| Convertible Debt and Other Debt | 6) Convertible Debt and Other Debt Senior Secured
Convertible Debentures and Warrants We entered into
Subscription Agreements (the “ Subscription Agreement Purchaser Debentures Warrants Purchase Price The Company issued
a principal aggregate amount of $6,962,504 in Debentures which includes a 10% original issue discount on the Purchase Price. The
Debenture does not accrue any additional interest during the first year it is outstanding but accrues interest at a rate equal
to 10% per annum for the second year it is outstanding. The Debenture has a maturity date of two years from issuance. The Debenture
is convertible any time after its issuance date. The Purchaser has the right to convert the Debenture into shares of the CompanyÂ’s
common stock at a fixed conversion price equal to $0.28 per share, subject to applicable adjustments. In the second year that the
Debenture is outstanding, any interest accrued shall be payable quarterly in either cash or common stock, at the CompanyÂ’s
discretion. At any time after
the Issuance Date, the Company has the option, subject to certain conditions, to redeem some or all of the then outstanding principal
amount of the Debenture for cash in an amount equal to the sum of (i) 120% of the then outstanding principal amount of the Debenture,
(ii) accrued but unpaid interest and (iii) any liquidated damages and other amounts due in respect of the Debenture. The Company issued
warrants exercisable into a total of 11,302,766 shares of our common stock. The Warrants issued in this transaction are immediately
exercisable at an exercise price of $0.40 per share, subject to applicable adjustments including full ratchet anti-dilution in
the event that we issue any securities at a price lower than the exercise price then in effect. The Warrants have an expiration
period of five years from the original issue date. The Warrants are subject to adjustment for stock splits, stock dividends or
recapitalizations and also include anti-dilution price protection for subsequent equity sales below the exercise price. Subject to the
terms and conditions of the Warrants, at any time commencing six months from the Final Closing, the Company has the right to call
the Warrants for cancellation if the volume weighted average price of its Common Stock on the OTC QB Market (or other primary trading
market or exchange on which the Common Stock is then traded) equals or exceeds three times the per share exercise price of the
Warrants for 15 out of 20 consecutive trading days. In connection with
the Subscription Agreement and Debenture, the Company entered into Security Agreements with the Purchasers whereby the Company
agreed to grant to Purchasers an unconditional and continuing, first priority security interest in all of the assets and property
of the Company to secure the prompt payment, performance and discharge in full of all of CompanyÂ’s obligations under the
Debentures, Warrants and the other Transaction Documents. The Company determined
that the conversion feature of the Debentures met the definition of a liability in accordance with ASC 815-40 and therefore bifurcated
the conversion feature on each debt agreement and accounted for it as a derivative liability. The fair value of the conversion
feature was accounted for as a note discount and are amortized to interest expense over the life of the loan. The fair value of
the conversion feature was reflected in the conversion option liability line in the condensed consolidated balance sheets. The proceeds from
these convertible debts were allocated between the host debt instrument and the convertible option based on the residual method.
The estimated fair value of the convertible option was determined using a binomial formula, resulting in allocations to the convertible
option and accounted for as a liability in the CompanyÂ’s condensed consolidated balance sheet. In accordance with the provisions
of ASC 815-40, the gross proceeds are offset by debt discounts, which are amortized to interest expense over the expected life
of the debt. ASC 470-20 states
that the proceeds from the issuance of debt with detachable stock warrants should be allocated between the debt and warrants on
the basis of their relative fair market values. The debt discount will be amortized to interest expense over the two year term
of these loans. We amortized $1,831,289 of the debt discount to interest expense in 2016. The warrants issued in connection with
the convertible debentures are classified as warrant derivative liabilities because the warrants are entitled to certain rights
in subsequent financings and the warrants contain “down-round protection” and therefore, do not meet the scope exception
for treatment as a derivative under ASC 815, Derivatives and Hedging, (“ASC 815”). Since “down-round protection”
is not an input into the calculation of the fair value of the warrants, the warrants cannot be considered indexed to the CompanyÂ’s
own stock which is a requirement for the scope exception as outlined under ASC 815. The estimated fair value of the warrants was
determined using the binomial model, resulting in an allocation of $2,847,624 to the total warrants out of the gross proceeds of
$6,329,549. The fair value will be affected by changes in inputs to that model including our stock price, expected stock price
volatility, the contractual term, and the risk-free interest rate. We will continue to classify the fair value of the warrants
as a liability until the warrants are exercised, expire or are amended in a way that would no longer require these warrants to
be classified as a liability, whichever comes first. Other convertible notes On May 24 and June
14, 2016, we sold additional convertible notes for $222,000 with warrants to purchase 50,000 shares of common stock at an exercise
price of $0.55 per share. The Purchaser has the right to convert the notes into shares of the CompanyÂ’s common stock at a
fixed conversion price equal to $0.45 per share, subject to applicable adjustments. The estimated fair value of the warrants was
determined using the binomial model, resulting in an allocation of $12,406 to the total warrants and the recognition of a beneficial
conversion feature of $7,962, both of which were recorded as a discount to the note. We issued 30,667 shares in connection with
the debt on June 14, 2016 to compensate the lender. We valued the 30,667 shares using the stock prices at the respective dates
the note proceeds were received and recorded the relative fair value of the shares amounting to $10,952 as a debt discount to be
amortized over the term of the loan. We evaluated these convertible notes and warrants for derivative liability treatment and determined
that these instruments do not include certain rights such as price protection like our previous debt financings. Accordingly, we
concluded that these financing arrangements did not qualify for derivative accounting treatment. The specific terms
of the convertible debts and outstanding balances as of June 30, 2016 are listed in the table below. Fixed Rate Convertible Notes
Inception Date Term Loan Amount Outstanding Balance Original Issue Discount Interest Rate Deferred Finance Fees Discount related to fair value of conversion feature and warrants
July 22, 2015 24 months $ 2,180,000 $ 2,180,000 $ 218,000 1 10 % 2 $ 388,532 $ 2,163,074
September 25, 2015 24 months 1,100,000 1,100,000 110,000 1 10 % 2 185,956 1,022,052
October 2, 2015 24 months 150,000 150,000 15,000 1 10 % 2 26,345 140,832
October 6, 2015 24 months 30,000 30,000 3,000 1 10 % 2 5,168 26,721
October 14, 2015 24 months 50,000 50,000 5,000 1 10 % 2 8,954 49,377
November 2, 2015 24 months 250,000 250,000 25,000 1 10 % 2 43,079 222,723
November 10, 2015 24 months 50,000 50,000 5,000 1 10 % 2 8,790 46,984
November 12, 2015 24 months 215,000 215,000 21,500 1 10 % 2 38,518 212,399
November 20, 2015 24 months 200,000 200,000 20,000 1 10 % 2 37,185 200,000
December 4, 2015 24 months 170,000 170,000 17,000 1 10 % 2 37,352 170,000
December 11, 2015 24 months 360,000 360,000 36,000 1 10 % 2 75,449 360,000
December 18, 2015 24 months 55,000 55,000 5,500 1 10 % 2 11,714 55,000
December 31, 2015 24 months 100,000 100,000 10,000 1 10 % 2 20,634 100,000
January 11, 2016 24 months 100,000 100,000 10,000 1 10 % 2 24,966 80,034
January 20, 2016 24 months 50,000 50,000 5,000 1 10 % 2 9,812 40,188
January 29, 2016 24 months 300,000 300,000 30,000 1 10 % 2 60,887 239,113
February 26, 2016 24 months 200,000 200,000 20,000 1 10 % 2 43,952 156,048
March 10, 2016 24 months 125,000 125,000 12,500 1 10 % 2 18,260 106,740
March 18, 2016 24 months 360,000 360,000 36,000 1 10 % 2 94,992 265,008
March 24, 2016 24 months 106,667 106,667 10,667 1 10 % 2 15,427 91,240
March 31, 2016 24 months 167,882 167,882 16,788 1 10 % 2 2,436 165,446
April 5, 2016 24 months 10,000 10,000 1,000 1 10 % 2 - 10,000
May 24, 2016 7 months 100,000 100,000 7,000 1 0 % 2 - 20,368
June 15, 2016 6 months 40,000 40,000 0 12 % - 3,680
June 17, 2016 6 months 40,000 40,000 0 12 % - 3,899
June 22, 2016 6 months 35,000 35,000 0 12 % - 3,373
$ 6,544,549 $ 6,544,549 $ 639,955 $ 1,158,408 $ 5,954,299 1 The original
issue discount is reflected in the first year. 2 The annual interest
starts accruing in the second year. The closings above
on March 10, 24, and 31, 2016 included $264,667 of proceeds received from related parties. At any time after
six months from the Inception Date, the Company has the right to prepay the above Debentures in cash for 120% of the principal
amount outstanding and any accrued interest. As of June 30, 2016, a total of approximately $291,000 convertible debentures were
issued to related parties. The following table
provides a summary of the changes in convertible debt, net of unamortized discount, during 2016:
2016
Balance at January 1, $ 277,342
Issuance of convertible debt, face value 1,783,504
Original issue discount (148,955 )
Debt discount from derivative liabilities (embedded conversion option and warrants) (1,153,817 )
Debt discount from shares and warrants issued with the notes (23,358)
Debt discount from beneficial conversion feature (7,962)
Deferred financing fees (270,877 )
Conversion of debentures to common shares (100,000)
Accretion of interest and amortization of debt discount to interest expense through June 30, 1,805,401
Balance at June 30, 2,161,278
Less: current portion 192,627
Convertible debt, long-term portion $ 1,968,651 Other Notes On January 6, 2016
we signed a Merchant Agreement with a lender. Under the agreement we received $250,000 in exchange for rights to all customer receipts
until the lender is paid $322,500, which is collected at the rate of $1,280 per business day. The payments were secured by second
position rights to all customer receipts until the loan has been paid in full. $138,840 of the proceeds were used to pay off the
outstanding balance of a previous loan from another lender. The Company recognized a gain on the settlement of the previous loan
of $5,044 which was credited to interest expense. The Company paid $2,500 in fees in connection with this loan. We received an
additional $93,161 in June 2016 under the existing Merchant Agreement. The note was still outstanding as of June 30, 2016 with
a balance of $187,030. On January 20,
2016, we borrowed $50,000 from an individual with no interest or fees. We paid back the loan in March 2016. On February 8,
2016 we signed a Merchant Agreement with a lender. Under the agreement we received $100,000 in exchange for third position rights
to all customer receipts until the lender is paid $129,900, which is collected at the rate of $927 per business day. The Company
paid $2,000 in fees in connection with this loan. We received an additional $125,000 in June 2016 under the existing Merchant Agreement
of which $48,420 was used to pay off the prior loan. The note was still outstanding as of June 30, 2016 with a balance of $76,424. On May 9, 2016
we signed a promissory note with a lender. Under the agreement we received $200,000 net of a $6,000 original issue discount and
will repay $206,000. The maturity date is August 25, 2016. In connection with this promissory note, we issued warrants exercisable
into 100,000 shares of our common stock. The Warrants issued in this transaction are immediately exercisable at an exercise price
of $0.55 per share. The Warrants have an expiration period of three years from the original issue date. The Warrants are subject
to adjustment for stock splits, stock dividends or recapitalizations. The Warrants were recorded as a component of our StockholdersÂ’
Equity. The estimated fair
value of the warrants was determined using the binomial model, resulting in an allocation of $27,349 to the total warrants and
recorded as a discount to the note to be amortized over the term of the loan. We evaluated these warrants for derivative liability
treatment and determined that these instruments do not include certain rights such as price protection like our previous debt financings.
Accordingly, we concluded that these financing arrangements did not qualify for derivative accounting treatment. |
