Up in Smoke For Pot Firm?

Trading of shares in GrowLife Inc., a Woodland hills seller of marijuana growing supplies, has been halted by the SEC amid questions about the firm, which has been on an acquisition spree. The Securities and Exchange Commission stopped trading on April 10 as it probed the money-losing company for what it called “potentially manipulative transactions.” Despite losing more than $20 million last year, GrowLife’s market cap has risen from less than $10 million in mid-2012 to more than $404 million today – or about 82 times its annual revenue. At the same time, there have been multiple insiders selling off stock, and in February the board voted to increase the number of authorized shares from 1 billion to 3 billion. “It’s like a high-tech evaluation. For God’s sake, it’s a company that makes equipment for the marijuana industry,” said Alexander L. Cappello, managing director of Santa Monica boutique investment bank Cappello Global LLC. “They are way ahead of themselves.” The suspension will last at least until April 25, freezing the stock that trades on the OTC Bulletin Board at 50 cents a share. In the past year, the stock has been fluctuating but rising, dropping to a penny last May and reaching a 52-week high of 78 cents last month. GrowLife has been on an acquisition spree as it seeks to gain a foothold in the rapidly burgeoning industry of selling marijuana growing supplies as legalization of the substance gains traction. In November 2012, voters in Washington and Colorado passed measures allowing residents possession of marijuana for adults 21 and over, while the medical marijuana industry is growing in California and at least three other states. However, GrowLife only reported sales of $1.9 million last quarter and $4.9 million over the past year as it continues to lose money, prompting it to issue a “going concern” statement over its ability to stay in business in its annual report released last month. GrowLife is not the first stock in the marijuana industry to receive attention from the SEC. The agency has halted trading in five companies in the sector in the last few months alone. The company has said it was unaware of the reasons behind the suspension, and vehemently denied any impropriety. “GrowLife has no knowledge of any irregularities that may warrant a suspension of trading in our securities,” the company said in a letter to stockholders last week. Chief Executive Sterling Scott was not made available for comment after scheduling and then canceling an interview with the Business Journal. Financial fallout GrowLife has a history of complex stock transaction, including the use of equity to finance acquisitions. It began with a predecessor company called Wentworth III Inc., which was incorporated in March 2001 and engineered a reverse merger in 2003 with Whitco Co. LP, a manufacturer of poles used in stadium lighting. Several bankruptcies and reorganizations later, the company emerged in 2011 as a seller of a self-contained hydroponic growing system called the Photoron, which included a high-tech light and greenhouses of varying size. The company attained its current corporate structure after another reverse merger in April 2012 with SG Technologies Corp., a firm that developed a lighting system called the Stealth Grow LED for hydroponic plants, which are grown in water. Scott was chief executive of that firm. As part of the merger, Scott received no cash, but was compensated along with other SG stockholders with 157 million shares of GrowLife common stock, in addition to 3 million preferred shares. At the time, the common stock traded at roughly 3 cents a share, while the preferred shares have since been cancelled. Within three months the company went on a buying spree that began with its acquisition of Greners.com, a hydroponics supplies ecommerce site based in Santa Rosa that sells everything from fertilizers and nutrients to greenhouses. The July 2012 acquisition cost the company $250,000 in cash in addition to $200,000 in a secured promissory note. Then in October 2012 it bought the assets of Urban Garden Supplies, which operated a Woodland Hills retail store on Ventura Boulevard that currently operates as the company’s flagship brick-and-mortar outlet. That acquisition was financed with 3.9 million shares of GrowLife common stock. The company made its largest acquisition to date last June when it acquired three Colorado marijuana businesses – Evergreen Garden Center LLC, Rocky Mountain Hydroponics LLC and 58Hydro.com – for $550,000 in cash, $800,000 in secured convertible notes and nearly 7.9 million shares, according to GrowLife’s 2013 annual report. It also acquired four retail outlets around the nation as part of the deal. As a result of all the acquisitions, GrowLife reported in its last annual report that revenue rose about 235 percent to $4.8 million. The company also has about $1.3 million in long-term debt and was forced to issue 1.25 million shares as payment for its June through November rent last year at its corporate offices in Woodland Hills. The company also put 44 million shares of its common stock in the hands of employees as wages for salaries, according to the annual report – some of whom already have cashed in. Among notable stock transactions was the sale over the past month of more than 500,000 shares by Robert Hunt, a director and executive vice president who joined the company as part of its acquisition of Evergreen, of which he was chief executive. Hunt has more than 27 million shares in GrowLife, for a stake of more than 3 percent. The sale netted him about $275,000. Scott, too, has been selling shares. He dumped about 5.7 million shares on April 9, the day before the SEC halted trading. That transaction brought the chief executive about $2.9 million. Scott still has a roughly 7 percent stake in the company. And even his estranged wife, Elisabeth Wedam, sold 7.8 million shares valued at about $4.67 million, according to a regulatory filing. As of March 31, GrowLife had about 806 million shares outstanding, with its officers, directors and principal stockholders owning about 18.5 percent of the shares, according to the company. Rebounding concerns GrowLife said it will be forced to continue using notes and issuing stock as a method of attaining working capital if it can’t locate other sources. And with most conventional banks keeping distance from the entire industry, that could be hard to come by. Troy Dayton is chief executive of the ArcView Group, a San Francisco-based angel investor network focused on the marijuana industry. He said the industry still doesn’t attract conventional banks and other traditional lenders, but access to capital is improving. “We have about 175 high net-worth investors ranging from individuals to representatives of venture capital funds wanting to invest in the sector,” he said “Up to less than a year ago, financing was mostly family and friends. But now, there are investors out there.” Among the issues scaring away investors is the federal government’s stance that pot sales are still illegal under federal law even in states that have legalized it – and a number of questionable firms that have entered the industry. The Financial Industry Regulatory Authority this year again warned investors of “potential for fraud in this arena” and the “risks of investing in thinly traded companies about which little is known.” GrowLife is not the only penny pot stock to have sales of its shares suspended by the SEC. Several have been halted since early last month, including Petrotech Oil and Gas Inc. of Bedford, Texas, which operates a subsidiary involved in cannabis and hemp production; Aventura Equities of Georgetown, S.C., a cannabis-related intellectual property and licensing rights firm; and Advanced Cannabis Solutions Inc. in Colorado Springs, which leases real estate and equipment to growers. A recovery after a halt in trading can be difficult. Advanced Cannabis saw shares drop 40 percent when the company resumed trading after its 10-day suspension earlier this month. Cappello said GrowLife could see a much deeper drop. “After a halt like this, sometimes they never open back up,” he said. “And if they do, it could be a lot worse than 40 percent.” Lloyd Greif, chief executive at boutique investment bank Greif & Co. in downtown Los Angeles, said that between its poor financial situation and the SEC investigation, he doesn’t think the future is very bright at GrowLife. “The SEC doesn’t halt trading if things are hunky-dory. It’s a pretty drastic measure,” he said. “If it does resume trading, you can assume it will be at a lot lower level. The only people who are going to trade this stock are the ones that have it and want to get out of it. This could be a death spiral.” Burgeoning industry Whatever the problems are with GrowLife’s stock, it seems clear there is some demand for its products. GrowLife operates about a half dozen retail stores around the country, including locations in Woodland Hills, Santa Rosa, Edwards, Colo., Peabody, Mass. and Portland, Maine. Chris Upton is general manager of GrowLife’s store in Woodland Hills, which sells everything from organic and vegan plant nutrients to soil for gardening. Upton said the store gets about 20 customers daily, with only about three interested in growing plants other than marijuana. His general policy is to stay out of customers’ business and not worry about what is going on at corporate. “We keep to ourselves and don’t ask questions. We don’t want to know,” said Upton, adding that the recent issues with the SEC don’t concern him. “I see everything on the Internet, but it doesn’t really have any play with me. No one has said a word to me about it.”