EQUITY TRANSACTIONS

3 Months Ended

Mar. 31, 2014

Notes to Financial Statements

EQUITY TRANSACTIONS

Convertible Preferred Stock Series – A, B & C

The Company has authorized 5,000,000 shares of preferred stock, with 2,830 shares designated to Series A Preferred and 7,745 shares designated to Series B Preferred and 813 shares designated to Series C Preferred.

The Series A Preferred and Series C Preferred rank senior to the Series B Preferred which ranks senior to the Company’s common stock with respect to the payment of any dividends and amounts upon liquidation or dissolution. Except as required by law, the shares of preferred stock shall be voted together with the shares of common stock and not as a separate class. In addition, so long as 35% of the aggregate amount of the shares of Series A Preferred and Series C Preferred are outstanding, the holders of the outstanding shares voting together as a separate class are entitled to elect up to four directors to the Board and separately vote on a number of defined material actions typically requiring Board approval. Respectively, holders of shares of Series A, B and C Preferred have anti-dilution protections for sale of stock below conversion rate and stock splits and other similar pro rata events.

Series A and Series B

In June 2009, in a private placement pursuant to the Purchase Agreement dated February 9, 2009, with Mosaic, a related party (see Note 8 for further details), the Company agreed to sell 1,330 shares of its Series A Preferred and common stock purchase warrants to purchase an aggregate of 1,083,334 shares of its common stock for an aggregate purchase price of $1.3 million, of which $750,000 was paid by the cancellation of secured indebtedness of the Company owed to MFS, with the remaining $580,000 to be paid in cash. As a condition of closing of this transaction, the outstanding principal balance related to Short Term Notes and Unsecured Debentures of $7.7 million was exchanged for 7,720 shares of Series B Preferred.

In February and March 2013, the Company issued a total of 60 shares of Series A Preferred at $1,000 per share for a total of $60,000 to Mosaic under the existing 2009 Securities Purchase agreement. The net proceeds of the sales were used for general working capital purposes.

As of March 31, 2014, the Company issued a total of 559 shares of Series A Preferred for $558,500 to Mosaic under the 2009 Securities Purchase agreement. Each share of Series A Preferred is convertible into 1,111 shares of common stock. As of March 31, 2014, no shares of Series A Preferred issued to Mosaic have been converted into common stock.

Series C

In May 2010, we filed a Certificate of Designation to designate 813 shares of the Company’s Preferred stock in Series C Preferred. The rights of the Series C Preferred are identical to those of the Series A Preferred. Subsequently, the Company issued 813 shares of the Company’s Series C Preferred at a price of $1,000 per share to an existing vendor in exchange for extinguishment of $300,000 in vendor’s secured payable and additional consideration in the form of a modification in vendor terms that are favorable to the Company and additional debt financing at terms that are significantly below market for the Company.

The table below summarizes the Company’s outstanding convertible preferred stock as of March 31, 2014 and December 31, 2013:

	March 31, 2014									December 31, 2013

Convertible Preferred Stock		Number of Preferred Shares			Number of Common Shares if Converted		Weighted Average Conversion Price			Number of Preferred Shares		Number of Common Shares if Converted		Weighted Average Conversion Price

Series A Preferred			1,466		1,629,006		$	0.90		1,466		1,629,006		$	0.90
Series B Preferred			5,124		5,693,344		$	0.90		5,124		5,693,344		$	0.90
Series C Preferred			813		902,778		$	0.90		813		902,778		$	0.90
Total			7,403		8,225,128		$	0.90		7,403		8,225,128		$	0.90

Common Stock

In January 2014, in accordance with the Make-Whole provision in our 2013 private placement of our common stock, we issued 826,907 shares of common stock to the eight investors that participated in the private placement. Our consolidated net revenues for the fiscal year ending December 31, 2013 were $7,463,113 which included $2,270,536 in revenues from discontinued operations. Since the net revenues are below the Make-Whole Adjustment minimum threshold of $17,250,000, we were required to issue additional common stock in accordance with the agreement.

Stock Warrants

Historically, the Company issued common stock warrants to investors and placement agents in private placements of convertible debentures, common stock and preferred stock from 2009 to 2013. The outstanding warrants are subject certain anti-dilution protection clauses which provide exercise price adjustments in the event that any common stock or common stock equivalents are issued at an effective price per share that is less than the exercise price per share. Accordingly, the stock warrants are classified as a warrant liability on the accompanying condensed consolidated balance sheets as of March 31, 2014 and December 31, 2013.

The estimated fair value of these warrants was determined using the Lattice stock option pricing model on the issuance date, assuming that there will be no dividends, using the applicable exercisable periods, a risk-free interest rate, and an expected volatility.

In February 2014, an additional 320,000 warrants were issued to HCI, a holder of 1,600,007 warrants as part of the modification and extension transaction (See Note 4 for further details).

In March 2014, the Company did not meet the requirements of the Milestone Provision of the Series D Preferred of reaching positive net income on a Special Adjusted Basis (“SAB”) for the trailing two months ending February 2014. As a result, the Company issued an additional 3,424,000 warrants to purchase common stock at $0.40 to the Series D holders. In addition, the exercise price on warrants to purchase an aggregate total of 4,280,000 common shares has been reduced to $0.40 per share.

In March 2014, the issuance of warrants to Series D preferred stock with an effective exercise price of $0.40 per share qualified as a dilutive issuance per the terms of the warrant. (See Note 5 for further details). No waivers were obtained from three debenture holders that were holding an aggregate total of 1,440,004 warrants regarding the dilutive issuance. The anti-dilution adjustment reduces the exercise price of the existing warrants from $0.50 to $0.40 and requires the issuance of an additional 360,001 warrants to the three investors.

In March 2014, the issuance of warrants to Series D preferred stock with an effective exercise price of $0.40 per share qualified as a dilutive issuance per the terms of the warrant. (See Note 5 for further details). No waivers were obtained from eleven warrant holders that participated in our 2013 private placement of common stock that were holding an aggregate total of 2,538,000 warrants regarding the dilutive issuance. The anti-dilution adjustment reduces the exercise price of the existing warrants from $0.50 to $0.40 and requires the issuance of an additional 634,502 warrants to the eight investors and three placement agents.

Expected Stock Volatility

Volatility is a measure of the tendency of investment returns to vary around a long-term average rate. Historical volatility is an appropriate starting point for setting this assumption. Companies should also consider how future experience may differ from the past. This may require using other factors to adjust historical volatility, such as implied volatility, peer-group volatility and the range and mean-reversion of volatility estimates over various historical periods. The peer-group utilized consisted of six companies in 2014 and in 2013, in the same or similar industries as the Company. In addition, if a best estimate cannot be made, management should use the mid-point in the range of reasonable estimates for volatility. The Company estimates the volatility of its common stock in conjunction with the Company’s issuance of financing instruments and volatility is calculated utilizing the historical and estimated future volatility of the Company and its peer-group.

Risk-Free Rate of Return

The risk-free rate is based on the U.S. Treasury yield curve in effect at the time of grant for the estimated life of the option/warrant.

Expected Dividends

The Company has never paid any cash dividends on its common stock and does not anticipate paying any cash dividends in the foreseeable future. Consequently, it uses an expected dividend yield of zero.

Expected Term

The Company uses the related exercise period of the warrant or option as the expected term.

A summary of the warrants issued in connection with financing transactions is presented in the table below:

		Number of Shares				Weighted Average Exercise Price


Outstanding and Exercisable at December 31, 2013			14,394,914			$	0.58

Granted			-			$	-
Exercised			-			$	-
Cancelled, forfeited or expired			-			$	-
Anti-dilution adjustments:
Initial grant			(9,858,011)			$	0.56
Initial grant re-pricing			9,858,011			$	0.46
Additional warrants granted			4,738,503			$	0.42

Outstanding and Exercisable at March 31, 2014 (unaudited)			19,133,417			$	0.45

The following table summarizes information about warrants outstanding and exercisable as of March 31, 2014:

				Outstanding									Exercisable

Exercise Price				Number of Shares			Weighted Average Exercise Price			Weighted Average Remaining Life (Years)			Number of Shares			Weighted Average Exercise Price			Weighted Average Remaining Life (Years)

$	0.09				1,083,334		$	0.09			5.25			1,083,334		$	0.09			5.25

$	0.40				12,676,507		$	0.40			3.37			12,676,507		$	0.40			3.37

$	0.60				3,453,569		$	0.60			5.42			3,453,569		$	0.60			5.42

$	0.75				1,920,007		$	0.75			2.55			1,920,007		$	0.75			2.55