This discussion and analysis may include statements regarding our expectations
with respect to our future performance, liquidity, and capital resources. Such
statements, along with any other non-historical statements in the discussion,
are forward-looking. These forward-looking statements are subject to numerous
risks and uncertainties, including, but not limited to, factors listed in other
documents we file with the Securities and Exchange Commission ("SEC"). We do not
assume an obligation to update any forward- looking statement. Our actual
results may differ materially from those contained in or implied by any of the
forward-looking statements in this Quarterly Report on Form 10-Q. See "SPECIAL
NOTE REGARDING FORWARD-LOOKING STATEMENTS" above.
Overview
Sugarmade, Inc. (hereinafter referred to as "we", "us" or the "Company") was
originally incorporated on June 5, 1986 in California as Lab, Inc., and later
that month, on June 24, 1986 changed its name to Software Professionals, Inc. On
May 21, 1996, the Company changed its name to Enlighten Software Solutions, Inc.
On June 20, 2007, Enlighten Software Solutions, Inc. was incorporated in
Delaware for the purpose of merging with Enlighten Softwear Solutions, Inc. a
California corporation so as to effect a redomicile to Delaware. On January 24,
2008, the Company changed its name to Diversified Opportunities, Inc. On May 9,
2011 we closed on a Share Exchange Agreement with Sugarmade, Inc., a California
corporation founded in 2010 and on June 24, 2011 changed our name to Sugarmade,
Inc.
Our Company operates much of its business activities through our subsidiaries,
SWC Group, Inc., a California corporation doing business as CarryOutSupplies.com
("SWC"), NUG Avenue, Inc., a California corporation and 70% owned subsidiary of
the Company ("NUG Avenue"), and Lemon Glow Company, Inc., a California
corporation and a wholly owned subsidiary of the Company ("Lemon Glow"). In
2014, we acquired SWC, creating the Company as it is today.
Shares of our common stock are quoted on the OTC Pink tier of OTC Markets. Our
trading symbol is "SGMD". Our corporate website is www.Sugarmade.com.
As of the date of this filing, we are involved in several business sectors and
business ventures:
Paper and paper-based products: The supply of consumable products to the
quick-service restaurant sub-sector of the restaurant industry, and as an
importer and distributor of non-medical personal protection equipment to
business and consumers, via our Carry Out Supplies subsidiary. Carry Out
Supplies is a producer and wholesaler of custom printed and generic supplies,
servicing more than 2,000 quick-service restaurants. The primary products are
plastic cold cups, paper coffee cups, yogurt cups, ice cream cups, cup lids, cup
sleeves, edible packaging, food containers, soup containers, plastic spoons, and
similar products for this market sector. This subsidiary, which was formed in
2009.
NUG Avenue investment into licensed cannabis delivery in Los Angeles area
markets. On February 8, 2021, we became a majority owner of NUG Avenue, which
operates a licensed and regulated cannabis delivery service out of Lynwood,
California, serving the greater Los Angeles Metropolitan area (the "Lynwood
Operations"). The Company currently owns 70% of NUG Avenue's Lynwood Operations
and holds first rights of refusal on NUG Avenue's business expansion relative to
the cannabis marketplace. By way of our capital injection made into NUG Avenue
and via our 70% ownership position, we consolidate and recognize 100% of the
revenues and 70% of profits or loss generated by NUG Avenue for its Lynwood
Operations.
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We believe our investment in NUG Avenue will allow us to expand our presence
into the licensed and regulated cannabis marketplace. We believe the California
cannabis market is still one of the largest Market currently. According to the
California Department of Tax and Fee Administration, the total cannabis tax
revenue from fourth-quarter of calendar year 2021 return is $308.56 million.
This includes California's cannabis excise tax, which generated $157.37 million;
the cultivation tax, which generated $38.98 million; and $112.21 million in
sales tax revenue from cannabis businesses. Fourth-quarter revenue shows a
potential decrease of 7.5 percent from adjusted revenue figures for the third
quarter. However, the total tax revenue increased about 1% compared to
fourth-quarter of calendar year 2020. Source:
https://www.cdtfa.ca.gov/dataportal/dataset.htm?url=CannabisTaxRevenues
Cannabis products delivery service and sales: In February 2020, the Company
entered into an agreement with Indigo Dye Group Corp. ("Indigo") to acquire a
40% stake in Budcars licensed cannabis delivery service ("Budcars"), which
operates a licensed cannabis delivery service in the Sacramento, California
area. Under the terms of the agreement with Indigo, Sugarmade acquired an option
to purchase an additional 30% interest in Budcars. Upon exercise of this option,
the Company would acquire a controlling interest in Indigo. As of March 31,
2022, the option has not yet been exercised and the Company's stake in Budcars
remained at 40%. The Company plans to open new locations via purchasing equity
in other franchise brands to cover delivery for the entire state of California.
Therefore, the Company is not likely at this time to exercise its option to
acquire the additional 30% interest in Indigo. In addition, the Company is no
longer involved in day-to-day operations of Indigo and going forward, the
Company intends to pursue cannabis delivery independent of Indigo. As of October
1, 2020, the Company ceased to have control over the day-to-day business of
Indigo and it was deconsolidated and recorded as an investment in
nonconsolidated affiliate at its $505,449 estimated fair value and changed to
equity method of accounting. Pursuant to the terms of the Indigo agreement, if
the Company determines, in its discretion not to continue to make monthly
payments, its 40% ownership interest in Indigo will be decreased according to
the payment then made. As of December 31, 2020, the Company made $59,370
additional payments, and held approximately 32% of the ownership of Indigo. As
of March 31, 2022, the Company recorded equity method investment in affiliates
at $372,330, net with $69,077 loss from equity method investment.
Selected cannabis and hemp projects: On May 12, 2021, the Company entered into a
Merger Agreement by and between Carnaby Spot Bay Corp, a California corporation
and a wholly owned subsidiary of the Company ("Merger Sub"), Lemon Glow Company
and Ryan Santiago as shareholder representative, pursuant to which Merger Sub
would merge with and into Lemon Glow, with Lemon Glow being the surviving
corporation (the "Merger"). Upon the closing of the merger, Lemon Glow was
merged into the Company. The purpose of the transactions was to establish a
licensed and permitted entity which Sugarmade would cultivate, manufacture, and
distribute cannabis to the California markets. At the time of the transactions,
none of Lemon Glow, Merger Sub, or Sugarmade was permitted and licensed for such
activities.
On October 28, 2021, Lemon Glow obtained a conditional Use Permit (UP) number
from the Community Development Department of the County of Lake, California,
which the Company believes is an important step towards the conditional UP for
commercial cannabis cultivation at its property. The issuance of the conditional
UP number by the County of Lake allows the Company to proceed with the state
cannabis cultivation license application, and potentially obtain certain
applicable permits, such as from the Department of Cannabis Control, Department
of Food and Agriculture, Department of Pesticide Regulation, Department of Fish
and Wildlife, The State Water Resources Control Board, Board of Forestry and
Fire Protection, Central Valley or North Coast Regional Water Quality Control
Board, Department of Public Health, and Department of Consumer Affairs, as may
be required. The Company believes that obtaining the conditional UP number by
the County of Lake could be the first step toward full approval to cultivate
cannabis on up to 32 acres out of the total 640 acres of the property.
As of the date of this filing, Sugarmade is working diligently on satisfying the
conditions required by the County of Lake to allow the Company to cultivate
cannabis. It is the Company's intention to begin such activities at the
earliest time possible, assuming permits are ultimately issued. Upon issuance,
the company will determines the amount of acreages to grow initially based on
market demand and pre-orders. However, no such license or permits have yet been
issued, and applications are still pending. There can be no assurance that any
such license or permits will be issued in the near future or at all.
For the 2022 cannabis cultivation season, we are embarking on a new and bold
strategy to enter into contract cultivation arrangements with local Lake County,
California, cultivators that have decided not to engage in their own cultivation
efforts for the 2022 season. These operators have already made significant
investments in infrastructure and have highly specialized personnel available
that we can utilize on a contract basis for our production of cannabis.
By contracting with the owners of these already available resources, Sugarmade
will gain immediate access to the marketplace based on an advantageous cost
model that will place Sugarmade on par, or in some cases, at a superior cost
position compared to many of the larger cannabis cultivation and distribution
companies in the industry.
We are in negotiations with several local permitted and licensed operators that
are agreeable to a partnership arrangement with Sugarmade to manage operations
for cannabis cultivation. We are also in active negotiations on the distribution
side of the business that will allow Sugarmade to bring this cultivated cannabis
to the marketplace.
Invoking this dynamic short-term strategy, while continuing to develop our
longer-term strategy to fully develop the large Lemon Glow property for
cultivation, will allow Sugarmade to significantly advance the timeframe for
gaining market share in this industry - and we believe we will be able to do so
based on a cost model that will allow us to produce strong margins this
cultivation season.
COVID-19 Impact
Our business and operating results for 2021 and 2020 were impacted by the
COVID-19 pandemic. However, we have seen improvement in our business, which we
expect to continue throughout the fiscal year ending June 30, 2022.
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Results of Operations
The following table sets forth the results of our operations for the three
months ended March 31, 2022 and 2021.
For the Three Months Ended
March 31,
2022 2021
Net sales $ 1,285,300 $ 404,843
Cost of goods sold: 495,217 229,818
Gross profit 790,083 175,025
Operating expenses 2,171,840 776,276
Loss from operations (1,381,757 ) (601,251 )
Other non-operating expense: (3,686,378 ) (4,984,908 )
Equity method investment loss (8,330 ) -
Less: net income attributable to the
noncontrolling interest (147,548 ) (48,756 )
Net loss $ (4,928,917 ) $ (5,537,403 )
Revenues
For the three months ended March 31, 2022 and 2021, revenues were $1,285,300 and
$404,843, respectively. The increase was primarily due to increased sales in
cannabis delivery services during the three months ended March 31, 2022.
Cost of goods sold
For the three months ended March 31, 2022 and 2021, costs of goods sold were
$495,217 and $229,818, respectively. The increase was primarily due to increased
sales from the Company's paper product business in March 31, 2022 compared to
the same period in the prior year.
Gross profit
For the three months ended March 31, 2022 and 2021, gross profit was $790,083
and $175,025, respectively. The increase was primarily due to the high profit
for the cannabis delivery services during the three months ended March 31, 2022.
Operating expenses
For the three months ended March 31, 2022 and 2021, operating expenses were
$2,171,840 and $776,276, respectively. The increase was mainly due to increased
in advertising and payroll expenses for the cannabis delivery services during
the three months ended March 31, 2022.
Other non-operating expense
The Company had total other non-operating expense of $3,686,378 and $4,984,908
for the three months ended March 31, 2022 and 2021, respectively. The decrease
in non-operating expense related to the accounting for the changes in fair value
of derivative liabilities and decrease in interest expenses.
Net loss
Net loss totaled $4,928,917 for the three months ended March 31, 2022, compared
to a net loss of $5,537,403 for the three months ended March 31, 2021. The
decrease was mainly due to the increase in gross profit for the cannabis
delivery services during the three months ended March 31, 2022 and decrease in
the accounting for the changes in derivative liabilities due to conversions.
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The following table sets forth the results of our operations for the nine months
ended March 31, 2022 and 2021.
For the Nine Months Ended
March 31,
2022 2021
Net sales $ 3,689,906 $ 2,851,822
Cost of goods sold: 1,344,029 1,502,247
Gross profit 2,345,877 1,349,575
Operating expenses 6,165,155 3,395,996
Loss from operations (3,819,278 ) (2,046,421 )
Other non-operating expense: (6,001,832 ) (3,912,812 )
Equity method investment loss (69,077 ) (2,114 )
Less: net income attributable to the
noncontrolling interest (509,067 ) (48,756 )
Net loss $ (9,381,120 ) $ (5,912,591 )
Revenues
For the nine months ended March 31, 2022 and 2021, revenues were $3,689,906 and
$2,851,822, respectively. The increase was primarily due to the sales increase
in cannabis delivery services during the nine months ended March 31, 2022.
Cost of goods sold
For the nine months ended March 31, 2022 and 2021, costs of goods sold were
$1,344,029 and $1,502,247, respectively. The decrease was primarily due to the
deconsolidation of Indigo for the cannabis delivery services during the nine
months ended March 31, 2022.
Gross profit
For the nine months ended March 31, 2022 and 2021, gross profit was $2,345,877
and $1,349,575, respectively. The increase was primarily due to the growth of
the NUG Avenue cannabis delivery services during the current period.
Operating expenses
For the nine months ended March 31, 2022 and 2021, operating expenses were
$6,165,155 and $3,395,996, respectively. The increase was mainly due to the
increase in advertising and payroll expenses for the cannabis delivery services
during the nine months ended March 31, 2022.
Other non-operating expense
The Company had total other non-operating expense of $6,001,832 and $3,912,812
for the nine months ended March 31, 2022 and 2021, respectively. The increase in
non-operating expense is related to the increase in amortization of intangible
assets and accounting for the changes in fair value of derivative liabilities.
Net loss
Net loss totaled $9,381,120 for the nine months ended March 31, 2022, compared
to a net loss of $5,912,591 for the nine months ended March 31, 2021. The
increase was mainly due to the increase in advertising and payroll expenses for
the cannabis delivery services during the nine months ended March 31, 2022,
increase in amortization of intangible assets and increase in the accounting for
the changes in derivative liabilities due to conversions.
Liquidity and Capital Resources
We have primarily financed our operations through the sale of unregistered
equity and convertible notes payable. As of March 31, 2022, our Company had a
cash balance of $148,236, current assets totaling $2,027,161 and total assets of
$17,402,271. We had current and total liabilities totaling $12,900,893 and
$19,371,763, respectively, as of March 31, 2022. As of March 31, 2022,
stockholders' deficiency totaled $1,969,492.
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The following is a summary of cash provided by or used in each of the indicated
types of activities during the nine months ended March 31, 2022 and 2021:
2022 2021
Cash (used in) provided by:
Operating activities $ (3,054,834 ) $ (2,647,840 )
Investing activities (1,198,481 ) (55,810 )
Financing activities 3,004,608 2,532,530
Net cash used in operating activities was $3,054,834 for the nine months ended
March 31, 2022, and $2,647,840 for the nine months ended March 31, 2021. The
increase was attributable to the changes in accounts receivable, prepayments,
and other payables.
Net cash used in investing activities was $1,198,481 for the nine months ended
March 31, 2022, and $55,810 for the nine months ended March 31, 2021. The
increase was attributable to purchase of new vehicles and land improvements.
Net cash provided by financing activities was $3,004,608 for the nine months
ended March 31, 2022 and $2,532,530 for the nine months ended March 31, 2021.
The increase in cash inflow in 2022 was mainly due to proceeds from loan
payables.
Our capital requirements going forward will consist of financing our operations
until we are able to reach a level of revenues and gross margins adequate to
equal or exceed our ongoing operating expenses. Other than the notes payable
discussed above, borrowings from our bank and the production credit facility
with our suppliers, we do not have any credit agreement or source of liquidity
immediately available to us.
Given estimates of our Company's future operating results and our credit
arrangements with our suppliers, we are currently forecasting that we will need
to secure additional financing to obtain adequate financial resources to reach
profitability. As of March 31, 2022, we estimate that the cash necessary to
implement our current business plan for the next twelve months is approximately
$2,000,000.
Based on our need to raise additional funds to implement our business plans for
the next twelve months, we have included a discussion concerning the
presentation of our financial statements on a going concern basis in the notes
to our unaudited condensed consolidated financial statements and our independent
public accountants have included a similar discussion in their opinion on our
financial statements through June 30, 2021. We will be required in the near
future to issue debt or sell our Company's equity securities in order to raise
additional cash, although there are no firm arrangements in place for any such
financing at this time. We cannot provide any assurances as to whether we will
be able to secure the necessary financing, or the terms of any such financing
transaction if one were to occur. The failure to secure such financing could
severely curtail our plans for future growth or in more severe scenarios, the
continued operations of our Company.
Capital Expenditures
Our current plans do not call for our Company to expend significant amounts for
capital expenditures for the foreseeable future beyond relatively insignificant
expenditures for office furniture and information technology related equipment
as we add employees to our Company. We are however continually evaluating the
production processes of our third-party contract manufacturers to determine if
there are investments we could make in their processes to achieve manufacturing
improvements and significant cost savings. Any such desired investments would
require additional cash above our current forecast requirements.
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Critical Accounting Policies Involving Management Estimates and Assumptions
Going concern
The Company's continuation as a going concern is dependent on its ability to
generate sufficient cash flows from operations to meet its obligations, in which
it has not been successful, and/or obtaining additional financing from its
shareholders or other sources, as may be required.
Our unaudited condensed consolidated financial statements have been prepared
assuming that we will continue as a going concern. Such assumption contemplates
the realization of assets and satisfaction of liabilities in the normal course
of business. These unaudited condensed consolidated financial statements do not
include any adjustments to reflect the possible future effects on the
recoverability and classification of assets or the amounts and classifications
of liabilities that may result should the Company be unable to continue as a
going concern.
Management endeavors to increase revenue-generating operations. While the
Company's priority is on generating cash from operations, management also seeks
to raise additional working capital through various financing sources, including
the sale of the Company's equity and/or debt securities, which may not be
available on commercially reasonable terms to our Company, or which may not be
available at all. If such financing is not available on satisfactory terms, we
may be unable to continue our business as desired and our operating results will
be adversely affected. In addition, any financing arrangement may have
potentially adverse effects on us and/or our stockholders. Debt financing (if
available and undertaken) will increase expenses, must be repaid regardless of
operating results and may involve restrictions limiting our operating
flexibility. If we issue equity securities to raise additional funds, the
percentage ownership of our existing stockholders will be reduced, and the new
equity securities may have rights, preferences or privileges senior to those of
the current holders of our common stock.
Business combinations
The Company applies the provisions of Financial Accounting Standards Board's
(the "FASB") Accounting Standards Codification ("ASC") 805, Business
Combinations, in accounting for its acquisitions. It requires the Company to
recognize separately from goodwill the assets acquired and the liabilities
assumed, at the acquisition date fair values. Goodwill as of the acquisition
date is measured as the excess of consideration transferred over the acquisition
date fair values of the net assets acquired and the liabilities assumed. The
Company used third party valuation company to determine the assets acquired and
liabilities assumed with the corresponding offset to goodwill.
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Revenue recognition
We recognize revenue in accordance with ASC No. 606, Revenue Recognition.
Sugarmade applied a five-step approach in determining the amount and timing of
revenue to be recognized: (1) identifying the contract with a customer, (2)
identifying the performance obligations in the contract, (3) determining the
transaction price, (4) allocating the transaction price to the performance
obligations in the contract and (5) recognizing revenue when the performance
obligation is satisfied.
Substantially all of the Company's revenue is recognized at the time control of
the products transfers to the customer.
Impairment of Long-Lived Assets
Long-lived assets, which include property, plant and equipment and intangible
assets, are reviewed for impairment whenever events or changes in circumstances
indicate the carrying amount of an asset may not be recoverable.
Recoverability of long-lived assets to be held and used is measured by comparing
the carrying amount of an asset to the estimated undiscounted future cash flows
expected to be generated by the asset. If the carrying amount of an asset
exceeds its estimated undiscounted future cash flows, an impairment charge is
recognized by the amount by which the carrying amount of the asset exceeds the
fair value of the assets. Fair value is generally determined using the asset's
expected future discounted cash flows or market value, if readily determinable.
Based on its review, there was $0 and $43,800 impairment loss of its long-lived
assets as of March 31, 2022 and June 30, 2021, respectively.
Goodwill and Intangible Assets
Goodwill is the excess of the purchase price over the fair value of identifiable
net assets acquired in business combinations accounted for under the acquisition
method. Intangible assets represent purchased intangible assets including
developed technology and in-process research and development, technologies
acquired or licensed from other companies, customer relationships, non-compete
covenants, backlog, and trademarks and tradenames. Purchased finite-lived
intangible assets are capitalized and amortized over their estimated useful
lives. Technologies acquired or licensed from other companies, customer
relationships, non-compete covenants, backlog, and trademarks and tradenames are
capitalized and amortized over the lesser of the terms of the agreement, or
estimated useful life. We capitalized the cannabis cultivation license acquired
as part of a business combination.
Stock-based compensation
Stock based compensation cost to employees is measured at the date of grant,
based on the calculated fair value of the stock-based award, and will be
recognized as expense over the employee's requisite service period (generally
the vesting period of the award). We estimate the fair value of employee stock
options granted using the Binomial Option Pricing Model. Key assumptions used to
estimate the fair value of stock options will include the exercise price of the
award, the fair value of our common stock on the date of grant, the expected
option term, the risk-free interest rate at the date of grant, the expected
volatility and the expected annual dividend yield on our common stock. We use
our company's own data among other information to estimate the expected price
volatility and the expected forfeiture rate. Stock-based compensation awards
issued to non-employees for services rendered are recorded at either the fair
value of the services rendered or the fair value of the stock-based payment,
whichever is more readily determinable.
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Fair value of financial instruments
ASC Topic 820 defines fair value, establishes a framework for measuring fair
value, establishes a three-level valuation hierarchy for disclosure of fair
value measurement and enhances disclosure requirements for fair value
measurements. The valuation hierarchy is based upon the transparency of inputs
to the valuation of an asset or liability as of the measurement date. The three
levels are defined as follows:
Level 1 - observable inputs that reflect quoted prices (unadjusted) for
identical assets or liabilities in active markets.
Level 2 - include other inputs that are directly or indirectly observable in the
marketplace.
Level 3 - unobservable inputs which are supported by little or no market
activity.
The Company used Level 3 inputs for its valuation methodology for the derivative
liabilities in determining the fair value using the Binomial option-pricing
model for the three and nine months ended March 31, 2022.
Derivative instruments
The fair value of derivative instruments is recorded and shown separately under
current liabilities. Changes in the fair value of derivatives liability are
recorded in the consolidated statement of operations under non-operating income
(expense).
Our Company evaluates all of its financial instruments to determine if such
instruments are derivatives or contain features that qualify as embedded
derivatives. For derivative financial instruments that are accounted for as
liabilities, the derivative instrument is initially recorded at its fair value
and is then re-valued at each reporting date, with changes in the fair value
reported in the consolidated statements of operations. For stock-based
derivative financial instruments, the Company uses a weighted average Binomial
option-pricing model to value the derivative instruments at inception and on
subsequent valuation dates. The classification of derivative instruments,
including whether such instruments should be recorded as liabilities or as
equity, is evaluated at the end of each reporting period. Derivative instrument
liabilities are classified in the balance sheet as current or non-current based
on whether or not net-cash settlement of the derivative instrument could be
required within 12 months of the balance sheet date.
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