| NOTES PAYABLE | NOTE
5 — NOTES PAYABLE In
April and May of 2016, the Company entered into secured loan agreements pursuant to which it borrowed an aggregate amount
of $1,295,000 at a fixed interest rate of 10% per annum. These loans will mature on the earlier of the closing of a new debt financing
(subject to certain exceptions, including refinancings of its outstanding convertible notes) or May 1, 2017. These loans
are secured by all of the Company’s personal property and are personally guaranteed by Dr. Niihara, its Chairman and
Chief Executive Officer, and secured by certain of his real property. Furthermore, the loan agreements contain certain negative
covenants that may hinder the Company’s ability to raise additional capital or might otherwise affect its liquidity, including
restrictions on its ability to (1) acquire material assets outside of the ordinary course of business, (2) sell, lease,
license transfer or dispose of its personal property outside of the ordinary course of business, (3) pay or declare dividends,
(4) make investments in or loans to other persons, (5) redeem or repurchase its stock, (6) make deposits or investments
unless they are subject to a deposit control account, (7) incur additional indebtedness other than permitted debt, (8) make
payments on subordinated obligations, (9) undergo a merger, change in control or sale of a substantial portion of its assets,
or (10) use loan proceeds to make payments to its affiliates. If the Company is unable to repay these loans when they become
due, or if it otherwise suffers an event of default under the loan agreements, the lender may have the right to foreclose on its
collateral, which could have a material and adverse effect on the Company’s business, financial condition, liquidity and
operations. In
connection with these loans, the Company issued the lender warrants for the purchase of 62,500 shares of Company common stock
at an exercise price of the lowest of the fair market value of the common stock during the quarter ended June 30, 2016 or
the lowest public sale price of the common stock during the quarter ended June 30, 2016. In addition, if these loans remain
outstanding for at least 30 days during the 90-day periods ending June 30, 2016, September 30, 2016 and December 31,
2016, the Company is obligated to issue the lender additional warrants for the purchase of 37,500, 18,750 and 18,750 shares of
Company common stock, respectively, for an exercise price of the lowest of the fair market value of the common stock as of the
start or end of such 90-day period or the lowest public sale price of the common stock during the quarter ended on the applicable
measurement date. As these loans have been outstanding for more than 30 days during the 90-day period ending June 30, 2016
and September 30, 2016, the Company accordingly issued the lender additional warrants for the purchase of 37,500 and 18,750
shares, respectively, of Company common stock on the terms set forth above. These warrants may be exercised through a cashless
exercise feature. In
August and September 2016, the Company issued convertible notes to third parties totaling $1,221,600 in aggregate
principal amount, which notes bear interest at 10% per annum starting from October 1, 2016 and mature on the respective one-year
anniversary dates of the notes. If the Company completes the listing on the OTC market, the principal amount of the notes will
automatically convert into shares of Company common stock at a fixed conversion price of $4.50 (subject to appropriate adjustment
in the event of any stock splits, stock dividends, recapitalizations and similar transactions with respect to the capital stock
of the Company). Within thirty days of such closing, all accrued and unpaid interest on the notes, if any, will be payable to
the holders in cash. At or after the first anniversary of the loan dates, the holders of the notes may convert some or all of
the unpaid principal amount of the notes, including unpaid accrued interest, into shares of Company common stock at a conversion
price of $4.50 per share. On
August 26, 2016, the Company offered all of its note holders an opportunity to convert all or a portion of the principal
amount of and accrued interest on their notes into shares of Company common stock at a price of $3.50 per share. Pursuant to the
offer, 19 note holders elected to convert a total of $4,007,598 of principal and $260,124 of accrued interest on their
notes into an aggregate of 1,219,350 shares of our common stock. The
conversion price of $3.50 per share was less than the stated conversion price of the convertible notes that were converted, which
conversion prices ranged from $4.50 to $7.00 per share. Accordingly, the conversion resulted in the Company recognizing an inducement
expense of $1,444,863, which represents the fair value of the incremental increase in the number of shares of Company common stock
received by the convertible note holders. The
note holders of a total of $622,384 of principal and accrued interest on non-convertible notes participated in the offer. Under
the guidance of ASC 405-20, the Company de-recognized the principal and accrued interest on these non-convertible notes in consideration
for issuing Company common stock. As a result of delivering its common stock to the holders of these non-convertible notes holders,
the Company concluded that it has satisfied and is released from its legal obligation for the notes. The fair value of the common
stock provided as consideration was $889,120 whereas the face value of the principal and accrued interest was $622,384, resulting
in a loss on the debt settlement of $266,736 charged in full against the earning during the quarter ended September 30, 2016. Notes
payable consisted of the following at September 30, 2016 and December 31, 2015:
Year Issued Interest Rate Range Term of Notes Conversion Price Principal Outstanding September 30, 2016 Discount Amount September 30, 2016 Carrying Amount September 30, 2016 Shares Underlying Notes September 30, 2016 Principal Outstanding December 31, 2015 Discount Amount December 31, 2015 Carrying Amount December 31, 2015 Shares Underlying Notes December 31, 2015
Notes
payable
2013 10% Due
on demand — $ 988,100 $ — $ 988,100 — $ 830,000 $ — $ 830,000 —
2014 11% Due
on demand - 2 years — 613,615 — 613,615 — 1,446,950 — 1,446,950 —
2015 11% Due
on demand - 2 years — 2,547,386 — 2,547,386 — 2,379,799 — 2,379,799 —
2016 10
- 11% Due
on demand - 12.5 months — 2,378,335 306,694 2,071,641 — — — — —
$ 6,527,436 $ 306,694 $ 6,220,742 — $ 4,656,749 $ — $ 4,656,749 —
Current $ 6,527,436 $ 306,694 $ 6,220,742 — $ 4,656,749 $ — $ 4,656,749 —
Non-current $ — $ — $ — — $ — $ — $ — —
Notes
payable - related party
2012 8%
- 10% Due
on demand — $ 626,730 $ — $ 626,730 — $ 626,730 $ — $ 626,730 —
2013 8% Due
on demand — 50,000 — 50,000 — 50,000 — 50,000 —
2014 11% Due
on demand - 2 years — — — — — 240,308 — 240,308 —
2015 10%
- 11% Due
on demand — 1,415,888 — 1,415,888 — 1,849,266 — 1,849,266 —
2016 10%
- 11% Due
on demand — 860,510 860,510 — — — — —
$ 2,953,128 $ — $ 2,953,128 — $ 2,766,304 $ — $ 2,766,304 —
Current $ 2,953,128 $ — $ 2,953,128 — $ 2,766,304 $ — $ 2,766,304 —
Non-current $ — $ — $ — — $ — $ — $ — —
Convertible
notes payable
2010 6% 5
years $3.05 $ 2,000 $ — $ 2,000 656 $ 2,000 $ — $ 2,000 656
2011 10% 5
years $3.05 300,000 — 300,000 98,285 500,000 — 500,000 163,809
2013 10% 2
years $3.60 — — — — 525,257 — 525,257 185,553
2014 10% Due
on demand - 2 years $3.05-$3.60 2,728,357 14,665 2,713,692 908,478 4,378,563 353,700 4,024,863 1,120,470
2015 10% 2
years $3.50-$3.60 2,904,800 196,276 2,708,524 869,724 5,681,166 526,066 5,155,100 1,517,996
2016 10% Due
on demand - 2 years $3.50-$4.50 3,334,508 633,620 2,700,888 856,257 — — — —
$ 9,269,665 $ 844,561 $ 8,425,104 2,733,400 $ 11,086,986 $ 879,766 $ 10,207,220 2,988,484
Current $ 7,225,761 $ 592,656 $ 6,633,105 2,209,995 $ 6,358,698 $ 358,351 $ 6,000,347 1,762,849
Non-current $ 2,043,904 $ 251,905 $ 1,791,999 523,405 $ 4,728,288 $ 521,415 $ 4,206,873 1,225,635
Convertible
notes payable - related party
2012 10% Due
on demand $3.30 $ 254,000 $ — $ 254,000 92,592 $ 298,000 $ — $ 298,000 108,505
2015 10% 2
years $4.50 220,000 — 220,000 53,230 320,000 — 320,000 72,354
$ 474,000 $ — $ 474,000 145,822 $ 618,000 $ — $ 618,000 180,859
Current $ 254,000 $ — $ 254,000 92,592 $ 298,000 $ — $ 298,000 108,505
Non-current $ 220,000 $ — $ 220,000 53,230 $ 320,000 $ — $ 320,000 72,354
Grand
Total $ 19,224,229 $ 1,151,255 $ 18,072,974 2,879,222 $ 19,128,039 $ 879,766 $ 18,248,273 3,169,343 The
average stated interest rate of notes payable as of September 30, 2016 and December 31, 2015 was 10%. The average effective
interest rate of notes payable for the nine-month period ended September 30, 2016 and the year ended December 31, 2015
was 26% and 23% respectively, after giving effect to discounts relating to beneficial conversion features and the fair value of
warrants issued in connection with these notes. The notes payable and convertible notes payable do not have restrictive financial
covenants or acceleration clauses associated with a material adverse change event. The holders of the convertible notes have the
option to convert their notes into Company common stock at the stated conversion price during the term of their convertible notes.
Conversion prices on these convertible notes payable range from $3.05 to $3.60 per share. Certain notes with a $4.50 or a $7.00
stated conversion price in the second year of their two-year term are subject to automatic conversion into shares of Company common
stock at a conversion price equal to 80% of the initial public offering price at the time of a qualified public
offering. All due on demand notes are treated as current liabilities. Contractual
principal payments due on notes payable are as follows:
Year Ending September 30, 2016
2016
$ 11,809,115
2017
6,252,280
2018
1,162,834
Total
$ 19,224,229 The
Company estimated the total fair value of any beneficial conversion feature and accompanying warrants in allocating the debt proceeds.
The proceeds allocated to the beneficial conversion feature were determined by taking the estimated fair value of shares issuable
under the convertible notes less the fair value of the number of shares that would be issued if the conversion rate equaled the
fair value of Company common stock as of the date of issuance (see Note 2). The fair value of the warrants issued in conjunction
with notes was determined using the Black Scholes Merton Option Pricing Model with the following inputs for the periods ended:
September 30, 2016 December 31, 2015
Stock
price $ 5.00 $ 4.50
Exercise
price $ 4.50
- 4.70 $ 4.90
Term 5
years 5 years
Risk-free
interest rate 1.01
- 1.28 % 1.57 %
Expected
dividend yield — —
Expected
volatility 65.4
- 69.6 % 67.3 % In
situations where the notes included both a beneficial conversion feature and a warrant, the proceeds were allocated to the warrants
and beneficial conversion feature based on their respective pro rata fair values. |
