|
|
|
Long
term assets
|
|
|
Property
and equipment (note 7)
|
285,817
|
93,068
|
Website
development (note 8)
|
5,083
|
7,083
|
Intangibles
(note 9)
|
691,809
|
160,300
|
Goodwill
(note 10)
|
2,376,605
|
889,497
|
Total
long term assets
|
3,359,314
|
1,149,948
|
|
|
|
Total
assets
|
$4,280,955
|
$2,211,627
|
LIABILITIES
|
||
Current
liabilities
|
|
|
Accounts
payable
|
$2,187,712
|
$1,740,071
|
Accrued
liabilities (note 11 and 14)
|
419,436
|
404,633
|
Accrued
interest - related parties (note 20)
|
-
|
263,790
|
Customer
deposits
|
97,400
|
56,834
|
Loans
from shareholders (note 11)
|
257,303
|
429,708
|
Due
to related parties (note 20)
|
252,841
|
1,478,883
|
Promissory
notes (note 14)
|
498,522
|
17,750
|
Amounts
owing on acquisition (note 4)
|
538,952
|
838,317
|
Convertible
debentures (note 15)
|
277,149
|
-
|
Term
loan (note 13)
|
1,051,334
|
1,031,300
|
Total
current liabilities
|
5,580,649
|
6,261,286
|
|
|
|
Long
term liabilities
|
|
|
Promissory
notes (note 14)
|
346,002
|
-
|
Amounts
owing on acquisitions (note 4)
|
1,364,274
|
-
|
Loans
from shareholders (note 11)
|
794,635
|
471,641
|
Accrued
interest - related parties (note 20)
|
468,825
|
-
|
Due
to related parties (note 20)
|
2,281,773
|
1,085,906
|
Convertible
debentures (note 15)
|
-
|
83,704
|
Total
long term liabilities
|
5,255,509
|
1,641,251
|
|
|
|
Total
liabilities
|
10,836,158
|
7,902,537
|
|
|
|
Going
concern (note 2)
|
|
|
Related
party transactions (note 20)
|
|
|
Commitments
and contingencies (note 23)
|
|
|
Subsequent
events (note 26)
|
|
|
STOCKHOLDERS’
DEFICIENCY
|
||
Common
stock: $0.0002 par value, 300,000,000 common shares authorized;
134,869,261 and 100,753,638 common shares issued and outstanding as
of December 31, 2017 and December 31, 2016, respectively (note
16)
|
$26,976
|
$20,151
|
Additional
paid-in capital
|
12,758,700
|
7,047,979
|
Common
shares to be issued (note 19)
|
485,184
|
146,550
|
Accumulated
deficit
|
(19,898,841)
|
(13,250,894)
|
Accumulated
other comprehensive income
|
72,778
|
345,304
|
Total
stockholders’ deficiency
|
(6,555,203)
|
(5,690,910)
|
|
|
|
Total
liabilities and stockholders’ deficiency
|
$4,280,955
|
$2,211,627
|
The
accompanying notes are an integral part of these consolidated
financial statements
F-3
Gilla Inc.
Consolidated Statements of Operations and Comprehensive
Loss
For the Years Ended December 31, 2017 and 2016
(Amounts expressed in US Dollars)
|
2017
|
2016
|
Sales
revenue
|
$4,600,586
|
$4,550,793
|
Cost
of goods sold
|
1,640,684
|
1,927,657
|
Gross
profit
|
2,959,902
|
2,623,136
|
|
|
|
Operating
expenses
|
|
|
Administrative
|
4,903,460
|
5,305,326
|
Consulting
fees - related parties (note 19)
|
504,358
|
473,149
|
Depreciation
(note 7)
|
73,114
|
56,055
|
Amortization
(note 8 and 9)
|
105,337
|
94,000
|
Bad
debt expense
|
299,680
|
256,280
|
Issuance
of stock options
|
1,267,867
|
-
|
Impairment
of fixed assets (note 7)
|
12,228
|
70,142
|
Loss
on sale of fixed asset (note 7)
|
1,537
|
-
|
Impairment
of inventory (note 6)
|
245,430
|
39,124
|
Impairment
of intangible assets (note 9)
|
70,000
|
122,983
|
Impairment
of goodwill (note 10)
|
109,444
|
208,376
|
Gain
on related party settlement (note 19)
|
-
|
(9,263)
|
Loss
on issuance of common shares (note 15)
|
-
|
28,426
|
Gain
on settlement (note 4a and 16)
|
(366,664)
|
(274,051)
|
Total
operating expenses
|
7,225,791
|
6,370,547
|
|
|
|
Loss
from operations
|
(4,265,889)
|
(3,747,411)
|
|
|
|
Other
income (expenses):
|
|
|
Foreign
exchange gain (loss)
|
(260,751)
|
(35,477)
|
Amortization
of debt discount
|
(1,231,445)
|
(94,546)
|
Interest
expense, net
|
(997,897)
|
(622,772)
|
|
|
|
Total
other expenses
|
(2,490,093)
|
(752,795)
|
|
|
|
Net
loss before income taxes
|
(6,755,982)
|
(4,500,206)
|
Income
taxes (note 20)
|
108,035
|
-
|
Net
loss
|
$(6,647,947)
|
$(4,500,206)
|
|
|
|
Loss
per share (basic and diluted)
|
$(0.05)
|
$(0.04)
|
|
|
|
Weighted
average number of common shares outstanding (basic and
diluted)
|
123,383,811
|
100,238,844
|
|
|
|
|
|
|
Comprehensive
loss:
|
|
|
Net
loss
|
$(6,647,947)
|
$(4,500,206)
|
|
|
|
Foreign
exchange translation adjustment
|
(272,526)
|
(14,246)
|
|
|
|
Comprehensive
loss
|
$(6,920,473)
|
$(4,514,452)
|
The
accompanying notes are an integral part of these consolidated
financial statements
F-4
Gilla Inc.
Consolidated Statement of Changes in Stockholders’
Deficiency
For the Years Ended December 31, 2017 and 2016
(Amounts expressed in US Dollars)
|
Common
Stock
|
Additional
Paid-In
|
Shares To
Be
|
Accumulated
|
Accumulated
Other
Comprehensive
|
Total
Stockholders’
|
|
|
Shares
|
Amount
|
Capital
|
Issued
|
Deficit
|
Income
|
Deficiency
|
Balance, December 31,
2015
|
99,560,923
|
$19,913
|
$5,581,585
|
$20,000
|
$(8,750,688)
|
$359,550
|
$(2,769,640)
|
|
|
|
|
|
|
|
|
Common shares to be issued for
conversion of convertible debentures (note 18)
|
-
|
-
|
-
|
23,000
|
-
|
-
|
23,000
|
|
|
|
|
|
|
|
|
Common shares issued
for settlement of deferred fees owing to a related party (note
20)
|
480,000
|
96
|
76,704
|
-
|
-
|
-
|
76,800
|
|
|
|
|
|
|
|
|
Common shares issued for
settlement of consulting fees
|
562,715
|
112
|
78,668
|
(20,000)
|
-
|
-
|
58,780
|
|
|
|
|
|
|
|
|
Common shares issued for
employment income to a related party
|
150,000
|
30
|
20,970
|
-
|
-
|
-
|
21,000
|
|
|
|
|
|
|
|
|
Common shares to be issued for
settlement of consulting fees (note 18)
|
-
|
-
|
-
|
68,550
|
-
|
-
|
68,550
|
|
|
|
|
|
|
|
|
Common shares to be issued for
settlement of consulting fees (note 18)
|
-
|
-
|
-
|
55,000
|
-
|
-
|
55,000
|
|
|
|
|
|
|
|
|
Warrants issued as stock based
compensation (note 17)
|
-
|
-
|
662,777
|
-
|
-
|
-
|
662,777
|
|
|
|
|
|
|
|
|
Warrants issued with convertible
debentures (note 16)
|
-
|
-
|
378,608
|
-
|
-
|
-
|
378,608
|
|
|
|
|
|
|
|
|
Embedded conversion feature of
convertible debentures (note 14)
|
-
|
-
|
248,667
|
-
|
-
|
-
|
248,667
|
|
|
|
|
|
|
|
|
Foreign currency translation
gain
|
-
|
-
|
-
|
-
|
-
|
(14,246)
|
(14,246)
|
|
|
|
|
|
|
|
|
Net loss
|
-
|
-
|
-
|
-
|
(4,500,206)
|
-
|
(4,500,206)
|
|
|
|
|
|
|
|
|
Balance,
December 31, 2016
|
100,753,638
|
$20,151
|
$7,047,979
|
$146,550
|
$(13,250,894)
|
$345,304
|
$(5,690,910)
|
F-5
|
Common
Stock
|
Additional
Paid-In
|
Shares To Be
|
Accumulated
|
Accumulated
Other Comprehensive
|
Total Stockholders’
|
|
|
Shares
|
Amount
|
Capital
|
Issued
|
Deficit
|
Income
|
Deficiency
|
Balance, December 31,
2016
|
100,753,638
|
$20,151
|
$7,047,979
|
$146,550
|
$(13,250,894)
|
$345,304
|
$(5,690,910)
|
|
|
|
|
|
|
|
|
Private placement
units issued for cash, net of issuance costs
|
19,083,818
|
3,817
|
1,814,855
|
-
|
-
|
-
|
1,818,672
|
|
|
|
|
|
|
|
|
Private placement
units issued for settlement of amounts owing to related parties
(note 20(c))
|
1,998,950
|
400
|
199,495
|
-
|
-
|
-
|
199,895
|
|
|
|
|
|
|
|
|
Private placement
units issued for settlement of amounts owing to a shareholder (note
11(i))
|
226,920
|
45
|
22,647
|
-
|
-
|
-
|
22,692
|
|
|
|
|
|
|
|
|
Common shares issued
for settlement of amounts owing to a
shareholder
|
320,022
|
65
|
49,935
|
(50,000)
|
-
|
-
|
-
|
|
|
|
|
|
|
|
|
Common shares issued
for settlement of consulting fees owing to unrelated
parties
|
510,382
|
103
|
73,447
|
(73,550)
|
-
|
-
|
-
|
|
|
|
|
|
|
|
|
Common shares issued
for settlement of amounts owing to a director of the Company (note
20(a))
|
300,000
|
60
|
32,940
|
-
|
-
|
-
|
33,000
|
|
|
|
|
|
|
|
|
Common shares issued
for settlement of amounts owing as charitable contributions to an
unrelated party (note 23(d))
|
300,000
|
60
|
35,940
|
-
|
-
|
-
|
36,000
|
|
|
|
|
|
|
|
|
Common shares issued
as employment income to an unrelated party
|
50,000
|
10
|
5,990
|
-
|
-
|
-
|
6,000
|
|
|
|
|
|
|
|
|
Common shares issued
for settlement of fees owing to former directors of the Company
(note 20(a))
|
871,000
|
174
|
121,766
|
-
|
-
|
-
|
121,940
|
|
|
|
|
|
|
|
|
Common shares issued
on conversion of convertible debentures to unrelated parties (note
15)
|
3,220,000
|
644
|
321,356
|
-
|
-
|
-
|
322,000
|
|
|
|
|
|
|
|
|
Common shares issued
on conversion of convertible debentures to related parties (note
15)
|
2,910,000
|
582
|
290,418
|
-
|
-
|
-
|
291,000
|
|
|
|
|
|
|
|
|
Common shares issued
on settlement of interest owing on convertible debentures to
unrelated parties (note 15)
|
285,822
|
57
|
28,525
|
-
|
-
|
-
|
28,582
|
F-6
Common shares issued
on settlement of interest owing on convertible debentures to
related parties (note 15)
|
308,429
|
62
|
30,781
|
-
|
-
|
-
|
30,843
|
|
|
|
|
|
|
|
|
Private placement
units issued for settlement of financing fees related to an
amendment of the term loan (note 13)
|
500,000
|
100
|
48,385
|
-
|
-
|
-
|
48,485
|
|
|
|
|
|
|
|
|
Common shares issued
as part of a private placement to unrelated parties (note
19)
|
730,280
|
146
|
72,882
|
-
|
-
|
-
|
73,028
|
|
|
|
|
|
|
|
|
Common shares issued
as part of acquisition of subsidiary (note
4(c))
|
2,500,000
|
500
|
349,500
|
-
|
-
|
-
|
350,000
|
|
|
|
|
|
|
|
|
Common shares issued
on conversion of convertible debentures to unrelated parties (note
15)
|
-
|
-
|
-
|
295,000
|
-
|
-
|
295,000
|
|
|
|
|
|
|
|
|
Common shares issued
on conversion of convertible debentures to related parties (note
15)
|
-
|
-
|
-
|
130,000
|
-
|
-
|
130,000
|
|
|
|
|
|
|
|
|
Common shares to be
issued on settlement of interest owing on convertible debentures to
unrelated parties (note 15)
|
-
|
-
|
-
|
23,920
|
-
|
-
|
23,920
|
|
|
|
|
|
|
|
|
Common shares to be
issued on settlement of interest owing on convertible debentures to
related parties (note 15)
|
-
|
-
|
-
|
13,264
|
-
|
-
|
13,264
|
|
|
|
|
|
|
|
|
Issuance of stock
options (note 18 and 21)
|
-
|
-
|
1,267,867
|
-
|
-
|
-
|
1,267,867
|
|
|
|
|
|
|
|
|
Warrants issued as
stock based compensation (note 18)
|
-
|
-
|
507,215
|
-
|
-
|
-
|
507,215
|
|
|
|
|
|
|
|
|
Warrants issued with
convertible debentures (note 17)
|
-
|
-
|
43,737
|
-
|
-
|
-
|
43,737
|
|
|
|
|
|
|
|
|
Warrants issued as
part of acquisition of subsidiary (note 17)
|
-
|
-
|
252,631
|
-
|
-
|
-
|
252,631
|
|
|
|
|
|
|
|
|
Warrants issued with
notes and loans
|
-
|
-
|
109,146
|
-
|
-
|
-
|
109,146
|
|
|
|
|
|
|
|
|
Embedded conversion
feature of convertible debentures (note 15)
|
-
|
-
|
31,263
|
-
|
-
|
-
|
31,263
|
|
|
|
|
|
|
|
|
Foreign currency
translation gain
|
-
|
-
|
-
|
-
|
-
|
(272,526)
|
(272,526)
|
|
|
|
|
|
|
|
|
Net
loss
|
-
|
-
|
-
|
-
|
(6,647,947)
|
-
|
(6,647,947)
|
|
|
|
|
|
|
|
|
Balance,
December 31, 2017
|
134,869,261
|
$26,976
|
$12,758,700
|
$485,184
|
$(19,898,841)
|
$72,778
|
$(6,555,203)
|
The
accompanying notes are an integral part of these consolidated
financial statements
F-7
Gilla Inc.
Consolidated Statements of Cash Flows
For the Years Ended December 31, 2017 and 2016
(Amounts Expressed in US Dollars)
|
2017
|
2016
|
CASH FLOWS FROM OPERATING ACTIVITIES:
|
|
|
Net
loss
|
$(6,647,947)
|
$(4,500,206)
|
Items not requiring an outlay of cash
|
|
|
Depreciation
|
73,114
|
56,055
|
Amortization
|
105,337
|
94,000
|
Stock
based compensation (note 17)
|
1,781,082
|
811,481
|
Interest
on amounts owing on acquisition
|
-
|
9,583
|
Bad
debt expense
|
299,680
|
256,280
|
Interest
on promissory notes
|
-
|
39,772
|
Amortization
of debt discount on debentures
|
1,231,445
|
94,546
|
Gain
on related party settlement
|
-
|
9,263
|
Loss
on issuance of common shares (note 15)
|
-
|
28,426
|
Gain
on settlement (note 4d)
|
(366,664)
|
(274,052)
|
Accrued
interest on related party deferrals
|
88,890
|
-
|
Interest
on term loan
|
173,035
|
-
|
Impairment
of inventory
|
245,430
|
39,124
|
Amortization
of debt discount on notes and loans
|
282,706
|
-
|
Impairment
of intangible assets
|
70,000
|
122,983
|
Impairment
of goodwill
|
109,444
|
208,376
|
Loss
on sale of fixed asset
|
1,537
|
-
|
Impairment
of fixed assets
|
12,228
|
70,142
|
Income
tax
|
(108,035)
|
-
|
Changes in operating assets and liabilities
|
|
|
Trade
receivable
|
(426,078)
|
(311,174)
|
Other
current assets
|
162,748
|
(147,283)
|
Inventory
|
12,113
|
(439,019)
|
Accounts
payable
|
238,021
|
1,175,835
|
Accrued
liabilities
|
64,802
|
153,116
|
Customer
deposits
|
1,957
|
(313,413)
|
Due
to related parties
|
497,174
|
759,689
|
Amounts
owing on acquisition
|
-
|
(45,000)
|
Bank
indebtedness
|
(5,389)
|
-
|
Interest
owing on term loan
|
-
|
29,472
|
Accrued
interest-related parties
|
205,035
|
132,035
|
Net cash used in operating activities
|
(1,898,335)
|
(1,939,969)
|
|
|
|
CASH FLOWS FROM INVESTING ACTIVITIES:
|
|
|
Disposal
(addition) of capital assets
|
(63,145)
|
(78,841)
|
Acquisition
of businesses
|
-
|
-
|
Website
development
|
-
|
-
|
Net cash used in investing activities
|
(63,145)
|
(78,841)
|
|
|
|
CASH FLOWS FROM FINANCING ACTIVITIES:
|
|
|
Repayments
to promissory notes
|
(56,484)
|
-
|
Proceeds
from promissory notes
|
658,260
|
-
|
Payments
of amounts owing on acquisitions
|
(60,000)
|
-
|
Repayments
to credit facility
|
(283,413)
|
-
|
Proceeds
from term loan
|
-
|
783,629
|
Repayments
to term loan
|
-
|
(78,485)
|
Loans
to subsidiary prior to acquisition
|
-
|
-
|
Shareholder
loans received
|
150,380
|
470,467
|
Shareholder
loans paid
|
-
|
-
|
Proceeds
from related parties
|
252,299
|
659,038
|
Repayments
to related parties
|
(509,311)
|
(260,510)
|
Repayments
of convertible debentures
|
-
|
(75,000)
|
Proceeds
from sale of convertible debentures
|
-
|
562,275
|
Proceeds
from issuance of common shares
|
1,868,671
|
-
|
Net cash provided by financing activities
|
2,020,402
|
2,061,414
|
Effect
of exchange rate changes on cash
|
(181,384)
|
60,454
|
|
|
|
Net increase in cash
|
(122,462)
|
103,058
|
|
|
|
Cash at beginning of year
|
184,754
|
81,696
|
|
|
|
Cash at end of year
|
$62,292
|
$184,754
|
|
|
|
Supplemental Schedule of Cash Flow Information:
|
|
|
Cash
paid for interest
|
$229,559
|
$116,507
|
Cash
paid for income taxes
|
$-
|
$-
|
|
|
|
Non cash financing activities:
|
|
|
Common
shares issued in settlement of related party and shareholder
loans
|
$222,587
|
$-
|
Common
shares issued in settlement of related party deferred
fees
|
$154,940
|
$76,800
|
Common
shares issued for settlement of interest payable
|
$59,028
|
$-
|
Common
shares issued/to be issued for settlement of consulting and
marketing fees payable
|
$-
|
$55,000
|
Debentures
issued for settlement of related party and shareholder
loans
|
$75,000
|
$35,000
|
Debentures
issued for settlement of amounts owing to an employee
|
$-
|
$10,000
|
Debentures
issued for payment of consulting fees payable to related
parties
|
$-
|
$20,000
|
The
accompanying notes are an integral part of these consolidated
financial statements
F-8
Gilla
Inc.
Notes to Consolidated Financial Statements
December 31, 2017 and 2016
(Amounts expressed in US Dollars)
1. NATURE OF OPERATIONS
Gilla
Inc. (“Gilla”, the “Company” or the
“Registrant”) was incorporated under the laws of the
state of Nevada on March 28, 1995 under the name of Truco, Inc. The
Company’s registered address is 475 Fentress Blvd., Unit L,
Daytona Beach, Florida 32114.
The current business of the Company consists of the manufacturing,
marketing and distribution of E-liquid (“E-liquid”),
which is the liquid used in vaporizers and electronic cigarettes
(“E-cigarettes”), and developer of turn-key vapor and
cannabis concentrate solutions for high-terpene vape oils, pure
crystalline, high-performance vape pens and other targeted
products.
2. GOING CONCERN
These consolidated 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. As shown in these consolidated financial statements, at
December 31, 2017, the Company has an accumulated deficit of
$19,898,841 (December 31, 2016 – $13,250,894) and a working
capital deficiency of $4,659,008 (December 31, 2016 –
$5,199,697 as well as negative cash flows from operating activities
of $1,898,335 (December 31, 2016 – $1,939,969) for the year
ended December 31, 2017. These conditions represent material
uncertainty that cast significant doubts about the Company's
ability to continue as a going concern. The ability of the Company
to continue as a going concern is dependent upon achieving a
profitable level of operations or on the ability of the Company to
obtain necessary financing to fund ongoing operations. Management
believes that the Company will not be able to continue as a going
concern for the next twelve months without additional financing or
increased revenues.
To meet these objectives, the Company continues to seek other
sources of financing in order to support existing operations and to
expand the range and scope of its business. However, there are no
assurances that any such financing can be obtained on acceptable
terms and in a timely manner, if at all. Failure to obtain the
necessary working capital would have a material adverse effect on
the business prospects and, depending upon the shortfall, the
Company may have to curtail or cease its operations.
These consolidated financial statements do not include any
adjustments to the recorded assets or liabilities, that might be
material, should the Company have to curtail operations or be
unable to continue in existence.
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a)
Basis of
Preparation
The
Company's consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the
United States of America (“U.S. GAAP”) for annual
financial statements and with Form 10-K and article 8 of the
Regulation S-X of the United States Securities and Exchange
Commission (“SEC”).
(b)
Basis of
Consolidation
These
consolidated financial statements include the accounts of the
Company and its wholly owned subsidiaries: Gilla Operations, LLC; E
Vapor Labs Inc. (“E Vapor Labs”); Gilla Enterprises
Inc. (“Gilla Enterprises”) and its wholly owned
subsidiaries Gilla Europe Kft., Gilla Operations Europe s.r.o. and
Vape Brands International Inc. (“VBI”); E-Liq World,
LLC; Charlie’s Club, Inc.; Gilla Operations Worldwide Limited
(“Gilla Worldwide”); Gilla Franchises, LLC and its
wholly owned subsidiary Legion of Vape, LLC; and Snoke Distribution
Canada Ltd. and its wholly owned subsidiary Snoke Distribution USA,
LLC. All inter-company accounts and transactions have been
eliminated in preparing these consolidated financial
statements.
F-9
(c)
Foreign Currency
Translation
The
Company’s Canadian subsidiaries maintain their books and
records in Canadian Dollars (CAD) which is also their functional
currency. The Company’s Irish and Slovakian subsidiaries
maintain their books and records in Euros (EUR) which is also their
functional currency. The Company’s Hungarian subsidiary
maintains its books and records in Hungarian Forint (HUF) which is
also its functional currency. The Company and its U.S. subsidiaries
maintain their books and records in United States Dollars (USD)
which is both the Company’s functional currency and reporting
currency. The accounts of the Company are translated into United
States Dollars in accordance with provisions of Financial
Accounting Standards Board (“FASB”) Accounting
Standards Codification (“ASC”) No. 830, Foreign Currency Matters (“ASC
830”). Transactions denominated in currencies other than the
functional currency are translated into the functional currency at
the exchange rates prevailing at the dates of the transaction.
Monetary assets and liabilities denominated in foreign currencies
are translated using the exchange rate prevailing at the balance
sheet date. Non-monetary assets and liabilities are translated
using the historical rate on the date of the transaction. Revenue
and expenses are translated at average rates in effect during the
reporting periods. All exchange gains or losses arising from
translation of these foreign currency transactions are included in
net income (loss) for the period. In translating the financial
statements of the Company's foreign subsidiaries from their
functional currencies into the Company's reporting currency of
United States Dollars, balance sheet accounts are translated using
the closing exchange rate in effect at the balance sheet date and
income and expense accounts are translated using an average
exchange rate prevailing during the reporting period. Adjustments
resulting from the translation, if any, are included in accumulated
other comprehensive income in stockholders' equity. The Company has
not, as at the date of these consolidated financial statements,
entered into derivative instruments to offset the impact of foreign
currency fluctuations.
(d)
Earnings (Loss) Per
Share
Basic
earnings (loss) per share is computed by dividing net income (loss)
by the weighted average number of Common Shares outstanding for the
period, computed under the provisions of ASC No. 260-10,
Earnings per Share
(“ASC 260-10”). Diluted earnings (loss) per share is
computed by dividing net income (loss) by the weighted average
number of Common Shares outstanding plus common stock equivalents
(if dilutive) related to convertible preferred stock, stock options
and warrants for each period. There were no common stock equivalent
shares outstanding at December 31, 2017 and 2016 that have been
included in the diluted loss per share calculation as the effects
would have been anti-dilutive.
(e)
Cash and Cash
Equivalents
The
Company considers all highly liquid investments with original
maturities of three months or less to be cash
equivalents.
(f)
Financial
Instruments
Financial assets
and financial liabilities are recognized in the balance sheet when
the Company has become party to the contractual provisions of the
instruments.
The
Company’s financial instruments consist of cash and cash
equivalents, trade receivables, accounts payable, accrued interest,
due to related parties, accrued liabilities, customer deposits,
promissory notes, convertible debentures, loans from shareholders,
amounts owing on acquisitions and term loans. The fair values of
these financial instruments approximate their carrying value, due
to their short term nature. Fair value of a financial instrument is
defined as the price that would be received to sell an asset or
paid to transfer a liability in an orderly transaction between
market participants at the measurement date. The Company’s
financial instruments recorded at fair value in the consolidated
balance sheets are categorized based upon the level of judgment
associated with the inputs used to measure their fair value.
Hierarchical levels, defined by ASC No. 820, Fair Value Measurement and Disclosure
(“ASC 820”),
with the related amount of subjectivity associated with the inputs
to value these assets and liabilities at fair value for each level,
are as follows:
Level
1:
|
-
|
Unadjusted quoted
prices in active markets for identical assets or
liabilities;
|
Level
2:
|
-
|
Observable inputs
other than Level 1 prices such as quoted prices for
similar assets or liabilities; quoted prices in markets with
insufficient volume or infrequent transactions (less active
markets); or model-derived valuations in which all significant
inputs are observable or can be derived principally from or
corroborated by observable market data for substantially the full
term of the assets or liabilities; and
|
Level
3:
|
-
|
Inputs
that are not based on observable market data.
|
F-10
Cash
and cash equivalents are reflected on the consolidated balance
sheets at fair value and classified as Level 1 hierarchy because
measurements are determined using quoted prices in active markets
for identical assets.
(g)
Advertising
Costs
In
accordance with ASC No. 720, Other
Expenses (“ASC 720”), Company expenses all
advertising costs as incurred. During the year ended December 31,
2017, the Company expensed $261,974 (December 31, 2016 –
$315,174) as corporate promotions which have been recorded as an
administrative expense.
(h)
Revenue
Recognition
The
Company records revenue when the following criteria are met:
persuasive evidence of an arrangement exists; delivery has
occurred; the selling price to the customer is fixed and
determinable; and collectability is reasonably assured. Customers
take delivery at the time of shipment for terms designated free on
board shipping point. For sales designated free on board
destination, customers take delivery when the product is delivered
to the customer's delivery site. Provisions for sales incentives,
product returns, and discounts to customers are recorded as an
offset to revenue in the same period the related revenue is
recorded.
(i)
Property and
Equipment
Property and
Equipment is measured at cost less accumulated depreciation and
accumulated impairment losses. Costs include expenditures that are
directly attributable to the acquisition of the asset. Gains and
losses on disposal of an item of property and equipment is
determined by comparing the proceeds from disposal with the
carrying amount of the property and equipment which is recognized
in the statement of operations.
Depreciation is
recognized in the statement of operations on a straight-line basis
over the estimated useful lives of each part of an item of property
and equipment, since this most closely reflects the expected
pattern of consumption of the future economic benefits embodied in
the asset.
The
estimated useful lives of the respective assets are as
follows:
Furniture
and equipment:
|
3
years
|
Computer
hardware:
|
3
years
|
Manufacturing
equipment:
|
3
years
|
Depreciation
methods, useful lives and residual values are reviewed at each
financial year-end and adjusted if appropriate.
(j)
Inventory
Inventory consists
of finished E-liquid bottles, E-liquid components, bottles,
E-cigarettes and accessories as well as related packaging.
Inventory is stated at the lower of cost as determined by the
first-in, first-out (FIFO) cost method, or market value. The
Company measures inventory write-downs as the difference between
the cost of inventory and market value. At the point of any
inventory write-downs to market, the Company establishes a new,
lower cost basis for that inventory, and any subsequent changes in
facts and circumstances do not result in the restoration of the
former cost basis or increase in that newly established cost
basis.
The
Company reviews sales and returns from the preceding 12 months as
well as future demand forecasts and writes off any excess or
obsolete inventory. The Company also assesses inventory for
obsolescence by testing inventory to ensure they have been properly
stored and maintained so that they will perform according to
specifications. In addition, the Company assesses the market for
competing products to determine if existing inventory will be
competitive in the marketplace.
If
there were to be a sudden and significant decrease in future demand
for the Company’s products, or if there were a higher
incidence of inventory obsolescence because of rapidly changing
technology or customer demands, the Company could be required to
write down inventory, and accordingly, gross margin could be
adversely affected.
(k)
Shipping and
Handling Costs
The
Company does not record any shipping income. When the Company
charges its customers a cost associated with shipping and handling,
it records that cost in administrative expenses as an offset to the
Company’s shipping expense. During the year ended December
31, 2017, the Company expensed $462,716 (December 31, 2016 –
$341,749) as shipping expense which have been recorded as an
administrative expense.
F-11
(l)
Income
Taxes
The
Company follows ASC No. 740-10, Income Taxes (“ASC
740-10”), which requires the recognition of deferred tax
assets and liabilities for the expected future tax consequences of
events that have been included in the consolidated financial
statements or tax returns. Under this method, deferred tax assets
and liabilities are determined based on the difference between
financial statements and tax bases of assets and liabilities using
enacted tax rates in effect for the year in which the differences
are expected to reverse. Temporary differences between taxable
income reported for financial reporting purposes and income tax
purposes include, but are not limited to, accounting for
intangibles, debt discounts associated with convertible debt,
equity based compensation and depreciation and amortization. A
valuation allowance is provided to reduce the deferred tax assets
reported if, based on the weight of available evidence, it is more
likely than not that some portion or all of the deferred tax assets
will not be realized.
(m)
Impairment of Long
Lived Assets
Long-lived assets
to be held and used by the Company are periodically reviewed to
determine whether any events or changes in circumstances indicate
that the carrying amount of the asset may not be recoverable. For
long-lived assets to be held and used, the Company bases its
evaluation on impairment indicators such as the nature of the
assets, the future economic benefit of the assets, any historical
or future profitability measurements, as well as other external
market conditions or factors that may be present. In the event that
facts and circumstances indicate that the carrying amount of an
asset or asset group may not be recoverable and an estimate of
future undiscounted cash flows is less than the carrying amount of
the asset, an impairment loss will be recognized for the difference
between the carrying value and the fair value.
(n)
Goodwill
Goodwill represents
the excess purchase price over the estimated fair value of net
assets acquired by the Company in business combinations. The
Company accounts for goodwill and intangible assets in accordance
with ASC No. 350, Intangibles-Goodwill and Other
(“ASC 350”). ASC 350 requires that goodwill and other
intangibles with indefinite lives be tested for impairment annually
or on an interim basis if events or circumstances indicate that the
fair value of an asset has decreased below its carrying value. In
addition, ASC 350 requires that goodwill be tested for impairment
at the reporting unit level (operating segment or one level below
an operating segment) on an annual basis and between annual tests
when circumstances indicate that the recoverability of the carrying
amount of goodwill may be in doubt. Application of the goodwill
impairment test requires judgment, including the identification of
reporting units, assigning of assets and liabilities to reporting
units, assigning of goodwill to reporting units, and determining
the fair value. Significant judgments required to estimate the fair
value of reporting units include estimating future cash flows,
determining appropriate discount rates and other assumptions.
Changes in these estimates and assumptions or the occurrence of one
or more confirming events in future periods could cause the actual
results or outcomes to materially differ from such estimates and
could also affect the determination of fair value and/or goodwill
impairment at future reporting dates.
(o)
Comprehensive
Income or Loss
The
Company reports comprehensive income or loss in its consolidated
financial statements. In addition to items included in net income
or loss, comprehensive income or loss includes items charged or
credited directly to stockholders’ equity, such as foreign
currency translation adjustments and unrealized gains or losses on
available for sale marketable securities.
(p)
Use of
Estimates
The
preparation of consolidated financial statements in conformity with
U.S. GAAP 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
consolidated financial statements and the reported amounts of
revenue and expenses during the period. Actual results could differ
from these estimates, and such differences could be
material. The key sources of estimation uncertainty at the
balance sheet date, which have a significant risk of causing a
material adjustment to the carrying amounts of assets within the
next financial year, include reserves and write downs of
receivables and inventory, useful lives and impairment of property
and equipment, impairment of goodwill, accruals, valuing stock
based compensation, valuing equity securities, valuing options or
convertible debentures and deferred taxes and related valuation
allowances. Certain of the Company’s estimates could be
affected by external conditions, including those unique to the
Company’s industry and general economic conditions. It
is possible that these external factors could have an effect on the
Company’s estimates that could cause actual results to differ
from its estimates. The Company re-evaluates all of its
accounting estimates at least quarterly based on the conditions and
records adjustments when necessary.
F-12
(q)
Website Development
Costs
Under the provisions of ASC No.
350, Intangibles –
Goodwill and Other (“ASC 350”), the Company
capitalizes costs incurred in the website application and
infrastructure development stage. Capitalized costs are amortized
over the estimated useful life of websites which the Company
considers to be five years. Ongoing website post-implementation
cost of operations, including training and application, will be
expensed as incurred.
(r)
Convertible Debt Instruments
The
Company accounts for convertible debt instruments when the Company
has determined that the embedded conversion options should not be
bifurcated from their host instruments in accordance with ASC No.
470-20, Debt with Conversion and
Other Options (“ASC 470-20”). The Company
records, when necessary, discounts to convertible notes for the
intrinsic value of conversion options embedded in debt instruments
based upon the differences between the fair value of the underlying
common stock at the commitment date of the note transaction and the
effective conversion price embedded in the note. The Company
amortizes the respective debt discount over the term of the notes,
using the straight-line method, which approximates the effective
interest method. The Company records, when necessary, induced
conversion expense, at the time of conversion for the difference
between the reduced conversion price per share and the original
conversion price per share.
(s)
Warrants
The
Company accounts for common stock purchase warrants at fair value
in accordance with ASC No. 815-40, Derivatives and Hedging (“ASC
815-40”). The Black-Scholes option pricing valuation method
is used to determine the fair value of warrants consistent with ASC
No. 718, Compensation –
Stock Compensation (“ASC 718”). Use of this
method requires that the Company make assumptions regarding stock
value, dividend yields, expected term of the warrants and risk free
interest rates.
(t)
Stock Issued in
Exchange for Services
The
valuation of the Company’s common stock issued in exchange
for services is valued at an estimated fair market value as
determined by the most readily determinable value of either the
stock or services exchanged.
(u)
Intangible
Assets
On
acquisition, intangible assets, other than goodwill, are initially
recorded at their fair value. Following initial recognition,
intangible assets with a finite life are amortized on a straight
line basis over their useful lives. Useful lives are assessed at
year end.
The
following useful lives are used in the calculation of
amortization:
Brands:
|
|
5
years
|
Customer
relationships:
|
|
5
years
|
(v)
Recently Adopted
Accounting Pronouncements
In
November 2015, the FASB issued Accounting Standards Update
(“ASU”) No. 2015-17, Income Taxes (Topic 740): Balance Sheet
Classification of Deferred Taxes (“ASU
2015-17”). ASU 2015-17 simplifies the presentation of
deferred income taxes by eliminating the separate classification of
deferred income tax liabilities and assets into current and
noncurrent amounts in the consolidated balance sheet statement of
financial position. The amendments in the update require that all
deferred tax liabilities and assets be classified as noncurrent in
the consolidated balance sheet. The amendments in this update are
effective for annual periods beginning after December 15, 2016, and
interim periods therein and may be applied either prospectively or
retrospectively to all periods presented. Adoption of ASU 2015-17
did not have an impact on the Company’s consolidated
financial statements.
In
March 2016, the FASB issued ASU No. 2016-09, Compensation – Stock Compensation
(Topic 718): Improvements to
Employee Share-Based Payment Accounting (“ASU
2016-09”). This
update requires that all excess tax benefits and tax deficiencies
arising from share-based payment awards should be recognized as
income tax expense or benefit on the income statement. The
amendment also states that excess tax benefits should be classified
along with other income tax cash flows as an operating activity. In
addition, an entity can make an entity-wide accounting policy
election to either estimate the number of awards expected to vest
or account for forfeitures as they occur. The provisions of this
update are effective for annual and interim periods beginning
after December 15, 2016. Adoption of ASU 2016-09 did not have
an impact on the Company’s consolidated financial
statements.
F-13
In
October 2016, the FASB issued ASU No. 2016-17, Consolidation (Topic 810): Interests Held
through Related Parties That Are under Common Control
(“ASU 2016-17”). The new guidance changed how a
reporting entity that is a single decision maker for a variable
interest entity (“VIE”) will consider its indirect
interests in that VIE when determining whether the reporting entity
is the primary beneficiary and should consolidate the VIE. Under
previous U.S. GAAP, a single decision maker in a VIE is required to
consider an indirect interest held by a related party under common
control in its entirety. Under ASU 2016-17, the single decision
maker will consider the indirect interest on a proportionate basis.
Adoption of ASU 2016-17 did not have an impact on the
Company’s consolidated financial statements.
(d)
Recent Accounting
Pronouncements
The
Company has reviewed all recently issued, but not yet effective,
accounting pronouncements and other than the below, does not expect
the future adoption of any such pronouncements to have a
significant impact on its results of operations, financial
condition or cash flow.
In May 2014, the FASB issued ASU
No. 2014-09, Revenue from Contracts with
Customers (Topic 606) (“ASU 2014-09”), requiring an entity
to recognize revenue when it transfers promised goods or services
to customers in an amount that reflects the consideration to which
the entity expects to be entitled to in exchange for those goods or
services. ASU 2014-09 will supersede nearly all existing revenue
recognition guidance under U.S. GAAP when it becomes
effective. ASU 2014-09 as amended by ASU No. 2015-14, ASU No.
2016-08, ASU No. 2016-10, ASU No. 2016-12 and ASU No. 2016-20, is
effective for interim and annual periods beginning after
December 15, 2017 and is applied on either a modified
retrospective or full retrospective basis. The Company has
evaluated the guidance and has determined that it will have no
impact on its consolidated financial statements.’
In
February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842)
(“ASU 2016-02”). ASU
2016-02 requires lessees to recognize all leases with terms in
excess of one year on their balance sheet as a right-of-use asset
and a lease liability at the commencement date. The new standard
also simplifies the accounting for sale and leaseback transactions.
The amendments in this update are effective for annual periods
beginning after December 15, 2018, and interim periods therein and
must be adopted using a modified retrospective method for leases
existing at, or entered into after, the beginning of the earliest
comparative period presented in the financial statements. Early
adoption is permitted. The Company is evaluating the guidance and
has not yet determined the impact on its consolidated financial
statements.
In April 2016, the FASB issued ASU No.
2016-10, Revenue from Contracts with
Customers (Topic
606): Identifying Performance
Obligations and Licensing (“ASU 2016-10”). ASU 2016-10 clarifies
the following two aspects of Topic 606: identifying performance
obligations and the licensing implementation guidance, while
retaining the related principles for those areas. The provisions of
this update are effective for annual and interim periods beginning
after December 15, 2017, with early application permitted. The
Company has evaluated the guidance and has determined that it will
have no impact on its consolidated financial
statements.
In May 2016, the FASB issued ASU No.
2016-12, Revenue from Contracts with
Customers (Topic 606):
Narrow-Scope
Improvements and Practical Expedients (“ASU 2016-12”). The core principal of
ASU 2016-12 is the recognition of revenue to depict the transfer of
promised goods or services to customers in an amount that reflects
the consideration to which the entity expects to be entitled in
exchange for those goods or services. The provisions of this
update are effective for annual and interim periods beginning
after December 15, 2017, with early application permitted. The
Company has evaluated the guidance and has determined that it will
have no impact on its consolidated financial
statements.
In June 2016, the FASB issued ASU No.
2016-13, Financial Instruments –
Credit Losses (Topic 326): Measurement of Credit Losses on
Financial Instruments (“ASU 2016-13”), which requires
financial assets measured at amortized cost be presented at the net
amount expected to be collected. The allowance for credit losses is
a valuation account that is deducted from the amortized cost basis.
The measurement of expected losses is based upon historical
experience, current conditions, and reasonable and supportable
forecasts that affect the collectability of the reported amount.
This guidance is effective for fiscal years beginning
after December 15, 2019, with early adoption permitted. The
Company is evaluating the guidance and has not yet determined the
impact on its consolidated financial
statements.
F-14
In August 2016, the FASB issued ASU No.
2016-15, Statement of Cash Flows (Topic
230): Classification of Certain Cash Receipts and Cash Payments (a
consensus of the Emerging Issues Task Force) (“ASU 2016-15”), which clarifies how
certain cash receipts and cash payments are presented and
classified in the statement of cash flows. Among other
clarifications, the guidance requires that cash proceeds received
from the settlement of corporate-owned life insurance (COLI)
policies be classified as cash inflows from investing activities
and that cash payments for premiums on COLI policies may be
classified as cash outflows for investing activities, operating
activities or a combination of both. The guidance is effective for
fiscal years beginning after December 15, 2017, with early
adoption permitted. Retrospective application is required. The
Company has evaluated the guidance and has determined that it will
have no impact on its consolidated financial
statements.
In October 2016, the FASB issued ASU No.
2016-16, Income Taxes (Topic 740):
Intra-Entity Transfers of Assets Other Than Inventory
("ASU 2016-16"). ASU 2016-16 prohibits
the recognition of current and deferred income taxes for an
intra-entity transfer until the asset has been sold to an outside
party. The amendment in ASU 2016-16 is effective for annual
reporting periods beginning after December 15, 2017, including
interim reporting periods within those annual reporting periods.
The Company has evaluated the guidance and has determined that it
will have no impact on its consolidated financial
statements.
In
January 2017, the FASB issued ASU No. 2017-04, Intangibles-Goodwill and Other
(Topic 350): Simplifying the Test for Goodwill Impairment
(“ASU 2017-04”). The new
guidance eliminates the requirement to calculate the implied fair
value of goodwill (Step 2 of the current two-step goodwill
impairment test under ASC 350). Instead, entities will record an
impairment charge based on the excess of a reporting unit’s
carrying amount over its fair value (Step 1 of the current two-step
goodwill impairment test). ASU 2017-04 is effective prospectively
for reporting periods beginning after December 15, 2019, with early
adoption permitted for annual and interim goodwill impairment
testing dates after January 1, 2017. The Company is evaluating the
guidance and has not yet determined the impact on its consolidated
financial statements.
In May 2017, the FASB issued ASU No.
2017-09, Compensation-Stock
Compensation (Topic 718): Scope of Modification Accounting
(“ASU 2017-09”). ASU
2017-09 clarifies which changes to the terms or conditions of a
share-based payment award require an entity to apply modification
accounting in Topic 718. The standard is effective for interim and
annual reporting periods beginning after December 15, 2017, with
early adoption permitted. The Company has evaluated the guidance
and has determined that it will have no impact on its consolidated
financial statements.
In July 2017, the FASB issued ASU No.
2017-11, Earnings Per Share (Topic 260)
Distinguishing Liabilities from Equity (Topic 480) Derivatives and
Hedging (Topic 815): I. Accounting for Certain Financial
Instruments with Down Round Features; II. Replacement of the
Indefinite Deferral for Mandatorily Redeemable Financial
Instruments of Certain Nonpublic Entities and Certain Mandatorily
Redeemable Noncontrolling Interests with a Scope Exception
(“ASU 2017-11”). ASU
2017-11 allows a financial instrument with a down-round feature to
no longer automatically be classified as a liability solely based
on the existence of the down-round provision. The update also means
the instrument would not have to be accounted for as a derivative
and be subject to an updated fair value measurement at each
reporting period. The standard is effective for interim and annual
reporting periods beginning after December 15, 2018, with early
adoption permitted. The Company is evaluating the guidance and has
not yet determined the impact on its consolidated financial
statements.
4. AMOUNTS OWING ON ACQUISITIONS
The
Company has outstanding current amounts owing on acquisitions as
follows:
|
December
31,
2017
|
December
31,
2016
|
Unsecured
Promissory Notes(a)
|
$-
|
$783,317
|
Promissory Note
Settlement(a)
|
120,000
|
-
|
Due to TMA
Vendors(b)
|
55,000
|
55,000
|
Earn-Out on VBI
acquisition(c)
|
209,487
|
-
|
VTB on VBI
acquisition (c)
|
154,465
|
-
|
|
$538,952
|
$838,317
|
F-15
The
Company has outstanding long term amounts owing on acquisitions as
follows:
|
December
31,
2017
|
December
31,
2016
|
Promissory Note
Settlement(a)
|
$270,967
|
$-
|
Earn-Out on VBI
acquisition(c)
|
871,825
|
-
|
VTB on VBI
acquisition(c)
|
221,482
|
-
|
|
$1,364,274
|
$-
|
(a)
On July 1, 2015,
the Company acquired all of the issued and outstanding shares of E
Vapor Labs, a Florida based E-liquid manufacturer. The Company
acquired E Vapor Labs in order to procure an E-liquid manufacturing
platform allowing the Company to secure large private label
contracts as well as manufacture its own brands going
forward.
In
consideration for the acquisition, the Company paid to the vendors,
$225,000 in cash and issued $900,000 in unsecured promissory notes
on closing (collectively, the “Unsecured Promissory
Notes”). The Unsecured Promissory Notes were issued in three
equal tranches of $300,000 due four (4), nine (9) and eighteen (18)
months respectfully from closing (individually, “Promissory
Notes A”, “Promissory Notes B”, and
“Promissory Notes C”, respectively). The Unsecured
Promissory Notes were all unsecured and non-interest bearing. The
Unsecured Promissory Notes were all and each subject to adjustments
as outlined in the share purchase agreement (the
“SPA”), dated June 25, 2015.
At
December 31, 2015, the Company adjusted the Promissory Notes A for
$116,683 which was the known difference in the working capital
balance at closing of the acquisition from the amount specified in
the SPA. Furthermore, a 12% discount rate was used to calculate the
present value of the Unsecured Promissory Notes based on the
Company’s estimate of cost of financing for comparable
instruments with similar term and risk profiles. Over the term of
the respective Unsecured Promissory Notes, interest was accrued at
12% per annum to accrete the Unsecured Promissory Notes to their
respective principal amounts. During the year ended December 31,
2017, the Company recorded $nil in interest expense related to the
accretion of the Unsecured Promissory Notes (December 31, 2016 -
$39,772).
|
Promissory
Notes A
|
Promissory
Notes B
|
Promissory
Notes C
|
Total
|
Present
value at December 31, 2015
|
$203,573
|
$291,620
|
$267,857
|
$763,050
|
Measurement period
adjustment
|
(19,505)
|
-
|
-
|
(19,505)
|
Interest expense
related to accretion
|
(751)
|
8,380
|
32,143
|
39,772
|
Present
value at December 31, 2016
|
$183,317
|
$300,000
|
$300,000
|
$783,317
|
On
August 30, 2017, the Company entered into a settlement agreement
(the “Promissory Note Settlement”) with the holders of
the Unsecured Promissory Notes to settle all claims between them.
As a result of the Promissory Note Settlement, the Company agreed
to settle the Unsecured Promissory Notes with a total payment of
$600,000 payable as two (2) payments of $20,000 due September 21,
2017 and October 21, 2017 and $10,000 per month for the following
fifty-six (56) months beginning November 21, 2017. The Company may
prepay the balance of the Promissory Note Settlement at any time
and would receive a 10% discount on the outstanding balance upon
doing so. A 15% discount rate has been used to calculate the
present value of the Promissory Note Settlement based on the
Company’s estimate of cost of financing for comparable
instruments with similar term and risk profiles. The present value
of the Promissory Note Settlement was calculated to be $431,033,
and as a result, the Company has recorded a gain on settlement in
the amount of $352,284. Over the term of the Promissory Note
Settlement, interest will be accrued at 15% per annum to accrete
the Promissory Note Settlement to its respective principal amount.
During the year ended December 31, 2017, the Company recorded
$19,934 in interest expense related to the accretion of the
Promissory Note Settlement (December 31, 2016 - $nil).
|
Total
|
Present value of
Promissory Note Settlement at the settlement date
|
$431,033
|
Payments
made
|
(60,000)
|
Interest expense
related to accretion
|
19,934
|
Less: Current
amount owing
|
(120,000)
|
Present
value at December 31, 2017
|
$270,967
|
|
|
F-16
(b)
On December 2, 2015, the
Company acquired all of the assets of The Mad Alchemist, LLC
(“TMA”), an E-liquid manufacturer, including the
assets, rights and title to own and operate The Mad
Alchemist™ and Replicant E-liquid brands (the “TMA
Brands”).
In
consideration for the acquisition, the Company issued 819,672
Common Shares valued at $0.122 per share for a total value of
$100,000; agreed to pay a total of $400,000 in deferred payments
(the “Amounts Owing on Acquisition”), payable in ten
(10) equal payments of $20,000 in cash and $20,000 in Common Shares
every three (3) months following the closing date; and agreed to a
quarterly earn-out based on the gross profit stream derived from
product sales of the TMA Brands. The earn-out commenced on the
closing date and payed up to a maximum of 25% of the gross profit
stream. Furthermore, a 12% discount rate had been used to calculate
the present value of the Amounts Owing on Acquisition. Over the
term of the respective deferred payments, interest was accrued at
12% per annum to accrete the payments to their respective principal
amounts. No earn-out had ever been achieved and the Company has
since retired the TMA Brands. During the year ended December 31,
2017, the Company recorded $nil in interest expense related to the
accretion of the Amounts Owing on Acquisition (December 31, 2016
– $9,582).
On
April 15, 2016, the Company entered into a settlement agreement
(the “TMA Settlement Agreement”) with TMA and the
vendors of TMA (collectively, the “TMA Vendors”).
Subject to the terms and conditions of the TMA Settlement
Agreement, the parties settled: (i) any and all compensation and
expenses owing by the Company to the TMA Vendors and (ii) the
$400,000 of Amounts Owing on Acquisition in exchange for the
Company paying to the TMA Vendors a total settlement consideration
of $133,163 payable as $100,000 in cash and $33,163 in the
Company’s assets as a payment-in-kind. Of the $100,000
payable in cash under the TMA Settlement Agreement, $45,000 was
paid upon execution of the settlement, $27,500 was payable thirty
(30) days following execution of the settlement and the remaining
$27,500 was payable at the later of: (i) sixty (60) days following
execution of the settlement or (ii) the completion of the
historical audit of TMA. As a result of the TMA Settlement
Agreement, the Company has recorded a gain on settlement in the
amount of $274,051. As at December 31, 2017, $55,000 (December 31,
2016 – $55,000) remains payable to the TMA Vendors. In
addition, the Company and the TMA Vendors mutually terminated all
employment agreements between the Company and the TMA Vendors,
entered into on the closing date of the acquisition by the Company,
and all amounts were fully settled pursuant to the TMA Settlement
Agreement. Due to the change in circumstances, during the year
ended December 31, 2016, the Company tested goodwill and
intangibles for impairment and as a result, the Company has fully
impaired goodwill and intangible assets related to the acquired
assets of TMA in the amount of $208,376 and $122,983, respectively,
which formerly represented the value of brands, customer
relationships, workforce and business acumen acquired.
(c)
On July 31, 2017,
the Company’s wholly owned subsidiary, Gilla Enterprises,
acquired all of the issued and outstanding shares of VBI, a
Canada-based E-liquid manufacturer and distributor.
The
following summarizes the preliminary fair value of the assets
acquired, liabilities assumed and the consideration transferred at
the acquisition date:
Assets acquired:
|
Preliminary Allocation
|
Cash
|
$1,377
|
Receivables
|
5,576
|
Other current assets
|
74,598
|
Inventory
|
83,820
|
Fixed assets
|
214,765
|
Intangible assets
|
704,846
|
Goodwill
|
1,596,553
|
Total assets acquired
|
$2,681,535
|
|
|
Liabilities assumed:
|
|
Bank
indebtedness
|
$5,597
|
Accounts
payable
|
218,028
|
Customer
deposits
|
33,008
|
Loans
payable
|
112,218
|
Capital
lease
|
125,893
|
Due
to related parties
|
15,707
|
Deferred
tax liability
|
186,793
|
Total liabilities assumed
|
$697,244
|
|
|
Consideration:
|
|
Issuance
of Common Shares
|
$350,000
|
Issuance
of warrants
|
252,631
|
Vendor
Take Back
|
356,443
|
Earn
out
|
1,025,217
|
Total consideration
|
$1,984,291
|
F-17
In consideration for the acquisition, the Company paid to the
vendors of VBI the following consideration: (i) 2,500,000 Common
Shares of the Company valued at $0.14 per share for a total value
of $350,000; (ii) warrants for the purchase of 2,000,000 Common
Shares of the Company exercisable over twenty-four (24) months at
an exercise price of $0.20 per share from the closing date, such
warrants vesting in five (5) equal tranches every four (4) months
following the closing date; (iii) a total of CAD $550,000 in
non-interest bearing, unsecured vendor-take-back loans (the
“VTB”) due over twenty-four (24) months, with principal
repayments beginning five (5) months from the closing date until
maturity of up to CAD $25,000 per month; and (iv) an earn-out (the
“Earn-Out”) capped at: (a) the total cumulative amount
of CAD $2,000,000; or (b) five (5) years from the closing date. The
Earn-Out shall be calculated as: 15% of the gross profit generated
in Canada by VBI’s co-pack and distribution business; 10% of
the revenue generated in Canada by Gilla’s existing E-liquid
brands; and 15% of the revenue generated globally on VBI’s
existing E-liquid brands. Furthermore, the Earn-Out shall be
calculated and paid to the vendors of VBI quarterly in arrears and
only as 50% of the aforementioned amounts on incremental revenue
between CAD $300,000 and CAD $600,000 per quarter and 100% of the
aforementioned amounts on incremental revenue above CAD $600,000
per quarter with the Earn-Out payable to the vendors in the fifth
year repeated and paid to the vendors in four (4) quarterly
payments after the end of the Earn-Out period, subject to the
cumulative limit of the Earn-Out. No Earn-Out shall be payable to
the vendors of VBI if total revenue for the Earn-Out calculation
period is less than CAD $300,000 per quarter. A 15% discount rate
has been used to calculate the present value of the Earn-Out on the
Company’s estimate of cost of financing for comparable
instruments with similar term and risk profiles. Over the term of
the respective Earn-Out, interest will be accrued at 15% per annum
to accrete the Earn-Out to maximum payable amount.
|
Total
|
Present value of
Earn-Out at the acquisition date
|
$1,025,217
|
Interest expense
related to accretion
|
59,110
|
Exchange rate
differences
|
(3,015)
|
Less: Current
amount owing
|
(209,487)
|
Present
value at December 31, 2017
|
$871,825
|
|
|
A 15%
discount rate has been used to calculate the present value of the
VTB based on the Company’s estimate of cost of financing for
comparable instruments with similar term and risk profiles. Over
the term of the VTB, interest will be accrued at 15% per annum to
accrete the VTB to its respective principal amount.
|
Total
|
Present value of
the VTB at the acquisition date
|
$356,443
|
Interest expense
related to accretion
|
26,681
|
Exchange rate
differences
|
(7,177)
|
Less: Current
amount owing
|
(154,465)
|
Long term portion at December 31, 2017
|
$221,482
|
The
results of operations of VBI have been included in the consolidated
statements of operations from the acquisition date. The following
table presents pro forma results of operations of the Company and
VBI as if the companies had been combined as of January 1, 2016.
The unaudited condensed combined pro forma information is presented
for informational purposes only. The unaudited pro forma results of
operations are not necessarily indicative of results that would
have occurred had the acquisition taken place at the beginning of
the earliest period presented, or of future results.
|
December
31,
2017
|
December
31,
2016
|
Pro forma
revenue
|
$5,564,473
|
$5,984,345
|
Pro forma loss from
operations
|
$4,539,534
|
$3,816,691
|
Pro forma net
loss
|
$7,034,982
|
$4,522,221
|
F-18
5. OTHER CURRENT ASSETS
Other
current assets consist of the following:
|
December
31,
2017
|
December
31,
2016
|
Vendor
deposits
|
$22,760
|
$13,256
|
Prepaid
expenses
|
17,240
|
90,021
|
Trade
currency
|
23,550
|
45,000
|
Other
receivables
|
112,095
|
103,104
|
|
$175,645
|
$251,381
|
Other
receivables include VAT receivable, HST receivable and holdback
amounts related to the Company’s merchant services
accounts.
6. INVENTORY
Inventory
consists of the following:
|
December
31,
2017
|
December
31,
2016
|
Vaping hardware and
accessories
|
$-
|
$105,496
|
E-liquid bottles -
finished goods
|
104,092
|
181,392
|
E-liquid
components
|
113,620
|
158,050
|
Bottles and
packaging
|
233,606
|
100,197
|
|
$451,318
|
$545,135
|
During the year ended December 31, 2017, the Company wrote off
$245,430 in obsolete inventory consisting of $148,134 in obsolete
inventory held in the Company’s warehouse in Europe and
$97,296 of inventory held on consignment. During the year ended
December 31, 2016, the Company wrote off $39,124 in obsolete
inventory consisting of $14,671 in obsolete inventory held in the
Company’s warehouse in Europe and $24,453 in obsolete
inventory held in the United States. No provision has been recorded
against inventory.
During
the years ended December 31, 2017 and 2016, the Company expensed
$1,640,684 and $1,927,657, respectively, of inventory as cost of
goods sold. At December 31, 2017, the full amount of the
Company’s inventory serves as collateral for the
Company’s secured borrowings.
7. PROPERTY AND EQUIPMENT
Property
and equipment consist of the following:
|
December
31,
2017
|
December
31,
2016
|
||
|
Cost
|
Accumulated
Depreciation
|
Net
|
Net
|
Furniture and
equipment
|
$79,061
|
$37,305
|
$41,756
|
$45,917
|
Leasehold
improvements
|
75,064
|
13,160
|
61,904
|
-
|
Computer
hardware
|
39,298
|
20,392
|
18,906
|
15,985
|
Manufacturing
equipment
|
213,992
|
50,741
|
163,251
|
31,166
|
|
$407,415
|
$121,598
|
$285,817
|
$93,068
|
During
the year ended December 31, 2017, the Company closed its office in
Hungary, and as a result, wrote off the value of the fixed assets
located on the premises in the amount of $12,228. During the year
ended December 31, 2017, the Company sold manufacturing equipment
to a related party which resulted in loss on sale of fixed asset in
the amount of $1,537. During the year ended December 31, 2016, the
Company wrote off $70,142 of manufacturing equipment that was not
in working order and that the Company was unable to
sell.
During
the years ended December 31, 2017 and 2016, the Company expensed
$73,114 and $56,055, respectively, in depreciation. At December 31,
2017, the full amount of the Company’s property and equipment
serves as collateral for the Company’s secured
borrowings.
F-19
8. WEBSITE DEVELOPMENT
Website
development consists of the following:
|
December
31,
2017
|
December
31,
2016
|
||
|
Cost
|
Accumulated
Amortization
|
Net
|
Net
|
VaporLiq
website
|
$10,000
|
$4,917
|
$5,083
|
7,083
|
Amortization
expense on website development for the years ended December 31,
2017 and 2016 amounted to $2,000 for each year. The estimated
amortization expense for the years ended December 31, 2018 and 2019
approximates $2,000 per year. For the year ended December 31, 2020,
estimated amortization expense approximates $1,083.
9. INTANGIBLE ASSETS
Intangible
assets consist of the following:
|
December 31,
2017
|
December
31,
2016
|
||
|
Cost
|
Accumulated Amortization
|
Net
|
Net
|
Brands
|
$394,413
|
$51,701
|
$342,712
|
$37,000
|
Customer
relationships
|
393,433
|
44,336
|
349,097
|
123,300
|
|
$787,846
|
$96,037
|
$691,809
|
$160,300
|
|
|
|
|
|
During the year ended December 31, 2017, the Company determined
that the customer relationships acquired through the acquisition of
E Vapor Labs were impaired due to changes in the marketplace that
caused the Company to move in a direction different from the
acquired E Vapor Labs business that serviced those customers. As a
result, the Company recorded an impairment of intangible assets in
the amount of $70,000.
During
the year ended December 31, 2016, the Company determined that the
intangible assets acquired through the acquisition of the assets of
TMA were impaired, and as a result, the Company recorded an
impairment of intangible assets in the amount of
$122,983.
Amortization expense on intangible assets for the years ended
December 31, 2017 and 2016 amounted to $103,337 and $92,000,
respectively. The estimated amortization expense for the years
ended December 31, 2018 and 2019 approximates $157,564 per year.
For the years ended December 31, 2020, December 31, 2021 and
December 31, 2022 estimated amortization expense approximates
$153,464, $140,964 and $82,253, respectively.
10. GOODWILL
|
December 31,
2017
|
December
31,
2016
|
Opening balance
|
$889,497
|
$1,252,084
|
Measurement
period adjustment
|
-
|
(154,211)
|
Acquisition
of VBI (Note 4)
|
1,596,553
|
-
|
Impairment
|
(109,444)
|
(208,376)
|
End of period
|
$2,376,606
|
$889,497
|
|
|
|
During the year ended December 31, 2017, the Company tested
goodwill for impairment, and as a result, the Company fully
impaired goodwill related to the acquisition of the assets of Vapor
Liq in the amount of $109,444 which formerly represented the value
of business acumen and access to key E-liquid brands acquired. The
goodwill has been impaired as it is difficult to allocate value
to VaporLiq business acumen and new purchases of brands are not due
to business acumen acquired from the acquisition.
During
the year ended December 31, 2016, the Company tested goodwill for
impairment, and as a result, the Company fully impaired goodwill
related to the acquisition of the assets of TMA in the amount of
$208,376 which formerly represented the value of workforce and
business acumen acquired.
F-20
11. LOANS FROM SHAREHOLDERS
The
Company has outstanding current loans from shareholders as
follows:
|
December
31,
2017
|
December
31,
2016
|
Non-interest
bearing, unsecured, no specific terms of repayment(i)
|
$-
|
$5,000
|
Bears interest of
1.5% per month on a cumulative basis, unsecured, no specific terms
of repayment(ii)
|
13,116
|
23,223
|
Bears interest of
6% per annum on a cumulative basis, secured by the assets of the
Company, matures on March 2, 2018(v)
|
244,187
|
401,485
|
|
$257,303
|
$429,708
|
The
Company has outstanding long term loans from shareholders as
follows:
|
December
31,
2017
|
December
31,
2016
|
Bears interest of
10% per annum on a cumulative basis, secured by the assets of the
Company, matures on April 30, 2019(iii)
|
$351,679
|
$350,962
|
Bears interest of
10% per annum on a cumulative basis, secured by the assets of the
Company, matures on April 30, 2019(iv)
|
90,828
|
95,728
|
Bears interest of
10% per annum on a cumulative basis, secured by the assets of the
Company, matures on April 30, 2019(vi)
|
144,611
|
-
|
Bears interest of
10% per annum on a cumulative basis, secured by the assets of the
Company, matures on April 30, 2019(vii)
|
207,517
|
-
|
Bears interest of
6% per annum on a cumulative basis, secured by the assets of the
Company, matures on March 2, 2018(v)
|
-
|
24,951
|
|
$794,635
|
$471,641
|
(i)
During the year
ended December 31, 2017, amounts owing to a shareholder increased
from $5,000 to $22,692 which was then fully settled through the
issuance of 226,920 private placement units at a price of $0.10 per
unit. Each unit consisted of one Common Share and a half Common
Share purchase warrant exercisable over twelve months at an
exercise price of $0.20 per share.
(ii)
During the year
ended December 31, 2017, the Company accrued interest of $5,621 on
this shareholder loan (December 31, 2016 – $5,992). Total
accrued interest owing on such shareholder loan at December 31,
2017 was $19,341 (December 31, 2016 – $12,784) which is
included in accrued liabilities. During the year ended December 31,
2017, $10,000 of amounts owing on such shareholder loan was settled
with the issuance of face value $10,000 of Convertible Debentures
Series C-3 (note 15) and $3,512 was settled with cash.
(iii)
On
February 13, 2014, the Company entered into a secured promissory
note (the “Secured Note”) with a shareholder, whereby
the Company agreed to pay the party the aggregate unpaid principal
amount of CAD $500,000 on or before August 13, 2014, bearing
interest at a rate of 10% per annum, such interest to accrue
monthly and added to the principal. The Secured Note is secured by
a general security agreement granting a general security interest
over all the assets of the Company. During the years ended December
31, 2014 and 2015, the Company and the shareholder extended the
maturity date of the Secured Note to January 1, 2016 and July 1,
2017, respectively. During the years ended December 31, 2016 and
2017, the Company and the shareholder extended the maturity date of
the Secured Note to July 1, 2018 and April 30, 2019, respectively.
In connection to the maturity date extensions, the Company issued
warrants for the purchase of Common Shares (note 17(l and hh)). The
relative fair value of the warrants issued were recorded as debt
discount to be amortized over the life of the loan. At December 31,
2017, the value of the Secured Note was $351,679 (December 31, 2016
– $350,962) including a debt discount of $46,871. During the
years ended December 31, 2017 and 2016, the Company expensed
$15,531 and $15,178, respectively, in interest expense related to
the amortization of the debt discount. The amendments to the
Secured Note were accounted for as a modification of debt and no
gain or loss was recognized on the amendments.
During
the year ended December 31, 2017, the Company accrued interest of
$51,805 on the Secured Note (December 31, 2016 – $44,888).
Total accrued interest owing on the Secured Note at December 31,
2017 was $151,948 (December 31, 2016 – $93,221) which is
included in accrued liabilities.
F-21
(iv)
On
July 15, 2014, the Company entered into a secured promissory note
(the “Secured Note No.2”) with a shareholder, whereby
the Company agreed to pay the party the aggregate unpaid principal
amount of $100,000 on or before July 18, 2014, bearing interest at
a rate of 10% per annum, such interest to accrue monthly and added
to the principal. The Secured Note No.2 is secured by the general
security agreement issued with the Secured Note. During the years
ended December 31, 2014 and 2015, the Company and the shareholder
extended the maturity date of the Secured Note No.2 to January 1,
2016 and July 1, 2017, respectively. During the years ended
December 31, 2016 and 2017, the Company and the shareholder
extended the maturity date of the Secured Note No.2 to July 1, 2018
and April 30, 2019, respectively. In connection to the maturity
date extensions, the Company issued warrants for the purchase of
Common Shares (note 17(l and hh)). The relative fair value of the
warrants issued were recorded as debt discount to be amortized over
the life of the loan. At December 31, 2017, the value of the
Secured Note No.2 was $90,828 including a debt discount of $9,172
(December 31, 2016 – $95,728). During the years ended
December 31, 2017 and 2016, the Company expensed $3,292 and $3,052,
respectively, in interest expense related to the amortization of
the debt discount. The amendments to the Secured Note were
accounted for as a modification of debt and no gain or loss was
recognized on the amendments.
During
the year ended December 31, 2017, the Company accrued interest of
$13,105 on the Secured Note No.2 (December 31, 2016 –
$11,863). Total accrued interest owing on the Secured Note No.2 at
December 31, 2017 was $38,257 (December 31, 2016 – $25,152)
which is included in accrued liabilities.
(v)
On March 2, 2016,
the Company entered into a loan agreement (the “Loan
Agreement”) with a shareholder, whereby the shareholder would
make available to the Company the aggregate principal amount of CAD
$670,000 (the “Shareholder Loan”) for capital
expenditures, marketing expenditures and working capital. Under the
terms of the Loan Agreement, the Shareholder Loan was made
available to the Company in two equal tranches of CAD $335,000, for
a total loan amount of CAD $670,000, with the first tranche
(“Loan Tranche A”) received on March 3, 2016 and the
second tranche (“Loan Tranche B”) received on April 14,
2016. At December 31, 2016, CAD $52,000 of the Loan Tranche B was
being held in trust by the shareholder to be released on the
incurrence of specific expenses. The Shareholder Loan bears
interest at a rate of 6% per annum, on the outstanding principal,
and shall mature on March 2, 2018, whereby any outstanding
principal together with all accrued and unpaid interest thereon
shall be due and payable. The Company shall also repay 5% of the
initial principal amount of Loan Tranche A and 5% of Loan Tranche
B, monthly in arrears, with the first principal repayment beginning
on June 30, 2016. The Company may elect to repay the outstanding
principal of the Shareholder Loan together with all accrued and
unpaid interest thereon prior to maturity without premium or
penalty. The Company also agreed to service the Shareholder Loan
during the term prior to making any payments to the Company’s
Chief Executive Officer, Chief Financial Officer and Board of
Directors. The Shareholder Loan is secured by a general security
agreement granting a general security interest over all the assets
of the Company. On March 2, 2016 and in connection to the Loan
Agreement, the Company issued warrants for the purchase of
1,000,000 Common Shares exercisable until March 2, 2018 at an
exercise price of $0.20 per share. The warrants shall vest in two
equal tranches, with 500,000 warrants to vest upon the close of
Loan Tranche A and the remaining 500,000 warrants to vest upon the
close of Loan Tranche B. On March 3, 2016 and April 14, 2016, the
Company closed Loan Tranche A and Loan Tranche B, respectively, at
which dates the warrants became fully vested and exercisable (note
17(g)). The relative fair value of the warrants issued were
recorded as debt discount to be amortized over the life of the
loan. At December 31, 2017, the value of the Shareholder Loan was
$244,187 (December 31, 2016 – $401,485) including a debt
discount of $10,885. During the years ended December 31, 2017 and
2016, the Company expensed $61,695 and $55,920, respectively, in
interest expense related to the amortization of the debt discount.
During the year ended December 31, 2017, CAD $350,000 of the
Shareholder Loan was assumed by a separate shareholder (see (vii)
below).
During
the year ended December 31, 2017, the Company accrued interest of
$31,510 on the Shareholder Loan (December 31, 2016 –
$22,832). Total accrued interest owing on the Shareholder Loan at
December 31, 2017 was $53,941 (December 31, 2016 – $23,433)
which is included in accrued liabilities. At December 31, 2017, the
Company owes the shareholder $255,072 in principal payments
(December 31, 2016 - $174,656).
(vi)
On January 12,
2017, the Company entered into a bridge loan agreement (the
“Bridge Loan Agreement”) with a shareholder, whereby
the shareholder would make available to the Company the aggregate
principal amount of CAD $200,000 (the “Bridge Loan”) in
two equal tranches of CAD $100,000. The Company received the first
tranche on January 12, 2017 (“Bridge Loan Note A”) and
the second tranche on January 18, 2017 (“Bridge Loan Note
B”). The Bridge Loan is non-interest bearing and matured on
March 12, 2017. Pursuant to the terms of the Bridge Loan Agreement,
the shareholder received a 5% upfront fee upon the closing of
Bridge Loan Note A and a 5% upfront fee upon the closing of Bridge
Loan Note B. The Bridge Loan is secured by the general security
agreement issued in connection to the Secured Note. On January 12,
2017 and in connection to the Bridge Loan Agreement, the Company
issued warrants for the purchase of 50,000 Common Shares
exercisable until January 11, 2018 at an exercise price of $0.20
per share, with 25,000 warrants to vest upon the closing of Bridge
Loan Note A and the remaining 25,000 warrants vest upon the closing
of Bridge Loan Note B. On January 12, 2017 and January 18, 2017,
the Company closed Bridge Loan Note A and Bridge Loan Note B,
respectively, at which dates the warrants became fully vested and
exercisable (note 17(n)). During the year ended December 31, 2017,
the Company and the shareholder extended the maturity date of
Bridge Loan to April 30, 2019 and, commencing on November 15, 2017,
the Company began accruing interest at a rate of 10% per annum. In
connection to the amendment, the Company issued warrants for the
purchase of Common Shares (note 17(hh)). The relative fair value of
the warrants issued were recorded as debt discount to be amortized
over the life of the loan. At December 31, 2017, the value of the
Bridge Loan was $144,611 including a debt discount of $14,808
(December 31, 2016 – $nil). During the years ended December
31, 2017 and 2016, the Company expensed $1,576 and $nil,
respectively, in interest expense related to the amortization of
the debt discount. The amendment to the Bridge Loan was accounted
for as a modification of debt and no gain or loss was recognized on
the amendments.
F-22
During
the year ended December 31, 2017, the Company accrued interest of
$1,998 on the Bridge Loan (December 31, 2016 – $nil). Total
accrued interest owing on the Bridge Loan at December 31, 2017 was
$1,998 (December 31, 2016 – $nil) which is included in
accrued liabilities.
(vii)
On November 15,
2017, CAD $350,000 of the Shareholder Loan was assumed by a
separate shareholder (the “Shareholder Loan No.2”).
Upon assumption of the Shareholder Loan No.2, CAD $52,000 (USD
$41,449) was offset by the amount held in trust by the shareholder
under the Shareholder Loan (see (v) above) and CAD $11,000 (USD
$8,769) was forgiven by the shareholder. During the year ended
December 31, 2017 and as a result of the loan forgiveness, the
Company recorded a gain on loan settlement in the amount of $8,221
and the principal amount due under the Shareholder Loan No.2 was
CAD $287,000. The Company agreed to repay the unpaid principal
amount of the Shareholder Loan No.2 on or before April 30, 2019,
bearing interest at a rate of 10% per annum, such interest to
accrue monthly and due at maturity. In connection to the amendment,
the Company issued warrants for the purchase of Common Shares (note
17(hh)). The relative fair value of the warrants issued were
recorded as debt discount to be amortized over the life of the
loan. At December 31, 2017, the value of the Shareholder Loan No.2
was $207,517 including a debt discount of $21,251 (December 31,
2016 – $nil). During the years ended December 31, 2017 and
2016, the Company expensed $2,262 and $nil, respectively, in
interest expense related to the amortization of the debt
discount.
During
the year ended December 31, 2017, the Company accrued interest of
$2,868 on the Shareholder Loan No.2 (December 31, 2016 –
$nil). Total accrued interest owing on the Shareholder Loan No.2 at
December 31, 2017 was $2,868 (December 31, 2016 – $nil) which
is included in accrued liabilities.
12. CREDIT FACILITY
On
August 1, 2014, the Company entered into a revolving credit
facility (the “Credit Facility”) with an unrelated
party acting as an agent to a consortium of participants (the
“Lenders”), whereby the Lenders would make a revolving
credit facility in the aggregate principal amount of CAD $500,000
for the exclusive purpose of purchasing inventory for sale in the
Company’s ordinary course of business to approved customers.
The Credit Facility charged interest at a rate of 15% per annum on
all drawn advances and a standby fee of 3.5% per annum on the
undrawn portion of the Credit Facility. The Credit Facility matured
on August 1, 2015 whereby the outstanding advances together with
all accrued and unpaid interest thereon would be due and payable.
On August 1, 2014, and in connection to the Credit Facility, the
Company issued warrants for the purchase of 250,000 Common Shares
exercisable over two years at an exercise price of $0.30 per share.
The Company’s Chief Executive Officer and Chief Financial
Officer were both participants of the consortium of participants of
the Credit Facility, each having committed to provide ten percent
of the principal amount of the Credit Facility. The Credit Facility
was secured by all of the Company’s inventory and accounts
due relating to any inventory as granted in an intercreditor and
subordination agreement by and among the Company, the Secured Note
holder and the Lenders to establish the relative rights and
priorities of the secured parties against the Company and a
security agreement by and between the Company and the
Lenders.
During
the year ended December 31, 2014, the Company was advanced $387,110
(CAD $449,083) from the Credit Facility for the purchase of
inventory including $77,453 (CAD $89,852) of advances from the
Company’s Chief Executive Officer and Chief Financial Officer
as their participation in the Credit Facility.
On
April 24, 2015, the Company was advanced $89,590 (CAD $124,000)
from the Credit Facility including $17,918 (CAD $24,800) of
advances from the Company’s Chief Executive Officer and Chief
Financial Officer as their participation in the Credit
Facility.
On
September 1, 2015, the Company was advanced $122,825 (CAD $170,000)
from the Credit Facility including $24,565 (CAD $34,000) of
advances from the Company’s Chief Executive Officer and Chief
Financial Officer as their participation in the Credit
Facility.
On
January 18, 2016, and in connection to the Term Loan (note 13), the
Company and the Lenders entered into a loan termination agreement
whereby the Company and the Lenders terminated and retired the
Credit Facility. As a result, CAD $294,000 in amounts advanced from
the Credit Facility and CAD $3,093 in accrued interest owing on the
Credit Facility were rolled into the Term Loan.
During
the year ended December 31, 2017, the Company paid $nil of interest
and standby fees as a result of the Credit Facility (December 31,
2016 – $2,189).
F-23
13. TERM LOAN
On
January 18, 2016, the Company entered into a term loan (the
“Term Loan”) with the Lenders, whereby the Lenders
would loan the Company the aggregate principal amount of CAD
$1,000,000 for capital expenditures, marketing expenditures and
working capital. The agent who arranged the Term Loan was not a
related party of the Company. The Term Loan bears interest at a
rate of 16% per annum, on the outstanding principal, and was to
mature on July 3, 2017, whereby any outstanding principal together
with all accrued and unpaid interest thereon shall be due and
payable. The Term Loan is secured under the intercreditor and
subordination agreement as well as the security agreement issued in
connection to the Credit Facility. The Term Loan is subject to a
monthly cash sweep, calculated as the total of (i) CAD $0.50 for
every E-liquid bottle, smaller than 15 ml, sold by the Company
within a monthly period; and (ii) CAD $1.00 for every E-liquid
bottle, greater than 15 ml, sold by the Company within a monthly
period (the “Cash Sweep”). The Cash Sweep will be
disbursed to the Lenders in the following priority: first, to pay
the monthly interest due on the Term Loan; and second, to repay any
remaining principal outstanding on the Term Loan. The Company may
elect to repay the outstanding principal of the Term Loan together
with all accrued and unpaid interest thereon prior to the maturity,
subject to an early repayment penalty of the maximum of (i) 3
months interest on the outstanding principal; or (ii) 50% of the
interest payable on the outstanding principal until maturity (the
“Early Repayment Penalty”). The Term Loan shall be
immediately due and payable at the option of the Lenders if there
is a change in key personnel meaning the Company’s current
Chief Executive Officer and Chief Financial Officer. On January 18,
2016 and in connection to the Term Loan, the Company issued
warrants for the purchase of 250,000 Common Shares (note 17(d))
exercisable until December 31, 2017 at an exercise price of $0.20
per share. In addition, the Company also extended the expiration
date of the 250,000 warrants (note 17(d)) issued on August 1, 2014
in connection with the Credit Facility until December 31, 2017,
with all other terms of the warrants remaining the same. The
relative fair value of the warrants issued were recorded as debt
discount to be amortized over the life of the loan.
The
Company’s Chief Executive Officer and Chief Financial Officer
are both participants of the consortium of Lenders of the Term
Loan, each having committed to provide ten percent of the principal
amount of the Term Loan. Neither the Chief Executive Officer nor
the Chief Financial Officer participated in the warrants issued or
warrants extended in connection with the Term Loan and both parties
have appropriately abstained from voting on the Board of Directors
to approve the Term Loan, where applicable.
On July
15, 2016, the Company and the Lenders of the Term Loan entered into
a term loan amendment (the “Term Loan Amendment”) in
which the Lenders agreed to extend to the Company an additional CAD
$600,000 in principal to increase the Term Loan facility up to the
aggregate principal amount of CAD $1,600,000. The parties also
extended the maturity date of the Term Loan to July 2, 2018 with
all other terms of the Term Loan remaining the same. The
Company’s Chief Executive Officer and its Chief Financial
Officer are both participants in the consortium of Lenders having
each committed to provide a total of CAD $150,000 of the initial
principal of the Term Loan and the additional principal of the Term
Loan pursuant to the Term Loan Amendment.
On July
15, 2016 and in connection to the Term Loan Amendment, the Company
issued warrants for the purchase of 300,000 Common Shares (note
17(k)) exercisable until December 31, 2018 at an exercise price of
$0.20 per share. The Company also extended the expiration dates of:
(i) the warrants for the purchase of 250,000 Common Shares (note
17(d)) issued on January 18, 2016 in connection to the Term Loan;
and (ii) the warrants for the purchase of 250,000 Common Shares
(note 17(d)) issued on August 1, 2014 and extended on January 18,
2016 in connection to the Term Loan, both until December 31, 2018,
with all other terms of the warrants remaining the same. The
relative fair value of the warrants issued were recorded as debt
discount to be amortized over the life of the loan.
During
the year ended December 31, 2016, the Company was advanced CAD
$1,600,000 from the Term Loan including the CAD $294,000 and CAD
$3,093 rolled in from the Credit Facility (note 12) as well as CAD
$240,581 of advances from the Company’s Chief Executive
Officer and Chief Financial Officer.
On February 27, 2017, the Company and the Lenders of the Term Loan
entered into a term loan amendment (the “Term Loan Amendment
No.2”) to amend certain terms and conditions of the Term
Loan. Pursuant to the Term Loan Amendment No.2, the parties agreed
to modify the Cash Sweep to be calculated as the total of CAD
$0.01667 per ml of E-liquid sold by the Company within a monthly
period, such modification to be retroactively applied as of January
1, 2017. The Lenders also agreed to cancel the Early Repayment
Penalty and waive any interest payment penalties due under the Term
Loan. On February 27, 2017 and in connection to the Term Loan
Amendment No.2, the Company agreed to issue 500,000 private
placement units at a price of $0.10 per unit as a settlement of
financing fees with a relative fair value of $48,485. Each unit
consisted of one Common Share and a half Common Share purchase
warrant exercisable over twelve months at an exercise price of
$0.20 per share. On April 4, 2017, the Company issued the 500,000
units. The Company’s Chief Executive Officer and its Chief
Financial Officer received a total of 93,622 units which included
93,622 Common Shares and warrants for the purchase of 46,811 Common
Shares. The Term Loan Amendment No.2 was accounted for as a
modification of debt and no gain or loss was recognized on the
amendment.
F-24
The
relative fair value of the warrants issued in relation to the Term
Loan and Term Loan amendments were recorded as debt discount to be
amortized over the life of the loan. At December 31, 2017, the
value of the Term Loan was $1,051,334 including a debt discount of
$48,485 (December 31, 2016 – $1,031,300). During the years
ended December 31, 2017 and 2016, the Company expensed $92,754 and
$62,210, respectively, in interest expense related to the
amortization of the debt discount. Neither the Chief Executive
Officer nor the Chief Financial Officer participated in the
warrants issued or warrants extended in connection with the Term
Loan Amendment.
During
the year ended December 31, 2017, the Company expensed $173,035 in
interest on the Term Loan (December 31, 2016 – $140,540).
Pursuant to the Cash Sweep, during the year ended December 31,
2017, the Company paid a total of $281,413 to the Lenders
consisting of $195,347 in interest and $88,066 in principal
repayments. During the year ended December 31, 2016, the Company
paid a total of $187,898 to the Lenders consisting of $111,083 in
interest and $76,815 in principal payments. At December 31, 2017,
the Company owes the Lenders a payment of $18,840, consisting fully
of interest which was paid to the Lenders on January 24, 2018 as
per the terms of the Cash Sweep (December 31, 2016 - $81,060,
consisting of $29,471 in interest and $51,589 in principal
repayments).
The
amount owing on the Term Loan is as follows:
|
December
31,
2017
|
December
31,
2016
|
Opening
balance/amount advanced
|
$1,144,337
|
$1,219,840
|
Debt discount
(net)
|
(68,768)
|
(113,037)
|
Exchange loss
(gain) during the period/year
|
86,143
|
(28,159)
|
Principal payments
made
|
(88,066)
|
(76,815)
|
Interest
accrued
|
173,035
|
140,540
|
Interest payments
made
|
(195,347)
|
(111,069)
|
Ending
balance
|
$1,051,334
|
$1,031,300
|
14. PROMISSORY NOTES
The
Company has outstanding current promissory notes as
follows:
|
December
31,
2017
|
December
31,
2016
|
|
|
|
Unsecured, bears
interest at 15% per annum, matures February 18, 2019(i)
|
$230,109
|
$-
|
Unsecured, bears
interest at 18% per annum, matures June 19, 2019(iii)
|
30,000
|
-
|
Unsecured, bears
interest at 10% per annum, matures September 28, 2017(v)
|
-
|
17,750
|
Secured, bears
interest at RBP + 2% per annum, due on demand(vi)
|
39,855
|
-
|
Secured, bears
interest at RBP + 3% per annum, due on demand(vii)
|
64,774
|
-
|
Lease agreement,
bears interest at 4.7% per annum, matures October 13,
2023(viii)
|
23,441
|
-
|
Unsecured, interest
free, matures October 29, 2017(ix)
|
7,971
|
-
|
Secured, bears
interest at 24%, matures March 6, 2018 (x)
|
102,372
|
-
|
|
$498,522
|
$17,750
|
F-25
The
Company has outstanding long term promissory notes as
follows:
|
December
31,
2017
|
December
31,
2016
|
Unsecured, bears
interest at 15% per annum, matures February 18, 2019(ii)
|
$234,034
|
$-
|
Unsecured, bears
interest at 18% per annum, matures June 19, 2019(iii)
|
17,500
|
-
|
Lease agreement,
bears interest at 4.7% per annum, matures October 13,
2023(viii)
|
94,468
|
-
|
|
$346,002
|
$-
|
(i)
On October 12, 2017, the Company issued an
unsecured promissory note in the principal amount of CAD $300,000.
The promissory note matures on April 12, 2018 and bears interest at
a rate of 15% per annum, accrued monthly and due at maturity. In
connection to the promissory note, the Company issued warrants for
the purchase of 100,000 Common Shares of the Company exercisable at
$0.20 per share until April 11, 2019. The relative fair value of
the warrants issued were recorded as a debt discount to be
amortized over the life of the loan. During the years ended
December 31, 2017 and 2016, the Company expensed $2,212 and $nil,
respectively, in interest expense related to the amortization of
the debt discount (note 17(gg)). During the year ended December 31,
2017, the Company accrued $7,689 in interest on the promissory note
which has been recorded in accrued liabilities (December 31, 2016
– $nil). At December 31, 2017, the value of the promissory
note was $230,109 inclusive of a debt discount of $9,021 (December
31, 2016 – $nil). As of the filing of these financial
statements’
this note is currently in
default.
(ii)
On August 18, 2017,
the Company issued an unsecured promissory note in the principal
amount of CAD 300,000. The promissory note matures on February 18,
2019 and bears interest at a rate of 15% per annum, paid monthly in
arrears with interest payments beginning on March 18, 2018. The
interest accrued for the initial seven (7) months shall be due at
maturity. In connection to the promissory note, the Company issued
warrants for the purchase of 150,000 Common Shares of the Company
exercisable at $0.20 per share until February 18, 2019. The
relative fair value of the warrants issued were recorded as a debt
discount to be amortized over the life of the loan. During the
years ended December 31, 2017 and 2016, the Company expensed $3,765
and $nil, respectively, in interest expense related to the
amortization of the debt discount (note 17(ee)). During the year
ended December 31, 2017, the Company accrued $13,264 in interest on
the promissory note which has been recorded in accrued liabilities
(December 31, 2016 – $nil). At December 31, 2017, the value
of the promissory note was $234,034 inclusive of a debt discount of
$5,096 (December 31, 2016 – $nil).
(iii)
On June 30, 2017,
the Company issued an unsecured promissory note in the principal
amount of $60,000. The principal together with interest at a rate
of 18% per annum is payable in monthly instalments of $3,400 with
the first payment due on July 19, 2017 and the final payment due on
June 19, 2019. In the event of default, by way of any missed
payment under the promissory note and not cured for a period of 15
days, at the option of the holder, the entire unpaid principal
amount outstanding would become due and payable. During the year
ended December 31, 2017, the Company paid $4,500 in interest on the
promissory note (December 31, 2016 – $nil). At December 31,
2017, $30,000 in principal on the promissory note has been
classified as a current liability and $17,500 has been classified
as a long term liability on the Company’s consolidated
balance sheet.
(iv)
On April 20, 2017,
the Company issued an unsecured promissory note in the principal
amount of $20,000. The principal together with interest at a rate
of 10% over the term of the promissory note is payable in monthly
instalments of $2,750 with the first payment due on May 15, 2017
and the final payment due on December 15, 2017. In the event of
default, by way of any missed payment under the promissory note and
not cured for a period of 15 days, at the option of the holder, the
entire unpaid principal amount outstanding would become due and
payable. During the year ended December 31, 2017, the Company paid
$2,000 in interest on the promissory note (December 31, 2016
– $nil). The unsecured promissory note was fully settled and
repaid at December 31, 2017.
(v)
On September 28,
2016, the Company issued an unsecured promissory note in the
principal amount of $21,000. The principal together with interest
at a rate of 10% per annum is payable in monthly instalments of
$2,000 with the first payment due on October 28, 2016 and the final
payment due on September 28, 2017. In the event of default, by way
of any missed payment under the promissory note and not cured for a
period of 15 days, at the option of the holder, the entire unpaid
principal amount outstanding would become due and payable. During
the year ended December 31, 2017, the Company paid $1,350 in
interest on the promissory note (December 31, 2016 – $750).
The unsecured promissory note was fully settled and repaid at
December 31, 2017.
F-26
(vi)
On July 18, 2016,
VBI entered into a revolving credit facility with The Royal Bank of
Canada (“RBC”) for CAD $50,000. The facility is secured
by the assets of VBI, due on demand and bears interest at a rate of
RBC Prime (“RBP”) + 2%. Interest is payable monthly in
arrears. During the year ended December 31, 2017, the Company paid
$835 in interest on the facility (December 31, 2016 – $nil).
At December 31, 2017, $39,855 in principal remains owing on the
facility.
(vii)
On
July 18, 2016, VBI entered into a credit facility with RBC for CAD
$106,000. The facility is secured by the assets of VBI, due on
demand and bears interest at the rate of RBP + 3%.%, maturing on
July 18, 2021. Interest is payable monthly in arrears and the
Company is required to make monthly principal payments of CAD
$1,416. During the year ended December 31, 2017, the Company paid
$1,712 in interest and made principal repayments of $8,835 on the
facility (December 31, 2016 – $nil and $nil, respectively).
At December 31, 2017, $64,774 in principal remains owing on the
facility.
(viii)
On
October 13, 2016, VBI entered into a capital lease agreement with
RBC for the lease of manufacturing equipment in the amount of CAD
$175,132. Under the lease agreement, the Company is required to
make monthly payments of interest and principal to RBC in the
amount of CAD $2,451., the lease matures on October 13, 2023.
During the year ended December 31, 2017, the Company paid $2,041 in
interest and made principal repayments of $7,725 on the facility
(December 31, 2016 – $nil and $nil, respectively). At
December 31, 2017, a total of $117,909 in principal remains payable
under the lease with $23,441 being allocated to current liabilities
and $94,468 being allocated to long term liabilities on the
consolidated balance sheet.
(ix)
On closing of the
VBI acquisition, VBI had an amount owing to a vendor of VBI in the
principal amount of CAD $20,000. Pursuant to the share purchase
agreement, the Company agreed to repay the loan to the vendor with
two (2) payments of CAD $5,000, payable thirty (30) and sixty (60)
days after the closing and a final payment of CAD $10,000 due
ninety (90) days after the closing. The loan is unsecured and
interest free. During the year ended December 31, 2017, the Company
repaid CAD $10,000 (USD $7,971) in principal on the loan (December
31, 2016 – $nil). At December 31, 2017, the loan was in
default and CAD $10,000 (USD $7,971) in principal remained
outstanding which subsequently repaid in January 2018.
(x)
On December 7,
2017, the Company entered into a revolving credit facility (the
“Revolving Facility”) in the aggregate principal amount
of CAD $200,000. The Revolving Facility is secured by certain
inventory and receivables of the Company, due March 6, 2018 with an
option to extend and bears interest at a rate of 24% per annum
payable monthly in arrears. The Revolving Facility is also subject
to a standby fee with respect to the unused portion of the
facility, calculated on a daily basis as being the difference
between the CAD $200,000 revolving limit and the then outstanding
advances, multiplied by 3% and divided by 365 and payable in
arrears on the last day of each month. During the year ended
December 31, 2017, the Company received $100,000 in advances under
the Revolving Facility. During the year ended December 31, 2017,
the Company accrued $1,616 in interest and $113 in standby fees on
the Revolving Facility (December 31, 2016 – $nil and $nil,
respectively). At December 31, 2017, $102,372 in principal remains
owing on the Revolving Facility.
15. CONVERTIBLE DEBENTURES
Convertible Debentures Series A
On
September 3, 2013, December 23, 2013 and February 11, 2014, the
Company issued $425,000, $797,000 and $178,000, respectively, of
unsecured subordinated convertible debentures (“Convertible
Debentures Series A”). The Convertible Debentures Series A
matured on January 31, 2016 and charged interest at a rate of 12%
per annum, payable quarterly in arrears. The Convertible Debentures
Series A were convertible into Common Shares at a fixed conversion
rate of $0.07 per share at any time prior to the maturity date. Of
the $178,000 in face value of Convertible Debentures Series A
issued on February 11, 2014, $3,000 were issued in settlement of
loans from shareholders and $50,000 were issued in settlement of
loans from related parties.
Convertible Debentures Series B
On
December 31, 2015, the Company issued 650 unsecured subordinated
convertible debenture units (“Convertible Debentures Series
B”) for proceeds of $650,000. Each Convertible Debentures
Series B consisted of an unsecured subordinated convertible
debenture having a principal amount of $1,000 and warrants for the
purchase of 5,000 Common Shares at a price of $0.20 per share for a
period of twenty-four months from the date of issuance (note
17(c)). The Convertible Debentures Series B mature on January 31,
2018 and bear interest at a rate of 8% per annum, payable quarterly
in arrears. The face value of the Convertible Debentures Series B,
together with all accrued and unpaid interest thereon, are
convertible into Common Shares at a fixed conversion rate of $0.10
per share at any time prior to maturity. The Company also has the
option to force conversion of any outstanding Convertible
Debentures Series B at any time after six months from issuance and
prior to maturity. Of the $650,000 in face value of Convertible
Debentures Series B issued on December 31, 2015, $276,000 were
issued in settlement of loans from related parties, $10,000 were
issued in settlement of related party consulting fees $20,000 were
issued in settlement of consulting fees owing to an unrelated party
and $227,000 were issued in settlement of loans from
shareholders.
F-27
Convertible Debentures Series C
On May 20, 2016, the Company issued 375 unsecured subordinated
convertible debenture units (the “Convertible Debentures
Series C”) for proceeds of $375,000. Each Convertible
Debentures Series C consisted of an unsecured subordinated
convertible debenture having a principal amount of $1,000 and
warrants for the purchase of 10,000 Common Shares at a price of
$0.20 per share for a period of twenty-four months from the date of
issuance (note 17(i)). The Convertible Debentures Series C mature
on January 31, 2018 and bear interest at a rate of 8% per annum,
accrued quarterly in arrears. The face value of the Convertible
Debentures Series C, together with all accrued and unpaid interest
thereon, are convertible into Common Shares at a fixed conversion
rate of $0.10 per share at any time prior to maturity. The Company
also has the option to force conversion of any outstanding
Convertible Debentures Series C at any time after six months from
issuance and prior to maturity. For Canadian holders, the Company
may only force conversion of any outstanding Convertible Debentures
Series C at such time that the Company is a reporting issuer within
the jurisdiction of Canada. Of the $375,000 in face value of
Convertible Debentures Series C issued on May 20, 2016
(“Convertible Debentures Series C-1”), $55,000 were
issued in settlement of amounts owing to related parties (note
20(c)) and $10,000 were issued in settlement of amounts owing to an
employee. The Company incurred costs of $22,725 as a result of the
issuance of Convertible Debentures Series C-1 on May 20,
2016.–
On
December 31, 2016, the Company issued an additional 275 units of
Convertible Debentures Series C (“Convertible Debentures
Series C-2”) for proceeds of $275,000 which were fully issued
in exchange for cash.
On
January 20, 2017, the Company issued an additional 75 units of
Convertible Debentures Series C (“Convertible Debentures
Series C-3”) in settlement of $65,000 owing to a related
party (note 20(c)) and $10,000 owing in shareholder loans (note
11(ii)).
The
Company evaluated the terms and conditions of the Convertible
Debentures Series A, Convertible Debentures Series B and each
tranche of Convertible Debentures Series C (together, the
“Convertible Debentures”) under the guidance of ASC No.
815, Derivatives and
Hedging (“ASC 815”). The conversion feature met
the definition of conventional convertible for purposes of applying
the conventional convertible exemption. The definition of
conventional contemplates a limitation on the number of shares
issuable under the arrangement. The instrument was convertible into
a fixed number of shares and there were no down round protection
features contained in the contracts.
Since a
portion of the Convertible Debentures were issued in exchange for
nonconvertible instruments at the original instrument’s
maturity date, the guidance of ASC 470-20-30-19 & 20 were
applied. The fair value of the newly issued Convertible Debentures
were equal to the redemption amounts owed at the maturity date of
the original instruments. Therefore, there was no gain or loss on
extinguishment of debt recorded. After the exchange occurred, the
Company was required to consider whether the new hybrid contracts
embodied a beneficial conversion feature
(“BCF”).
For the
face value $425,000 of Convertible Debentures Series A issued on
September 3, 2013, the calculation of the effective conversion
amount did not result in a BCF because the effective conversion
price was greater than the Company’s stock price on the date
of issuance, therefore no BCF was recorded. However, for the face
value $797,000 of Convertible Debentures Series A that were issued
on December 23, 2013 and the face value $178,000 of Convertible
Debentures Series A that were issued on February 11, 2014, the
calculation of the effective conversion amount resulted in a BCF
because the effective conversion price was less than the
Company’s stock price on the date of issuance and a BCF in
the amount of $797,000 and $178,000, respectively, were recorded in
additional paid-in capital.
For the
face value $650,000 of Convertible Debentures Series B issued on
December 31, 2015, the relative fair value of the warrants included
in the issuance totaling $287,757 was calculated using the
Black-Scholes option pricing model. The resulting fair value of
such Convertible Debentures Series B issuance was calculated to be
$362,243. The calculation of the effective conversion amount
resulted in a BCF because the effective conversion price was less
than the Company’s stock price on the date of issuance and a
BCF in the amount of $133,657 was recorded in additional paid-in
capital.
For the
face value $375,000 of Convertible Debentures Series C-1 issued on
May 20, 2016, the relative fair value of the warrants included in
the issuance totaling $234,737 (note 17(i)) was calculated using
the Black-Scholes option pricing model. The resulting fair value of
such Convertible Debentures Series C-1 was calculated to be
$140,263. The calculation of the effective conversion amount
resulted in a BCF because the effective conversion price was less
than the Company’s stock price on the date of issuance and a
BCF in the amount of $117,538, net of transaction costs, was
recorded in additional paid-in capital.
For the
face value $275,000 of Convertible Debentures Series C-2 issued on
December 31, 2016, the relative fair value of the warrants included
in the issuance totaling $143,871 (note 17(m)) was calculated using
the Black-Scholes option pricing model. The resulting fair value of
such Convertible Debentures Series C-2 was calculated to be
$131,129. The calculation of the effective conversion amount
resulted in a BCF because the effective conversion price was less
than the Company’s stock price on the date of issuance and a
BCF in the amount of $131,129, was recorded in additional paid-in
capital.
F-28
For the
face value $75,000 of Convertible Debentures Series C-3 issued on
January 20, 2017, the relative fair value of the warrants included
in the issuance totaling $43,737 (note 17(o)) was calculated using
the Black-Scholes option pricing model. The resulting fair value of
such Convertible Debentures Series C-3 was calculated to be
$31,263. The calculation of the effective conversion amount
resulted in a BCF because the effective conversion price was less
than the Company’s stock price on the date of issuance and a
BCF in the amount of $31,263, was recorded in additional paid-in
capital.
The BCF
and the fair value of the warrants, which represents debt discount,
is accreted over the life of the Convertible Debentures using the
effective interest rate. Amortization of debt discount was recorded
as follows:
|
December
31,
2017
|
December
31,
2016
|
Convertible
Debentures Series A
|
$-
|
$17,341
|
Convertible
Debentures Series B
|
210,130
|
52,781
|
Conversion of
Convertible Debentures Series B
|
342,399
|
-
|
Convertible
Debentures Series C-1
|
148,099
|
21,674
|
Conversion of
Convertible Debentures Series C-1
|
183,567
|
-
|
Convertible
Debentures Series C-2
|
190,219
|
2,750
|
Conversion of
Convertible Debentures Series C-2
|
82,031
|
-
|
Convertible
Debentures Series C-3
|
52,628
|
-
|
Conversion of
Convertible Debentures Series C-3
|
22,372
|
-
|
|
$1,231,445
|
$94,546
|
Convertible
Debentures as of December 31, 2017 and December 31, 2016, are as
follows:
|
|
Balance,
December 31, 2015
|
$87,158
|
Face value
Convertible Debentures Series C-1
|
375,000
|
Face value
Convertible Debentures Series C-2
|
275,000
|
Relative fair value
of detachable warrants
|
(378,608)
|
BCF
|
(248,667)
|
Transaction
costs
|
(22,725)
|
Amortization of
debt discount
|
94,546
|
Conversion
|
(23,000)
|
Cash
settlements
|
(75,000)
|
Balance,
December 31, 2016
|
$83,704
|
Face Value
Convertible Debentures Series C-3
|
75,000
|
Relative fair value
of detachable warrants
|
(43,737)
|
BCF
|
(31,263)
|
Conversion of
Convertible Debentures Series B
|
(423,000)
|
Conversion of
Convertible Debenture Series C-1
|
(265,000)
|
Conversion of
Convertible Debenture Series C-2
|
(275,000)
|
Conversion of
Convertible Debenture Series C-3
|
(75,000)
|
Amortization of
debt discount
|
1,231,445
|
Balance,
December 31, 2017
|
$277,149
|
Conversions and Repayments of Convertible Debentures Series
A
The
Company received forms of election whereby holders of the
Convertible Debentures Series A elected to convert the face value
of the debentures into Common Shares at $0.07 per share pursuant to
the terms of the Convertible Debentures Series A. As at December
31, 2017, the Company received the following forms of elections
from holders of the Convertible Debentures:
F-29
Date Form
of
Election
Received
|
Face Value of
Convertible Debentures Series A Converted
|
Number
of
Common Shares
Issued on Conversion
|
April 15,
2014
|
$50,000
|
714,286
|
September 30,
2014
|
800,000
|
11,428,572
|
November 10,
2014
|
275,000
|
3,928,571
|
March 9,
2015(1)
|
52,000
|
742,857
|
July 15,
2015
|
105,000
|
1,500,000
|
September 1,
2015
|
20,000
|
285,714
|
|
$1,302,000
|
18,600,000
|
(1)
On March 9, 2015,
the Company settled interest payable on the Convertible Debentures
Series A in the amount of $1,096 with the issuance of Common Shares
at a price of $0.15 per share, of which, $358 of interest payable
on the Convertible Debentures Series A was settled with a Director
of the Company.
On
January 25, 2016, the Company received a form of election to
convert face value $23,000 of Convertible Debentures Series A, such
328,571 Common Shares remain unissued. On March 10, 2016, the
Company settled face value $25,000 of Convertible Debentures Series
A with a cash payment. On July 6, 2016, the Company settled face
value $50,000 of Convertible Debentures Series A and agreed to pay
to the holders such face value in monthly payments ending on
November 1, 2016. As at December 31, 2016, the $50,000 was fully
paid.
As at December 31, 2017, all Convertible Debentures Series A had
been fully settled and only the 328,571 Common Shares valued at
$23,000 remain unissued., see note 19.
Conversions and Repayments of Convertible Debentures Series B &
C
On
April 30, 2017 and pursuant to the terms of the Convertible
Debentures Series B, the Company sent notices of its election to
convert $423,000 in face value and $45,058 in accrued interest to
holders of Convertible Debentures Series B at $0.10 per share for a
total of 4,680,581 Common Shares of the Company. As a result of
these conversions, the Company recorded a debt discount in the
amount of $342,399. The above amount included the conversion of
$286,000 in face value and $30,465 in accrued interest held by
related parties of the Company (note 20(c)).
On
April 30, 2017 and pursuant to the terms of the Convertible
Debentures Series C, the Company sent notices of its election to
convert $190,000 in face value and $14,367 in accrued interest to
holders of Convertible Debentures Series C at $0.10 per share for a
total of 2,043,670 Common Shares of the Company. As a result of
these conversions, the Company recorded a debt discount in the
amount of $168,798. The above amount included the conversion of
$5,000 in face value and $378 in accrued interest held by related
parties of the Company (note 20(c)).
On
December 29, 2017 and pursuant to the terms of the Convertible
Debentures Series C, the Company converted $425,000 in face value
and $37,184 in accrued interest to holders of Convertible
Debentures Series C at $0.10 per share for a total of 4,621,836
Common Shares of the Company. As a result of these conversions, the
Company recorded a debt discount in the amount of $119,172. The
above amount included the conversion of $130,000 in face value and
$13,264 in accrued interest held by related parties of the Company
(note 20(c)).
As at
December 31, 2017, face value $227,000 of Convertible Debentures
Series B and face value $110,000 of Convertible Debentures Series C
remain owing to their respective debenture holders.
Interest on Convertible Debentures
During
the year ended December 31, 2017, the Company recorded interest
expense in the amount of $72,870 on the Convertible Debentures
(December 31, 2016 – $74,162). The interest owing on the
convertible debentures is included in accrued liabilities on the
Company’s consolidated balance sheet.
16. COMMON STOCK
During
the year ended December 31, 2017, the Company:
●
Issued
19,083,818 Common Shares on a private placement basis, at a price
of $0.10 per private placement unit, consisting of one common share
and one half warrant (a “Unit”), for cash proceeds, net
of issuance costs, of $1,818,672;
●
Issued 1,998,950
Common Shares on a private placement basis, at a price of $0.10
Unit, for settlement of $199,895 in amounts owing to related
parties (note 20(c));
●
Issued 226,920
Common Shares on a private placement basis, at a price of $0.10
Unit, for settlement of $22,692 in amounts owing to a shareholder
(note 11(i));
F-30
●
Issued 320,022
Common Shares, at an average price of $0.156 per share, for
settlement of $50,000 in consulting fees owing to a shareholder,
previously granted and recognized as Common Shares to be issued at
December 31, 2016;
●
Issued 143,715
Common Shares, at an average price of $0.129 per share, for
settlement of $18,550 in consulting fees owing to an unrelated
party, previously granted and recognized as Common Shares to be
issued as at December 31, 2016;
●
Issued 366,667
Common Shares, at a price of $0.15 per share, for settlement of
$55,000 in consulting fees owing to an unrelated party, previously
granted and recognized as Common Shares to be issued as at December
31, 2016;
●
Issued 300,000
Common Shares, at a price of $0.10 per share, for settlement of
$30,000 in amounts owing to a director of the Company (note 20(a)).
The amount allocated to Shareholders’ Deficiency, based on
their fair value, amounted to $33,000. The balance of $3,000 has
been recorded as a loss on settlement of debt;
●
Issued 300,000
Common Shares, at a price of $0.167 per share, for settlement of
$50,000 in charitable contributions owing to an unrelated party
(note 22(d)). The amount allocated to Shareholders’
Deficiency, based on their fair value, amounted to $36,000. The
balance of $14,000 has been recorded as a gain on settlement of
debt;
●
Issued 50,000
Common Shares, at a price of $0.12 per share, as $6,000 in
employment income to an unrelated party;
●
Issued 871,000
Common Shares, at a price of $0.10 per share, for settlement of
$87,100 in directors fees owing to former directors of the Company
(note 20(a)). The amount allocated to Shareholders’
Deficiency, based on their fair value, amounted to $121,940. The
balance of $34,840 has been recorded as a loss on settlement of
debt;
●
Issued 500,000
Common Shares on a private placement basis, at a price of $0.10
Unit, as settlement of the relative fair value of $48,485 in
financing fees in connection to the Term Loan Amendment No.2 (note
13). Of the 500,000 Common Shares issued, 93,622 Common Shares were
issued to related parties (note 20(c));
●
Issued 6,130,000
Common Shares, at a price of $0.10 per share, on conversion of
$613,000 of Convertible Debentures (note 15). The above amount
included the conversion of $291,000 of Convertible Debentures held
by related parties of the Company (note 20(c));
●
Issued 594,251
Common Shares, at price of $0.10 per share, for settlement of
$59,425 in interest owing on Convertible Debentures (note 15). The
above amount included the settlement of $30,843 of interest owing
on Convertible Debentures held by related parties of the Company
(note 20(c));
●
Issued 2,500,000
Common Shares, at a price of $0.14, for the acquisition of a
subsidiary; and
●
Issued 730,280
Common Shares on a private placement basis, at a price of $0.10 per
Unit, for cash proceeds of $50,000 and settlement of amounts owing
to an unrelated party in the amount of $23,028.
During
the year ended December 31, 2016, the Company:
●
Issued 480,000
Common Shares, at a price of $0.10 per share, for settlement of
$48,000 in deferred fees owing to a related party (note 20(c)). The
amount allocated to Shareholders’ Deficiency, based on their
fair value, amounted to $76,800. The balance of $28,800 has been
recorded as a loss on settlement of debt;
●
Issued 562,715
Common Shares, at an average price of $0.141 per share, for
settlement of $79,154 in consulting fees owing to unrelated
parties. The amount allocated to Shareholders’ Deficiency,
based on their fair value, amounted to $78,780. The balance of $374
has been recorded as a gain on settlement of debt; and
●
Issued 150,000
Common Shares, at a price of $0.14 per share, as $21,000 in related
party employment income (note 20(c)).
17. WARRANTS
The
following schedule summarizes the outstanding warrants for the
purchase of Common Shares of the Company:
|
December
31,
2017
|
December
31,
2016
|
||||
|
Warrants
Outstanding
|
Weighted Average
Exercise Price
|
Weighted Average
Life Remaining (yrs)
|
Warrants
Outstanding
|
Weighted Average
Exercise Price
|
Weighted Average
Life Remaining (yrs)
|
Beginning of
period
|
17,560,000
|
$0.23
|
1.21
|
8,177,373
|
$0.25
|
1.39
|
Issued
|
18,927,782
|
0.21
|
1.61
|
11,935,000
|
0.21
|
2.05
|
Cancelled
|
(1,750,000)
|
0.25
|
-
|
(1,125,000)
|
0.25
|
1.13
|
Expired
|
(6,500,000)
|
0.27
|
-
|
(1,427,373)
|
0.19
|
-
|
End of
period
|
28,237,782
|
$0.23
|
0.84
|
17,560,000
|
$0.23
|
1.21
|
|
|
|
|
|
|
|
F-31
The
Company has issued warrants for the purchase of Common Shares of
the Company as follows:
Issuance
Date
|
|
Number of
Warrants
|
Expected Life
in Years
|
Exercise Price
($)
|
Risk Free
Rate
|
Dividend
Yield
|
Expected
Volatility
|
Fair Value
($)
|
May 29,
2015
|
(a)
|
250,000
|
2.00
|
0.40
|
0.85%
|
Nil
|
298%
|
35,362
|
May 29,
2015
|
(a)
|
250,000
|
2.00
|
0.50
|
0.85%
|
Nil
|
298%
|
35,134
|
May 29,
2015
|
(a)
|
250,000
|
2.00
|
0.60
|
0.85%
|
Nil
|
298%
|
34,934
|
May 29,
2015
|
(a)
|
250,000
|
2.00
|
0.70
|
0.85%
|
Nil
|
298%
|
34,755
|
December 30,
2015
|
(b)
|
250,000
|
1.50
|
0.20
|
0.88%
|
Nil
|
190%
|
26,821
|
December 31,
2015
|
(c)
|
3,250,000
|
2.00
|
0.20
|
1.19%
|
Nil
|
265%
|
516,343
|
January 18,
2016
|
(d)
|
250,000
|
2.46
|
0.20
|
0.91%
|
Nil
|
263%
|
51,598
|
February 18,
2016
|
(e)
|
300,000
|
2.00
|
0.25
|
0.80%
|
Nil
|
275%
|
30,501
|
February 18,
2016
|
(f)
|
1,500,000
|
2.00
|
0.25
|
0.80%
|
Nil
|
275%
|
152,503
|
March 2,
2016
|
(g)
|
1,000,000
|
2.00
|
0.20
|
0.91%
|
Nil
|
271%
|
158,995
|
April 13,
2016
|
(h)
|
1,750,000
|
2.00
|
0.25
|
0.88%
|
Nil
|
264%
|
241,754
|
May 20,
2016
|
(i)
|
3,750,000
|
2.00
|
0.20
|
1.03%
|
Nil
|
259%
|
234,737
|
May 20,
2016
|
(j)
|
85,000
|
2.00
|
0.20
|
1.03%
|
Nil
|
259%
|
14,225
|
July 15,
2016
|
(k)
|
300,000
|
2.46
|
0.20
|
0.91%
|
Nil
|
263%
|
45,799
|
December 22,
2016
|
(l)
|
250,000
|
1.50
|
0.20
|
0.87%
|
Nil
|
180%
|
18,840
|
December 31,
2016
|
(m)
|
2,750,000
|
2.00
|
0.20
|
1.20%
|
Nil
|
259%
|
143,871
|
January 12,
2017
|
(n)
|
50,000
|
1.00
|
0.20
|
0.81%
|
Nil
|
191%
|
4,988
|
January 20,
2017
|
(o)
|
750,000
|
2.00
|
0.20
|
1.20%
|
Nil
|
267%
|
43,737
|
January 31,
2017
|
(p)
|
3,773,006
|
1.00
|
0.20
|
0.84%
|
Nil
|
173%
|
224,479
|
January 31,
2017
|
(q)
|
411,361
|
1.00
|
0.20
|
0.84%
|
Nil
|
173%
|
24,474
|
February 17,
2017
|
(r)
|
907,948
|
1.00
|
0.20
|
0.82%
|
Nil
|
167%
|
63,641
|
February 17,
2017
|
(s)
|
108,954
|
1.00
|
0.20
|
0.82%
|
Nil
|
167%
|
7,615
|
March 8,
2017
|
(t)
|
1,500,000
|
2.00
|
0.25
|
1.36%
|
Nil
|
266%
|
193,438
|
March 21,
2017
|
(u)
|
3,270,045
|
1.00
|
0.20
|
1.00%
|
Nil
|
165%
|
236,773
|
March 21,
2017
|
(v)
|
27,623
|
1.00
|
0.20
|
1.00%
|
Nil
|
165%
|
2,000
|
April 4,
2017
|
(w)
|
250,000
|
1.00
|
0.20
|
1.03%
|
Nil
|
163%
|
19,703
|
April 6,
2017
|
(x)
|
500,000
|
2.00
|
0.25
|
1.24%
|
Nil
|
167%
|
52,643
|
June 2,
2017
|
(y)
|
1,634,615
|
1.00
|
0.20
|
1,16%
|
Nil
|
171%
|
110,602
|
June 16,
2017
|
(z)
|
769,230
|
1.00
|
0.20
|
1.21%
|
Nil
|
171%
|
57,765
|
June 28,
2017
|
(aa)
|
300,000
|
1.00
|
0.20
|
1.21%
|
Nil
|
159%
|
23,020
|
July 1,
2017
|
(bb)
|
75,000
|
1.50
|
0.20
|
1.24%
|
Nil
|
158%
|
7,000
|
July 31,
2017
|
(cc)
|
2,000,000
|
2.00
|
0.20
|
1.34%
|
Nil
|
245%
|
252,631
|
July 31,
2017
|
(dd)
|
1,000,000
|
2.00
|
0.20
|
1.34%
|
Nil
|
245%
|
21,930
|
August 18,
2017
|
(ee)
|
150,000
|
1.50
|
0.20
|
1.24%
|
Nil
|
159%
|
11,233
|
October 1,
2017
|
(ff)
|
350,000
|
1.50
|
0.20
|
1.31%
|
Nil
|
161%
|
36,925
|
October 12,
2017
|
(gg)
|
100,000
|
1.50
|
0.20
|
1.41%
|
Nil
|
159%
|
8,860
|
November 15,
2017
|
(hh)
|
1,000,000
|
1.50
|
0.20
|
1.55%
|
Nil
|
137%
|
89,053
|
|
35,362,782
|
|
|
|
|
|
3,268,682
|
F-32
(a)
Issued in
connection to a commission agreement. The warrants vest in four
tranches of 250,000 warrants each. The first tranche has an
exercise price of $0.40 per share and vested upon execution of the
agreement. The second tranche has an exercise price of $0.50 per
share and will vest upon the sales agent delivering $500,001 in
sales revenue to Gilla Worldwide. The third tranche has an exercise
price of $0.60 per share and will vest upon the sales agent
delivering $1,000,001 in sales revenue to Gilla Worldwide. The
fourth tranche has an exercise price of $0.70 per share and will
vest upon the sales agent delivering $1,500,001 in sales revenue
Gilla Worldwide. During the year ended December 31, 2015, the
Company booked the fair value of the vested warrants in the amount
of $35,362 as a prepaid to be expensed over the two year life of
the commission agreement. During the years ended December 31, 2017
and 2016, the Company expensed $7,367 and $8,840, respectively, in
stock based compensation which has been recorded as an
administrative expense. No portion of the value of the unvested
warrants has been expensed as the sales agent had not yet delivered
any sales revenue to Gilla Worldwide.
(b)
Issued in
connection to the Secured Notes (note 11(iv)). During the year
ended December 31, 2015, the Company booked the fair value of the
warrants in the amount of $26,821 as a prepaid to be expensed over
the life of the Secured Notes. During the years ended December 31,
2017 and 2016, the Company expensed $8,843 and $8,892,
respectively, of the prepaid as financing fees which has been
recorded as an interest expense.
(c)
Issued in
connection to the issuance of Convertible Debentures Series B (note
15). The relative fair value of the warrants in the amount of
$516,343, along with the BCF, represents debt discount on the
Convertible Debentures Series B and is accreted over the life of
the convertible debentures using the effective interest rate.
During the years ended December 31, 2017 and 2016, the Company
recorded interest expense in the amount of $552,529 and $52,781,
respectively, related to debt discount which includes the accretion
of the BCF of the Convertible Debentures Series B.
(d)
Issued
in connection to the Term Loan (note 13). On July 15, 2016, the
Company extended the expiration date of the warrants, previously
issued with the credit facility to December 31, 2018, with all
other terms of the warrants remaining the same. During the year
ended December 31, 2016, the Company booked the fair value of the
warrants and the extension in the amount of $51,598 as a debt
issuance cost to be expensed over the life of the Term Loan. During
the years ended December 31, 2017 and 2016, the Company expensed
$26,267 and $22,888, respectively, as financing fees which has been
recorded as interest expense. On July 15, 2016 and in connection to
the Term Loan Amendment, the Company also extended the expiration
date of the warrants for the purchase of 250,000 Common Shares that
were issued on August 1, 2014 in connection to the Credit Facility
(note 12) and extended on January 18, 2016 in connection to the
Term Loan (note 13) until December 31, 2018, with all other terms
of the warrants remaining the same. During the year ended December
31, 2016, the Company booked the fair value of the extensions in
the amount of $42,325 as debt discount to be amortized over the
life of the loan. During the years ended December 31, 2017 and
2016, the Company expensed $21,546 and $17,829, respectively, as
financing fees which has been recorded as interest
expense.
(e)
Issued in relation
to a consulting agreement. The warrants shall vest quarterly in
eight equal tranches, with the first tranche vesting immediately
and the final tranche vesting on November 18, 2017. If the
consulting agreement was terminated prior to the expiration of the
warrants, any unexercised fully vested warrants would expire thirty
calendar days following the effective termination date and any
unvested warrants would be automatically canceled. On August 31,
2016, the Company terminated the consulting agreement and 187,500
of the unvested warrants have been cancelled and the remaining
112,500 vested warrants remain outstanding and exercisable until
February 17, 2018 as mutually agreed in the termination. During the
years ended December 31, 2017 and 2016, the Company expensed $nil
and $16,511, respectively, as stock based compensation which has
been recorded as an administrative expense.
(f)
Issued in relation
to a consulting agreement. The warrants shall vest quarterly in
eight equal tranches, with the first tranche vesting immediately
and the final tranche vesting on November 18, 2017. If the
consulting agreement was terminated prior to the expiration of the
warrants, any unexercised fully vested warrants would expire thirty
calendar days following the effective termination date and any
unvested warrants shall be automatically canceled. On October 25,
2016, the Company terminated the consulting agreement and 937,500
unvested warrants have been cancelled and the remaining 562,500
vested warrants remain outstanding and exercisable until June 30,
2018 as mutually agreed in the termination. During the years ended
December 31, 2017 and 2016, the Company expensed $nil and $108,656,
respectively, as stock based compensation which has been recorded
as an administrative expense.
F-33
(g)
Issued in
connection to the Loan Agreement (note 11(v)). The warrants shall
vest in two equal tranches, with 500,000 warrants to vest upon the
close of Loan Tranche A and the remaining 500,000 warrants to vest
upon the close of Loan Tranche B. On March 3, 2016 and April 14,
2016, the Company closed Loan Tranche A and Loan Tranche B,
respectively, at which dates the warrants became fully vested and
exercisable. During the year ended December 31, 2016, the Company
booked the fair value of the warrants in the amount of $995, the
fair value of the warrants issued were recorded as debt discount to
be amortized over the life of the Shareholder Loan. During the
years ended December 31, 2017 and 2016, the Company expensed
$61,695 and $63,156, respectively, of the prepaid as financing fees
which has been recorded as interest expense.
(h)
Issued in
connection to a consulting agreement. Forty percent of the warrants
vested immediately with the remaining sixty percent vesting in
equal tranches of fifteen percent on September 30, 2016, December
31 2016, September 30, 2017 and December 31, 2017. If the
consulting agreement is terminated prior to the expiration of the
warrants, any unexercised fully vested warrants shall expire ninety
calendar days following the effective termination date and any
unvested warrants shall be automatically canceled. During the year
ended December 31, 2017, the Company terminated the consulting
agreement for cause and all warrants issued in connection to the
consulting agreement were canceled. As a result of the termination,
the Company did not record any stock based compensation during the
year ended December 31, 2017. During the year ended December 31,
2016, the Company expensed $205,828 in stock based compensation in
relation to these warrants.
(i)
Issued in
connection to the issuance of Convertible Debentures Series C-1
(note 15). The relative fair value of the warrants in the amount of
$234,737, along with the BCF, represents debt discount on the
Convertible Debentures Series C-1 and is accreted over the life of
the convertible debentures using the effective interest rate.
During the years ended December 31, 2017 and 2016, the Company
recorded interest expense in the amount of $331,666 and $21,74,
respectively, related to debt discount which includes the accretion
of the BCF of the Convertible Debentures Series C-1.
(j)
Issued as a
commission payment related to the issuance of the Convertible
Debentures Series C-1. The fair value of the warrants in the amount
of $14,225 was recorded as a reduction to the proceeds received
from the Convertible Debentures Series C-1 (note 15).
(k)
Issued in
connection to the Term Loan Amendment (note 13). During the year
ended December 31, 2016, the Company booked the fair value of the
warrants in the amount of $45,799 were recorded as debt discount to
be amortized over the life of the Term Loan. During the years ended
December 31, 2017 and 2016, the Company expensed $23,315 and
$10,732, respectively, of the debt discount which has been recorded
as interest expense.
(l)
Issued in
connection to the Secured Notes (note 11 iii and iv). During the
year ended December 31, 2016, the Company booked the fair value of
the warrants in the amount of $18,840 were recorded as debt
discount to be amortized over the life of the Secured Notes. During
the years ended December 31, 2017 and 2016, the Company expensed
$12,390 and $306, respectively, of the debt discount which has been
recorded as interest expense.
(m)
Issued in
connection to the issuance of Convertible Debentures Series C-2
(note 15). The relative fair value of the warrants in the amount of
$143,871, along with the BCF, represents debt discount on the
Convertible Debentures Series C-2 and is accreted over the life of
the convertible debentures using the effective interest rate.
During the years ended December 31, 2017 and 2016, the Company
recorded interest expense in the amount of $272,250 and $2,750,
respectively, related to debt discount which includes the accretion
of the BCF of the Convertible Debentures Series C-2.
(n)
Issued in
connection to the Bridge Loan Agreement (note 11(vi)). During the
years ended December 31, 2017 and 2016, the Company expensed the
fair value of the warrants in the amount of $4,988 and $nil,
respectively, as financing fees which has been recorded as interest
expense.
(o)
Issued in
connection to the issuance of Convertible Debentures Series C-3
(note 15). The relative fair value of the warrants in the amount of
$43,737, along with the BCF, represents debt discount on the
Convertible Debentures Series C-3 and is accreted over the life of
the convertible debentures using the effective interest rate.
During the years ended December 31, 2017 and 2016, the Company
recorded interest expense in the amount of $75,000 and $nil,
respectively, related to debt discount which includes the accretion
of the BCF of the Convertible Debentures Series C-3.
(p)
Issued in
connection to private placement units. No stock based compensation
expense was recorded since the warrants were issued as part of a
private placement of Common Shares. The fair value of the warrants
were calculated and recorded in additional paid in
capital.
(q)
Issued as a
commission payment related to the issuance of private placement
units. The fair value of the warrants in the amount of $24,474 was
recorded as a reduction to the proceeds received from the private
placement issuance.
F-34
(r)
Issued in
connection to private placement units. No stock based compensation
expense was recorded since the warrants were issued as part of a
private placement of Common Shares. The fair value of the warrants
were calculated and recorded in additional paid in
capital.
(s)
Issued as a
commission payment related to the issuance of private placement
units. The fair value of the warrants in the amount of $7,615 was
recorded as a reduction to the proceeds received from the private
placement issuance.
(t)
Issued in
connection to an employment agreement. The warrants will vest in
three equal tranches, with the first tranche vesting upon the
employee generating over $25,000 in sales of new business for two
consecutive months, the second tranche vesting upon the employee
generating cumulative sales of over $500,000 and the third tranche
vesting upon the employee generating cumulative sales of over
$1,000,000 of new business. At December 31, 2017, no stock based
compensation has been recorded as the employee has not yet begun to
generate new business sales.
(u)
Issued in
connection to private placement units. No stock based compensation
expense was recorded since the warrants were issued as part of a
private placement of Common Shares. The fair value of the warrants
were calculated and recorded in additional paid in
capital.
(v)
Issued as a
commission payment related to the issuance of the private placement
units. The fair value of the warrants in the amount of $2,000 was
recorded as a reduction to the proceeds received from the private
placement issuance.
(w)
Issued in
connection to private placement units. No stock based compensation
expense was recorded since the warrants were issued as part of a
private placement of Common Shares. The fair value of the warrants
were calculated and recorded in additional paid in
capital.
(x)
Issued in
connection to an employment agreement, the warrants shall vest in
two equal tranches, with the first tranche vesting upon the
commercial sale of a new product to be developed by the employee
and the second tranche vesting upon the commercial sale of a total
of two new products developed by the employee. Both tranches have
vested and the Company has recorded $52,643 in stock based
compensation for the year ended December 31, 2017 (December 31,
2016 - $nil).
(y)
Issued in
connection to private placement units. No stock based compensation
expense was recorded since the warrants were issued as part of a
private placement of Common Shares. The fair value of the warrants
were calculated and recorded in additional paid in
capital.
(z)
Issued in
connection to private placement units. No stock based compensation
expense was recorded since the warrants were issued as part of a
private placement of Common Shares. The fair value of the warrants
were calculated and recorded in additional paid in
capital.
(aa)
Issued in
connection to private placement units. No stock based compensation
expense was recorded since the warrants were issued as part of a
private placement of Common Shares. The fair value of the warrants
were calculated and recorded in additional paid in
capital.
(bb)
Issued in
connection with a consulting agreement. During the years ended
December 31, 2017 and 2016, the Company $7,000 and $nil,
respectively, as stock based compensation which was recorded as an
administrative expense.
(cc)
Issued in
connection with the acquisition of a subsidiary (note
4(c)).
(dd)
Issued in
connection to an employment agreement, the warrants shall vest in
four equal tranches every six months following the date of
issuance. During the years ended December 31, 2017 and 2016, the
Company expensed $54,825 and $nil, respectively, as stock based
compensation which was recorded as an administrative
expense.
(ee)
Issued in
connection with a promissory note (note (14)). During the year
ended December 31, 2017, the Company booked the relative fair value
of the warrants in the amount of $11,233 were recorded as debt
discount to be amortized over the life of the promissory note.
During the years ended December 31, 2017 and 2016, the Company
expensed $2,212 and $nil, respectively, of debt discount which has
been recorded as an interest expense.
(ff)
Issued in
connection to a consulting agreement, the warrants shall vest in
two equal tranches, with the first tranche vesting upon the Company
entering into a definitive agreement for the licensing of any of
the Company’s cannabis products or intellectual property to a
Canadian based license producer that is introduced by the
consultant. The Company has not yet recorded any expense related to
the issuance of these warrants.
F-35
(gg)
Issued in
connection with a promissory note (note (14)). During the year
ended December 31, 2017, the Company booked the relative fair value
of the warrants in the amount of $8,860 were recorded as debt
discount to be amortized over the life of the promissory note.
During the years ended December 31, 2017 and 2016, the Company
expensed $3,765 and $nil, respectively, of the debt discount which
has been recorded as an interest expense.
(hh)
Issued in
connection with the extension of the Shareholder Loans (note (11
iii, iv, vii and viii)). During the year ended December 31, 2017,
the Company booked the relative fair value of the warrants in the
amount of $89,053 were recorded as debt discount to be amortized
over the life of the Shareholder Loans. During the years ended
December 31, 2017 and 2016, the Company expensed $10,483 and $nil,
respectively, of the debt discount which has been recorded as an
interest expense.
18. STOCK BASED COMPENSATION
The
Company recorded stock based compensation as follows:
|
December 31,
2017
|
December
31,
2016
|
Warrants Issued as Stock Based Compensation
|
|
|
Warrants
issued in connection to the Term Loan (note 16(i))
|
$-
|
$51,598
|
Warrants
issued in connection to the Term Loan (note 16(i))
|
-
|
42,325
|
Warrants
issued in connection to a consulting agreement (note
16(j))
|
-
|
16,511
|
Warrants
issued in connection to a consulting agreement (note
16(k))
|
-
|
108,656
|
Warrants
issued in connection the Shareholder Loan (note 16(l))
|
-
|
158,995
|
Warrants
issued in connection to a consulting agreement (note
16(m))
|
-
|
205,828
|
Warrants
issued as commission related to Convertible Debentures Series C-1
(note 16(o))
|
-
|
14,225
|
Warrants
issued in connection to the Term Loan (note 16(p))
|
-
|
45,799
|
Warrants
issued in connection to the Secured Notes (note 16(q))
|
-
|
18,840
|
Warrants
issued in connection to the Bridge Loan Agreement (note 11
vi)
|
4,988
|
-
|
Warrants
issued as commission related to private placements
units
|
34,089
|
-
|
Warrants
issued in relation to consulting agreements
|
59,643
|
-
|
Warrants
issued in connection to an employment agreement
|
54,825
|
-
|
Extension
of warrants issued with Private Placement units
|
353,670
|
-
|
Total Warrants Issued as Stock Based Compensation
|
507,215
|
662,777
|
|
|
|
Shares issued for consulting fees
|
6,000
|
59,154
|
Issuance of stock options (note 21)
|
1,267,867
|
-
|
Shares to be issued for consulting fees
|
-
|
68,550
|
Shares issued for employment income to a related party
|
-
|
21,000
|
Total Stock Based Compensation
|
$1,781,082
|
$811,481
|
19. SHARES TO BE ISSUED
As at
December 31, 2017, the Company has $485,184 in Common Shares to be
issued, consisting of the following:
●
328,571
Common Shares, valued at $0.07 per share, to be issued due to the
conversion of $23,000 of Convertible Debentures Series A (note
15);
●
1,300,000 Common
Shares, valued at $0.10 per share, to be issued due to the
conversion of $130,000 of Convertible Debenture Series C by related
parties (note 15). Such Common Shares were issued on March 29,
2018;
●
132,637
Common Shares, valued at $0.10 per share, to be issued due to the
settlement of $13,264 of interest owing to related parties on
Convertible Debenture Series C (note 15). Such Common Shares were
issued on March 29, 2018;
●
2,950,000 Common
Shares, valued at $0.10 per share, to be issued due to the
conversion of $295,000 of Convertible Debenture Series C by
unrelated parties (note 15). Such Common Shares were issued on
March 29, 2018; and
●
239,199
Common Shares, valued at $0.10 per share, to be issued due to the
settlement of $23,920 of interest owing to unrelated parties on
Convertible Debenture Series C (note 15). Such Common Shares were
issued on March 29, 2018.
F-36
As at
December 31, 2016, the Company had $146,550 in Common Shares to be
issued, consisting of the following:
●
328,571
Common Shares, valued at $0.07 per share, to be issued due to the
conversion of $23,000 of Convertible Debentures Series A (note
15);
●
320,022
Common Shares, valued at an average price of $0.156 per share, to
be issued due to the settlement of $50,000 in consulting fees owing
to a shareholder. Such Common Shares were issued on April 5,
2017;
●
143,715
Common Shares, valued at an average price of $0.129 per share, to
be issued due to the settlement of $18,550 in consulting fees owing
to an unrelated party. Such Common Shares were issued on April 5,
2017; and
●
366,667
Common Shares, valued at $0.15 per share, to be issued due to the
settlement of $55,000 in consulting fees owing to an unrelated
party. Such Common Shares were issued on April 5,
2017.
20. RELATED PARTY TRANSACTIONS
Transactions
with related parties are incurred in the normal course of business
and are as follows:
(a)
|
The
Company’s current and former officers and shareholders have
advanced funds on an unsecured, non-interest bearing basis to the
Company, unless stated otherwise below, for travel related and
working capital purposes. The Company has not entered into any
agreement on the repayment terms for these
advances.
|
Advances
from related parties due over the next 12 months are as
follows:
|
December
31,
2017
|
December
31,
2016
|
Advances by and
amounts payable to Officers of the Company, two of which are also
Directors
|
$169,666
|
$95,759
|
Advances by and
consulting fees payable to a corporation owned by two Officers of
the Company, one of which is also a Director
|
-
|
313,745
|
Consulting fees
owing to persons related to Officers who are also Directors of the
Company
|
485
|
77,463
|
Advances by
Officers of the Company, one of which is also a Director, bears
interest at 1.5% per month
|
-
|
901,784
|
Amounts payable to
a corporation related by virtue of a common Officer and Director of
the Company
|
-
|
76,407
|
Consulting fees and
directors fees payable to Directors of the Company
|
-
|
13,725
|
Incentive fee
bonus
|
82,690
|
-
|
|
$252,841
|
$1,478,883
|
During
the year ended December 31, 2017, the following related parties
agreed to defer amounts payable to them until April 30,
2019:
|
December
31,
2017
|
December
31,
2016
|
Advances by and
amounts payable to Officers of the Company, two of which are also
Directors
|
$856,975
|
$572,506
|
Advances by and
consulting fees payable to a corporation owned by two Officers of
the Company, one of which is also a Director
|
682,360
|
372,400
|
Consulting fees
owing to persons related to Officers who are also Directors of the
Company
|
76,348
|
-
|
Advances by
Officers of the Company, one of which is also a Director, bears
interest at 1.5% per month
|
552,590
|
-
|
Consulting fees and
directors fees payable to Directors of the Company
|
113,500
|
141,000
|
|
$2,281,773
|
$1,085,906
|
During
the year ended December 31, 2017, the Company settled $87,100 of
fees payable, deferred and otherwise, to two former Directors of
the Company with the issuance of 871,000 Common Shares at a price
of $0.10 per share. The amount allocated to Shareholders’
Deficiency, based on their fair value, amounted to $121,940. The
balance of $34,840 has been recorded as a loss on settlement of
debt (note 16).
F-37
During
the year ended December 31, 2017, the Company settled $30,000 of
amounts payable to a Director of the Company with the issuance of
300,000 Common Shares at a price of $0.10 per share. The amount
allocated to Shareholders’ Deficiency, based on their fair
value, amounted to $33,000. The balance of $3,000 has been recorded
as a loss on settlement of debt (note 16).
During
the year ended December 31, 2016, the Company deferred amounts
payable to a number of related parties. The amounts were
non-interest bearing and payable on April 1, 2018, in exchange for
agreeing to defer the fees, the Directors and Officers would
receive an incentive bonus equal to 10% of the amount deferred and
payable on April 1, 2018. The incentive bonus would be expensed
over the term of the deferrals. During the years ended December 31,
2017 and 2016, the Company expensed $84,343 and $nil, respectively,
in interest expense related to the incentive bonus. During the year
ended December 31, 2016, the Company settled $48,000 of deferred
amounts owing to an Officer and Director of the Company with the
issuance of 480,000 Common Shares at a price of $0.10 per share.
The amount allocated to Shareholders’ Deficiency, based on
their fair value, amounted to $76,800. The balance of $28,800 has
been recorded as a loss on settlement of debt.
(b)
|
Interest
accrued to related parties were as follows:
|
|
December
31,
2017
|
December
31,
2016
|
|
|
|
Interest accrued on
advances by Officers of the Company, one of which is also a
Director
|
$413,477
|
$234,121
|
Advances by and
consulting fees payable to a corporation owned by two Officers of
the Company, one of which is also a Director
|
55,348
|
29,669
|
|
$468,825
|
$263,790
|
During
the year ended December 31, 2017, the Company deferred the interest
owing to related parties until April 30, 2019.
(c)
|
Transactions
with related parties were as follows:
|
During
the year ended December 31, 2017, the Company expensed $nil
(December 31, 2016 – $72,394) in rent expense payable to a
corporation related by virtue of a common Officer and a common
Director of the Company.
During
the year ended December 31, 2017, the Company expensed $20,345
(December 31, 2016 – $22,304) in costs related to vehicles
for the benefit of three Officers, two of which are also Directors
of the Company, and for the benefit of a person related to an
Officer and Director of the Company. The Company also expensed
$129,411 (December 31, 2016 – $206,445) in travel and
entertainment expenses incurred by Officers and Directors of the
Company.
On
December 29, 2017, the Company agreed to issue 1,432,637 Common
Shares, at a price of $0.10 per share, to related parties, on the
conversion of $130,000 in face value of the Convertible Debentures
Series C and the settlement of $13,264 in interest accrued on the
Convertible Debentures Series C (note 15). Such Common Shares were
issued on March 29, 2018.
On June
30, 2017, the Company issued 3,042,931 Common Shares, at a price of
$0.10 per share, to an Officer who is also a Director of the
Company, on the conversion of $275,000 in face value of the
Convertible Debentures Series B and the settlement of $29,293 in
interest accrued on the Convertible Debentures Series B (note
15).
On June
30, 2017, the Company issued 121,717 Common Shares, at a price of
$0.10 per share, to a person related to an Officer who is also a
Director of the Company, on the conversion of $11,000 in face value
of the Convertible Debentures Series B and the settlement of $1,171
in interest accrued on the Convertible Debentures Series B (note
15).
On June
30, 2017, the Company issued 53,781 Common Shares, at a price of
$0.10 per share, to a Director of the Company, on the conversion of
$5,000 in face value of the Convertible Debentures Series C-1 and
the settlement of $378 in interest accrued on Convertible
Debentures Series C-1 (note 15).
On
March 21, 2017, the Company issued 1,998,950 Common Shares as part
of private placement units, at a price of $0.10 per private
placement unit, for settlement of $199,895 in amounts owing to
related parties.
On
January 20, 2017, the Company issued 65 units of Convertible
Debentures Series C-3 in settlement of $65,000 owing to a related
party (note 15).
During
the year ended December 31, 2016, amounts owing to a former related
party in the amount of $9,263 were forgiven, as a result, the
Company recorded a gain on settlement in the amount of
$9,263.
F-38
On June
17, 2016, the Company issued 150,000 Common Shares, at a price of
$0.14 per share, to a person related to an Officer and Director of
the Company, on the signing of a new employment
agreement.
On May
20, 2016, the Company issued face value $55,000 of Convertible
Debentures Series C-1 to related parties consisting of $10,000 to a
person related to an Officer and Director for settlement of fees
payable, $10,000 to a Director of the Company for settlement of
directors fees payable and $35,000 to a corporation owned by two
Officers of the Company, one of which is also a Director, for
settlement of loans payable (note 15).
On May
20, 2016, the Company issued face value $15,000 of Convertible
Debentures Series C-1 to two Directors of the Company for cash
(note 15).
On
February 2, 2016, the Company settled $48,000 of deferred amounts
owing to an Officer and Director of the Company with the issuance
of 480,000 Common Shares at a price of $0.10 per share. Such Common
Shares were issued on May 19, 2016.
The
Company expensed consulting fees payable to related parties as
follows:
|
December
31,
2017
|
December
31,
2016
|
Officers
|
355,023
|
330,900
|
Persons related to
a Director
|
149,335
|
142,249
|
|
$504,358
|
$473,149
|
The
Company’s Chief Executive Officer and Chief Financial Officer
are both participants of the consortium of Lenders of the Credit
Facility and the Term Loan, each committed to provide a total of
CAD $150,000 of the Term Loan (notes 12 and 13).
On
February 27, 2017 and in connection to the Term Loan Amendment
No.2, the Company agreed to issue 500,000 private placement units,
at a price of $0.10 per unit, for settlement of $50,000 in
financing fees. The Company’s Chief Executive Officer and its
Chief Financial Officer received a total of 93,622 units which
included 93,622 Common Shares and warrants for the purchase of
46,811 Common Shares.
21. STOCK OPTION PLAN
On June
16, 2017, the Company adopted a stock option plan (the
“Option Plan”), under which the Board of Directors may
from time to time, in its discretion, grant to directors, officers,
employees and consultants of the Company non-transferable options
to purchase Common Shares.
Pursuant
to the Option Plan, the Company may issue options for such period
and exercise price as may be determined by the Board of Directors,
and in any case not exceeding ten years from the date of grant and
equal to not more than 10% of the then issued and outstanding
Common Shares. The minimum exercise price of an option granted
under the Option Plan must not be less than 100% of the market
value of the Common Shares on the date such option is granted, and
if the option is issued to a 10% shareholder of the Company, the
exercise price will not be less than 110% of the market value of
the Common Shares on the date such option is granted.
Outstanding
options at December 31, 2017 are as follows:
|
Options
Outstanding
|
Exercise
Price
|
Executive
Officers
|
4,500,000
|
$0.20
|
Directors
|
1,250,000
|
$0.20
|
Employees
|
3,422,500
|
$0.20
|
|
9,172,500
|
|
F-39
Grant
Date
|
Expiry
Date
|
Options
Outstanding
|
Options
Exercisable
|
Exercise
Price
|
Fair Value
Expense
|
June 16,
2017
|
June 15,
2020
|
8,750,000
|
8,750,000
|
$0.20
|
$1,213,605
|
The
options were granted to Officers, Directors and employees of the
Company which were fully vested on issuance. The fair value of
$1,213,605 was determined using the Black Scholes option-pricing
model with the following weighted average assumptions:
Stock
price
|
|
$0.14
|
Risk-free
interest rate
|
|
1.49%
|
Expected
life
|
|
3
years
|
Estimated
volatility in the market price of the Common Shares
|
|
306%
|
Grant
Date
|
Expiry
Date
|
Options
Outstanding
|
Options
Exercisable
|
Exercise
Price
|
Fair Value
Expense
|
December 12,
2017
|
December 11,
2020
|
422,500
|
422,500
|
$0.20
|
$54,262
|
The
options were granted to employees of the Company which were fully
vested on issuance. The fair value of $54,262 was determined using
the Black Scholes option-pricing model with the following weighted
average assumptions:
Stock
price
|
$0.13
|
Risk-free interest
rate
|
1.95%
|
Expected
life
|
3
years
|
Estimated
volatility in the market price of the Common Shares
|
297%
|
During
the year ended December 31, 2017, the Company expensed $1,267,867,
as a stock option expense (December 31, 2016 –
$nil).
22. INCOME TAXES
Under
ASC No. 740, Income Taxes
(“ASC 740”), income taxes are recognized for the
following: a) amount of tax payable for the current year and b)
deferred tax liabilities and assets for future tax consequences of
events that have been recognized differently in the financial
statements than for tax purposes.
The Company has non-capital losses of $8,093,593 (2016 –
$7,512,930) in US non-capital losses, $3,584,969 (2016 –
$3,210,343) in Canadian non-capital losses, $408,510 (2016 –
$404,072) in Irish non-capital losses and $228,115 (2016 –
$202,920) in Hungarian non-capital losses and $nil (2016 –
$nil) in Slovakian non-capital gains.
|
United States
|
Canada
|
Ireland
|
Hungary
|
Slovakia
|
Total
|
2032
|
$(248,582)
|
$(130,505)
|
$-
|
$-
|
$-
|
$(379,087)
|
2033
|
(1,001,027)
|
(128,036)
|
-
|
-
|
-
|
(1,129,063)
|
2034
|
(1,737,512)
|
(78,919)
|
(372,764)
|
-
|
-
|
(2,189,195)
|
2035
|
(1,240,083)
|
(281,663)
|
(29,133)
|
(65,163)
|
-
|
(1,616,042)
|
2036
|
(1,955,209)
|
(1,168,163)
|
(2,175)
|
(137,757)
|
-
|
(3,263,304)
|
2037
|
(1,911,180)
|
(1,797,683)
|
4,438
|
(25,195)
|
-
|
(3,738,496)
|
|
$(8,093,593)
|
$(3,584,969)
|
$(408,510)
|
$(228,115)
|
$-
|
$(12,315,187)
|
The
reconciliation of income taxes at the statutory income tax rates to
the income tax expense is as follows:
|
December 31,
2017
|
December
31,
2016
|
Loss
before income taxes
|
$6,755,982
|
$4,500,206
|
Applicable
tax rate ranges from 10% to 35%
|
|
|
Expected
income tax (recovery) at the statutory rates
|
(2,385,368)
|
(1,439,417)
|
Tax
rate changes and other adjustments
|
1,238,407
|
-
|
Share
based compensation and non-deductible expenses
|
428,333
|
200,042
|
True
up
|
906,828
|
-
|
Changes
in tax benefits not recognized
|
(296,235)
|
1,239,375
|
Income
tax (recovery)
|
$(108,035)
|
$-
|
The Company's income tax (recovery) is allocated as
follows:
|
December 31,
2017
|
December
31,
2016
|
Current
tax (recovery) expense
|
$78,758
|
$-
|
Deferred
tax (recovery) expense
|
(186,793)
|
-
|
|
$(108,035)
|
$-
|
F-40
The
components of the temporary differences and the country of origin
at December 31, 2017 and 2016 are as follows (applying the combined
Canadian federal and provincial statutory income tax rate of 26%,
the US income tax rate of 35%, the Irish income tax rate of 12.5%,
the Hungarian income tax rate of 10% and the Slovakian income tax
rate of 22% for both the years). No deferred tax assets are
recognized on these differences as it is not probable that
sufficient taxable profit will be available to realize such
assets.
|
United States
|
Canada
|
||
|
December 31,
2017
|
December
31,
2016
|
December 31,
2017
|
December
31,
2016
|
Loss
before income taxes
|
$4,887,023
|
$3,103,756
|
$2,102,912
|
$1,291,477
|
Applicable
tax rate ranges from 10% to 35%
|
35%
|
35%
|
26.5%
|
26.5%
|
Expected
income tax (recovery) at the statutory rates
|
(1,894,371)
|
(1,086,315)
|
(557,272)
|
(342,241)
|
Tax
rate changes and other adjustments
|
1,219,458
|
-
|
2,547
|
-
|
Share
based compensation and non-deductible expenses
|
367,062
|
177,943
|
46,909
|
22,099
|
True
up
|
121,206
|
-
|
749,165
|
-
|
Changes
in tax benefits not recognized
|
186,645
|
908,372
|
(428,142)
|
320,142
|
Income
tax (recovery)
|
$-
|
$-
|
$(186,793)
|
$-
|
|
Ireland
|
Hungary
|
||
|
December
31,
2017
|
December
31,
2016
|
December
31,
2017
|
December
31,
2016
|
Loss
before income taxes
|
$(21,557)
|
$(2,301)
|
$158,042
|
$111,489
|
Applicable
tax rate ranges from 10% to 35%
|
12.5%
|
12.5%
|
10%
|
10%
|
Expected
income tax (recovery) at the statutory rates
|
2,695
|
288
|
(14,224)
|
(11,149)
|
Tax
rate changes and other adjustments
|
5,330
|
-
|
11,148
|
1
|
Share
based compensation and non-deductible expenses
|
|
|
13,332
|
-
|
True
up
|
(48,680)
|
-
|
85,271
|
-
|
Changes
in tax benefits not recognized
|
40,655
|
(288)
|
(95,527)
|
11,148
|
Income
tax (recovery)
|
$-
|
$-
|
$-
|
$-
|
|
Slovakia
|
|
|
December
31,
2017
|
December
31,
2016
|
Loss
before income taxes
|
$370,493
|
$(4,216)
|
Applicable
tax rate ranges from 10% to 35%
|
21%
|
22%
|
Expected
income tax (recovery) at the statutory rates
|
77,804
|
928
|
Tax
rate changes and other adjustments
|
(77)
|
-
|
Share
based compensation and non-deductible expenses
|
1,031
|
-
|
True
up
|
(134)
|
-
|
Changes
in tax benefits not recognized
|
134
|
(928)
|
Income
tax (recovery)
|
$78,758
|
$-
|
Deferred tax asset components as of December 31, 2017 and 2016 are
as follows:
|
December 31,
2017
|
December
31,
2016
|
Operating
losses available to offset future income taxes
|
$(12,315,187)
|
$(11,330,266)
|
Expected
income tax recovery at a statutory rate of 35%
|
4,310,315
|
3,535,016
|
Valuation
allowance
|
(4,202,280)
|
(3,535,016)
|
Income
taxes – deferred
|
$108,035
|
$-
|
As the Company has not earned significant revenues, it has provided
a 100 percent valuation allowance on the net deferred tax asset as
of December 31, 2017 and 2016. Management believes the Company has
no uncertain tax position.
As the Company is delinquent in its historical tax filings it has
accrued $90,000 in penalties which the Company estimates it will be
assessed on filing of the delinquent returns. The accrued penalties
have been recorded as an administrative expense during the year
ended December 31, 2016.
F-41
23. COMMITMENTS AND CONTINGENCIES
a)
Premises Leases – Mississauga, Ontario
Effective
April 1, 2016, a subsidiary of the Company entered into a lease
agreement for a rental premises in Mississauga, Ontario, Canada.
The terms of the lease agreement are to be for a period of 3 years
and ending on June 30, 2019 with payments made monthly. Minimum
annual lease payments are as follows and denominated in
CAD:
2018
|
78,125
|
2019
|
39,063
|
|
$117,188
|
b)
Charitable Sales Promotion
On January 21, 2016, the Company entered into an agreement with
Wounded Warriors Family Support Inc. in which the Company agreed to
make a donation of $1.00 for each sale of its “Vape
Warriors” E-liquid product during the period from January 1,
2016 to December 31, 2016, with a minimum donation of $50,000.
During the year ended December 31, 2016, the Company accrued the
full $50,000 in charitable contributions regarding this agreement.
During the year ended December 31, 2017, the Company settled the
full amount owing in exchange for 300,000 Common Shares at a fair
value of $36,000.
c)
Royalty Agreement
On June
14, 2016, the Company entered into a royalty agreement related to
an E-liquid recipe purchased from an unrelated party in which the
Company agreed to pay to the recipe developer, a royalty of $0.25
per 60 ml of E-liquid sold that contains the recipe, up to a
maximum of $100,000. Although the Company has the ability to sell
the E-liquid globally, the royalty was only paid on E-liquid sold
within the United States. The Company is no longer selling the
original recipe and, as of December 31, 2017, has stopped accruing
royalty payments under this agreement. During the year ended
December 31, 2017, the Company paid $649 in relation to the royalty
agreement (December 31, 2016 – $9,683).
24. FINANCIAL INSTRUMENT
(i)
Credit Risk
Credit
risk is the risk of financial loss to the Company if a customer or
counterparty to a financial instrument fails to meet its
contractual obligations. The Company’s credit risk is
primarily attributable to fluctuations in the realizable values of
its cash and trade receivables. Cash accounts are maintained with
major international financial institutions of reputable credit and
therefore bear minimal credit risk. In the normal course of
business, the Company is exposed to credit risk from its customers
and the related trade receivables are subject to normal commercial
credit risks. A substantial portion of the Company’s trade
receivables are concentrated with a limited number of large
customers, all of which the Company believes are subject to normal
industry credit risks. At December 31, 2017, the Company recorded
an allowance of $378,277 (December 31, 2016 – $256,280) in
regards to customers with past due amounts. At December 31, 2017,
34% (December 31, 2016 – 15%) of the Company’s trade
receivables are due from one customer and 68% (December 31, 2016
– 51%) of the trade receivables are due from six customers.
During the year ended December 31, 2017, 24% (December 31, 2016
– 31%) of the Company’s sales were to one
customer.
F-42
(ii)
Liquidity Risk
Liquidity
risk is the risk that the Company will not be able to meet its
financial obligations as they fall due. The Company’s
approach to managing liquidity risk is to ensure, as far as
possible, that it will have sufficient liquidity to meet its
liabilities when due, under both normal and stressed conditions,
without incurring unacceptable losses or risking damage to the
Company’s reputation. The Company manages liquidity risk by
closely monitoring changing conditions in its investees,
participating in the day to day management and by forecasting cash
flows from operations and anticipated investing and financing
activities. At December 31, 2017, the Company had liabilities due
to unrelated parties through its financial obligations over the
next six years in the aggregate principal amount of $7,834,134. Of
such amount, the Company has obligations to repay $5,170,843 over
the next twelve months with the remaining $2,663,292 becoming due
within the following five years.
(iii) Foreign
Currency Risk
Currency
risk is the risk that the fair value or future cash flows of a
financial instrument will fluctuate because of changes in foreign
exchange rates. The risks and fluctuations are related to cash,
accounts payable and trade receivables that are denominated in CAD,
HUF and EUR.
Analysis
by currency in CAD, HUF and EUR equivalents is as
follows:
December 31,
2017
|
Accounts
Payable
|
Trade
Receivables
|
Cash
|
CAD
|
$784,780
|
$72,563
|
$25,911
|
HUF
|
$120,655
|
$1,311
|
$4,830
|
EUR
|
$71,885
|
$45,519
|
$28,948
|
The effect of a 10% strengthening of the United States Dollar
against the Canadian Dollar, the Hungarian Forint and the Euro at
the reporting date on the CAD, HUF and EUR-denominated trade
receivables and payables carried at that date would, had all other
variables held constant, have resulted in an increase in profit for
the year and increase of net assets of $68,630, $11,451 and $258,
respectively. A 10% weakening in the exchange rate would, on the
same basis, have decreased profit and decreased net assets by
$68,630, $11,451 and $258, respectively.
The
Company purchases some of its inventory in a foreign currency, at
December 31, 2017, the Company included $99,518 (December 31, 2016
– $238,888) in inventory that was purchased in a foreign
currency on its consolidated balance sheet. The Company does
not use derivative financial instruments to reduce its exposure to
this risk.
(iv)
Interest Rate Risk
Interest
rate risk is the risk that the fair value or future cash flows of a
financial instrument will fluctuate because of changes in market
interest rates. The Company is exposed to interest rate risk on its
fixed interest rate financial instruments. These fixed-rate
instruments subject the Company to a fair value risk. The interest
rates on the majority of the Company’s existing interest
bearing debt are fixed. Sensitivity to a plus or minus 25 basis
points change in rates would not significantly affect the fair
value of this debt.
25. SEGMENTED
INFORMATION
The
Company currently operates in only one business segment, namely,
manufacturing, marketing and distributing of vaping products in
North America and Europe. Total long lived assets by
geographic location are as follows:
|
December
31,
2017
|
December
31,
2016
|
Canada
|
$1,830,694
|
$826
|
United
States
|
1,522,641
|
1,125,704
|
Europe
|
5,979
|
23,418
|
|
$3,359,314
|
$1,149,948
|
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Total
sales by geographic location are as follows:
|
December
31,
2017
|
December
31,
2016
|
Canada
|
$698,972
|
$49,732
|
United
States
|
1,067,261
|
2,596,172
|
Europe
|
2,834,353
|
1,904,889
|
|
$4,600,586
|
$4,550,793
|
26. SUBSEQUENT EVENTS
On
January 26, 2018 and in accordance with the terms of a warrant
agreement, the Company received a form of election to purchase
50,000 Common Shares of the Company at a price of $0.20 per share
for total gross proceeds of $10,000. Such Common Shares were issued
on March 15, 2018.
On
February 1, 2018 and in connection to a consulting agreement, the
Company issued warrants for the purchase of 250,000 Common Shares
exercisable until January 31, 2020 at an exercise price of $0.20
per Common Share. The warrants shall vest in eight equal tranches,
with the first tranche vested upon issuance and the remaining seven
tranches to vest equally every three months
thereafter.
On
March 23, 2018, the Company issued and sold on a private placement
basis, 3,677,271 Common Shares of the Company at a price of $0.11
per share for total gross proceeds of $404,500.
On
April 3, 2018, the Company issued an unsecured promissory note in
the principal amount of CAD $65,000. The promissory note matures on
April 20, 2018 and bears interest at a rate of 15% per annum,
accrued monthly but subject to a minimum interest payment of CAD
$750.
On
April 2, 2018, the Company entered into an equipment financing
facility (the “Equipment Facility”) in the aggregate
principal amount of CAD $340,850. The Equipment Facility is secured
by certain equipment of the Company, due April 1, 2020 and bears
interest at a rate of 15% per annum. The Company shall be required
to make principal and interest payments of CAD $16,527, monthly in
arrears. On April 2, 2018 and in connection with the Equipment
Facility, the Revolving Facility entered into on December 7, 2017
was terminated and retired and all amounts due under the Revolving
Facility were rolled into the Equipment Facility. On April 11,
2018, the Company received the balance of the aggregate principal
amount made available to the Company under the Equipment
Facility.
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