10.

SHARE-BASED COMPENSATION

Stock Option Plans

December

31,

2016,

the Company had

two

equity incentive plans. The

2005

Equity Incentive Plan

(“2005

Equity Plan”) was terminated with respect to new grants in

March

2015,

but remains in effect for grants issued prior to that time. The

2015

Equity Incentive Plan

(“2015

Equity Plan”) was approved by the Company’s Board of Directors on

January

19,

2015

and by the Company’s stockholders on

March

18,

2015.

The

2015

Equity Plan authorizes for issuance as stock options, restricted stock, stock appreciation rights, restricted stock units and performance awards, an aggregate of

5,000,000

new shares of common stock to employees, directors, advisors or consultants. At

December

31,

2016,

there were options outstanding covering

2,477,502

and

2,371,500

shares of common stock under the

2005

Equity Plan and

2015

Equity Plan, respectively.

Stock Option Activity

The following table summarizes information about stock option activity during the

three

months ended

December

31,

2016:

	Number			Weighted Average
	of Shares			Exercise Price
Outstanding October 1, 2016		4,404,002		$	2.18
Granted		448,500		$	1.70
Forfeited/expired		(3,500	)	$	2.20
Outstanding December 31, 2016		4,849,002		$	2.14
Exercisable December 31, 2016		3,148,103		$	2.26

Options outstanding are exercisable at prices ranging from

$0.93

$3.17

and expire over the period from

2018

2023

with an average life of

4.6

years. The aggregate intrinsic value of options outstanding and exercisable at

December

31,

2016

was

$149,619

and

$127,298,

respectively.

During the quarter ended

December

31,

2016,

the Company incurred non-cash share-based compensation expense of

$307,324

resulting from the modification of stock options in accordance with a Separation Agreement and General Release related to the

June

30,

2016

departure of the Company’s prior chief executive officer (“CEO”). As per the agreement, all unvested options became fully vested on

December

31,

2016

and shall remain exercisable for a period of

months following the

December

31,

2016

separation date as defined in the agreement. The expense is measured as the excess of the fair value of the modified awards over the fair value of the original awards immediately before its terms are modified as per ASC

718

35.

During the quarter ended

December

31,

2016,

the Board of Directors approved the grant of

25,000

restricted stock units to each of our non-employee directors, subject to stockholder approval of the

Amended and Restated

2015

Equity Incentive Plan at the

2017

Annual Meeting of Stockholders. These restricted stock units were granted as replacements for

20,000

stock options that would have been granted on the date of the

2016

Annual Meeting of Stockholders and will vest on the

first

anniversary of the

2016

Annual Meeting of Stockholders, which is

May

17,

2017.

Share-Based Compensation

The Company recorded share-based compensation expense and classified it in the condensed consolidated statements of operations as follows:

	Three months ended
	December 31,
	2016		2015
Cost of revenues	$	5,877	$	5,637
Selling, general and administrative		435,497		117,955
Research and development		23,375		24,348
Total	$	464,749	$	147,940

The employee stock options granted in the

three

months ended

December

31,

2016

and

2015

had a weighted-average estimated fair value of

$0.71

per share and

$0.63

per share, respectively, using the Black-Scholes option pricing model with the following weighted-average assumptions (annualized percentages):

	Three months ended
	December 31,
	2016			2015
Volatility	52.4%	-	53.7%	51.0%	-	52.0%
Risk-free interest rate	1.7%	-	2.0%	1.5%	-	1.7%
Forfeiture rate		10.0%			10.0%
Dividend yield		0.0%		2.2%	-	2.7%
Expected life in years	3.8	-	4.6	3.8	-	4.6

The Company declared a dividend for the quarter ended

December

31,

2015,

which reflects a dividend yield assumption based on the expected annual yield, but the dividend was discontinued prior to the quarter ended

December

31,

2016.

Expected volatility is based on the historical volatility of the Company’s common stock over the period commensurate with the expected life of the options. The risk-free interest rate is based on rates published by the Federal Reserve Board. The expected life is based on observed and expected time to post-vesting exercise. The expected forfeiture rate is based on past experience and employee retention data. Forfeitures are estimated at the time of the grant and revised in subsequent periods if actual forfeitures differ from those estimates or if the Company updates its estimated forfeiture rate. Such amounts will be recorded as a cumulative adjustment in the period in which the estimate is changed.

Since the Company has an NOL carryforward as of

December

31,

2016,

excess tax benefit for the tax deductions related to share-based awards was recognized for the

three

months ended

December

31,

2016

and

2015.

As of

December

31,

2016,

there was approximately

$900,000

of total unrecognized compensation cost related to non-vested share-based employee compensation arrangements. The cost is expected to be recognized over a weighted-average period of

2.2

years.