Medical Marijuana Inc (MJNA)

[Det_Robert_Thorne]

$4.36M Note may protect HDDC from CannaVest's fall

When MJNA filed its 1Q/14 results on July 3, many were surprised to see that the liabilities side of the Balance Sheet was showing a new series of Notes.

One of those was a $4.36M note from HDDC Holdings, and considering the size, it was surprising that there was no explanation in the filing.

After noticing something else missing in the filing, I've come up with the following possibility, which I've been alluding to for a few weeks (note the last sentence in this post).

Here it is:

MJNA and HDDC converted the 1,165,000 CANV shares (HDDC's 20% share of the Phytosphere deal in 1Q/14) into a $4.36M note, so that no matter how low the price of CANV stock went once the restricted share lockup ended, it would be made whole, even if MJNA and its shareholders end up losing money on the Phytosphere deal in the process.

There are two main pieces of circumstantial evidence that support this conclusion:

1) MJNA's 1Q/14 filing did not include a statement that had been present in the 2Q/13 - 4Q/13 filings, which said it was holding 20% of the installment payments for the Phytosphere deal for HDDC, and that it would do so for one year. That year ended on Dec 31, 2013.

2) The $4.36M note appears in the same filing in which the "20% distribution" is missing.

Let's go into each of those in a little more detail:

Here's the statement regarding the 20% distribution that was in the 2Q/13 - 4Q/13 filings (this one is from the 4Q/13 report:



It has always struck me as odd that, while MJNA included that statement in the filings, and though it showed the value of the marketable CANV securities (or investments) in the Assets section of the Balance Sheet, it never listed 20% of that amount, or about $6M, in the Liabilities section.

It (and Imbimbo) should have shown that liability.

Of course, if the plan was to give HDDC 20% of the shares (or 1.165M shares), then the value of those shares would go up and down with the value of CANV stock, and "mark to market" accounting of the value of a stock asset would should that. While it's preferable for a company to use it for investment shares on the balance sheet, perhaps MJNA didn't want to do this because of the extreme variability of CANV stock. Maybe that's okay in this case, but still, 20% of the amount of the asset should have been shown as a liability, since it was owed to HDDC.

Now, in the 1Q/14 filing, that statement is gone, and this $4.36M Note appears. I think that it is possible that what MJNA and HDDC did was decide that since they had never publicly announced how they would perform the disbursement, and because CANV stock was headed for a fall due to the imminent removal of restricted share status on the $1 shares, they would "lock in" a value for what was owed to HDDC, and then create a note covering it.

This note would hold its value, so even if CANV stock fell to $1 or less -- where the 1.165M shares owed HDDC would be worth $1.165M -- HDDC would still be owed $4.36M.

And if this is what has happened, then MJNA now owns 100% of the 5.325M shares of CANV remaining after the KannaLife deal that gave 500K shares back to CANV.

Being the sole owner of 5.325M CANV shares may sound great, but if CANV stock continues to fall, then this is where MJNA's shareholders get screwed.

Why?

Because if MJNA were to sell all 5.325M shares for $1, then it receives $5.325M, but has to use $4.36M of that to pay the HDDC note, leaving it with a little more than $900K.

Under the original deal, with CANV at the same $1 price, MJNA would have received $4.26M, while HDDC would get $1.065M.

At a CANV stock price of $0.80, MJNA would actually have to pay HDDC more than it would make on the sale of the stock.


So there it is.

I could be completely wrong about this, but considering that, based on careful readings of MJNA's filings and legal complaints, I've been correct when I wrote that:

1) The Authorized Shares were actually 5B (MJNA finally admitted this in the 1Q/14 filing)
2) MJNA needed to file a missing Articles of Correction to rescind an incorrect Amendment to the Articles of Incorporation (which they did in April, 2014, ten months after I noted the need)
3) The Dixie/MJNA arbitration would result in the loss of Dixie Elixirs (which is what happened)
4) The holding period for the earliest sold CANV restricted stock would end in June and July, resulting in a drop in that stock's price (too bad I don't short stocks).
5) MJNA was incorrect in reporting 1Q/13 income from the phytosphere deal as regular income (a few weeks later, they amended the filing to correctly call it "Extraordinary Income")

6) And other things, then my "working theory" about the HDDC note should be taken seriously.

Unless, of course, people here can show me where I'm missing something that made me come to an incorrect conclusion.

MJNA owes its shareholders a more complete disclosure of the liabilities on the balance sheet, specifically, the notes.