Note 8 - Liability Attributable to Warrants

12 Months Ended

Dec. 31, 2013

Warrants Liability [Abstract]

Warrants Liability [Text Block]

8. Liability Attributable to Warrants

On June 17, 2013, we entered into, and subsequently consummated, an Exercise Agreement (the “Exercise Agreement”) with five of the largest investors in our September 1, 2011 private placement of common stock and warrants (the “2011 Private Placement” or “2011 Transaction”), providing for the exercise for cash by such investors of warrants to purchase an aggregate of 9 million shares of our common stock, out of the approximately 17 million shares of common stock subject to warrants issued to the investors in the 2011 Transaction that remained outstanding as of such date. The approximately 5 million shares of common stock subject to warrants issued to the placement agent in the 2011 Transaction that remained outstanding as of such date were not part of the Exercise Agreement. We agreed under the Exercise Agreement to subsequently commence a tender offer (the “Offer to Exercise”) to provide the holders of other warrants that remained outstanding from the 2011 Transaction with the same opportunity to exercise as provided under the Exercise Agreement.

The warrants exercised had a remaining term of approximately 38 months, and had an exercise price of $0.26 per warrant, which was the original exercise price. We received cash proceeds of $2.34 million as a result of the warrants exercised. In consideration for the early exercise of these warrants, we issued to the five investors an aggregate of 4.5 million warrants to purchase common stock at an exercise price of $1.00 per warrant, with a term of five years from issuance (the “New Warrants”). The New Warrants were issued on June 18, 2013, are substantially similar to the investor warrants that were exercised, and, after giving effect to the amendments to such warrants described below, such warrants have been recorded as a component of equity (additional paid-in capital “APIC”) at Level 3 fair value.

Using a binomial pricing model, we calculated the fair value of the New Warrants issued at the time of the Exercise Agreement to be $514,800. We used the following assumptions in the binomial pricing model: estimated volatility 185%; annualized forfeiture rate 0%; expected term 5 years; estimated exercise factor 1.5, risk free interest rate 1.07%; and dividends 0. The New Warrants were accounted for as a cost of the exercise of the warrants issued pursuant to the Exercise Agreement; as a result a $514,800 reduction of APIC was also recorded. Accordingly, there was no net effect on equity because of the issuance of the new warrants.

Immediately prior to the exercise for cash, the five investors, who held a majority of the outstanding warrants issued in the 2011 Transaction to investors (“Investor Warrants”), agreed to amend the entire series of such warrants to delete the following provisions: (1) the price-based anti-dilution clause; (2) our right to lower the exercise price in our discretion; and (3) a clause that mandated that we buy the warrants for cash at their Black-Scholes value in the event of certain extraordinary transactions. By virtue of a majority-rule clause in the warrants, the elimination of these provisions from the Investor Warrants issued in the 2011 Transaction eliminated the warrant derivative liability classification related to all of the Investor Warrants issued in the 2011 Transaction including those held by investors who did not exercise their warrants at the date of the amendment. The tables below show the calculation of the reduction of the warrants derivative liability.

The warrants issued to the placement agent as part of the 2011 Transaction, and those issued to an intellectual property consulting firm (ipCapital Group, Inc.), which was not part of the 2011 Transaction, were not included in the Exercise Agreement or affected by the amendment described above. The exercise price of such warrants could, in certain circumstances, be reset to below-market value. Accordingly, unlike the amended investor warrants, we have concluded that the warrants issued to the placement agent and ipCapital Group, Inc. are not indexed to our common stock; therefore, the fair value of these warrants were, and continue to be, recorded as a liability.

On August 9, 2013, we consummated an offer to exercise warrants (the “Offer to Exercise”) made to holders of warrants in the 2011 Transaction who were not parties to the Exercise Agreement. We were obligated to conduct the Offer to Exercise under the terms of the Exercise Agreement entered into in connection with the June 17, 2013 transaction. In connection with the Offer to Exercise, warrants to purchase an aggregate of 305,000 shares of our common stock were exercised for which we received cash proceeds of $64,000. In consideration for the early exercise of these warrants, we issued an aggregate of 152,500 New Warrants at an exercise price of $1.00 per warrant, with a term of five years from issuance.

Using a binomial pricing model, we calculated the fair value of the New Warrants issued at the end of the Offer to Exercise to be $45,600. We used the following assumptions in the binomial pricing model: estimated volatility 171%; annualized forfeiture rate 0%; expected term 4.875 years; estimated exercise factor 4, risk free interest rate 1.31%; and dividends 0. The New Warrants were accounted for as a cost of the exercise of the warrants issued pursuant to the Exercise Agreement; as a result a $45,600 reduction of APIC was also recorded. Accordingly, there was no net effect on equity because of the issuance of the new warrants.

Under ASC 820, “Fair Value Measurement,” we re-measure the fair value of the warrants classified as a liability at every balance sheet date. As an integral part of the re-measurement process, we reevaluate each of the assumptions used, and when circumstances change or we become aware of new information affecting any of our assumptions, we adjust those assumptions accordingly. During the three months ended March 31, 2013 two investors in the 2011 Private Placement exercised an aggregate of 462,500 warrants. While closing our books for the three months ended March 31, 2013, we reevaluated our internal assumptions based on historic and recent exercise patterns and analysis of our stock performance. Based on the work performed, we concluded that a lowering of our estimated exercise factor for the warrants issued in conjunction with the 2011 transaction from 10 to 4 was appropriate (see the assumptions used, as set forth in the tables, below).

Changes in fair value of the warrants liability are recognized in other (income), except for changes in the fair value of the warrants issued to ipCapital which are recognized as a component of general and administrative expense in the consolidated statement of operations.

We used the exercise price of the warrants, as well as the fair market value of our common stock, to determine the fair value of our warrants. The exercise price for warrants issued in conjunction with the 2011 Transaction, including those issued to the placement agent, was either $0.20 or $0.26 per share, and was $0.26 per share for the warrants issued to ipCapital. The fair market value of our common stock was $0.37 and $0.54 per share as of December 31, 2013 and 2012, respectively.

We used a binomial pricing model to determine the fair value of our warrants liability as of December 31, 2013 and 2012, the balance sheet dates, respectively, using the following assumptions:

For the Year Ended December 31, 2013
Warrants	Estimated Volatility			Annualized Forfeiture Rate		Expected Option Term (Years)			Estimated Exercise Factor		Risk-Free Interest Rate			Dividends
2011 Private Placement	102%	-	145%		—	2.67	–	3.42		10	0.45%	-	0.51%		—
ipCapital	108%	-	147%		—	2.80	–	3.54		10	0.47%	-	0.77%		—

For the Year Ended December 31, 2012
Warrants	Estimated Volatility			Annualized Forfeiture Rate		Expected Option Term (Years)			Estimated Exercise Factor		Risk-Free Interest Rate			Dividends
2011 Private Placement	159%	-	202%		—	3.67	–	4.42		10	0.47%	-	1.04%		—
ipCapital	163%	-	201%		—	3.80	–	4.54		10	0.47%	-	1.04%		—

The following table is a reconciliation of the warrants liability measured at fair value using significant unobservable inputs (Level 3) for the year ended December 31, 2013:

Warrants liability – December 31, 2012 fair value	$	7,390,100
Change in fair value of warrant liability recorded in other income		(1,406,000	)
Change in fair value of warrant liability recorded in general and administrative expense		(10,800	)
Reclassification of warrants liability to equity from exercise of warrants (1)		(602,500	)
Reclassification of warrants liability to equity from amendment to warrants (1)		(4,391,000	)
Warrants liability – December 31, 2013 fair value	$	979,800

(1) During the year ended December 31, 2013, our warrants liability was reduced as a result of the warrants amendment, as discussed above. Additionally, our warrants liability was further reduced by $602,500 as a result of the exercise of 1,717,500 warrants during such period, whose terms were not affected by the changes made under the warrants amendment. The aggregate reduction in the liability, combining the warrant amendment and these exercises, was $4,993,500. See Note 14.

The following tables reconcile the number of warrants outstanding for the periods indicated:

For the Year Ended December 31, 2013
	Beginning Outstanding		Issued		Exercised		Ending Outstanding
2011 Transaction		23,075,000		—		11,772,500		11,302,500
Exercise Agreement		—		4,500,000		—		4,500,000
ipCapital		400,000		—		—		400,000
Consulting Warrant (1)		—		312,500		—		312,500
Offer to Exercise		—		152,500		—		152,500
Total		23,475,000		4,965,000		11,772,500		16,667,500

For the Year Ended December 31, 2012
	Beginning Outstanding		Issued		Exercised		Ending Outstanding
2011 Transaction		23,075,000		—		—		23,075,000
ipCapital		400,000		—		—		400,000
Total		23,475,000		—		—		23,475,000

(1) Effective September 18, 2013, we entered into a consulting agreement with Genesis Select to provide us with a variety of investor relations services. As part of their compensation, we issued to them a warrant to purchase 312,500 shares of our common stock at an exercise price of $0.50 per share. The warrant will vest, monthly, over the initial twelve-month service period of the contract, assuming that the agreement remains in-force, with the first vesting having occurred on October 18, 2013. The warrant is substantially similar in nature to those issued in the warrant amendment, discussed above, thus; the warrant is accounted in equity and is not included as a component of our warrants liability as of December 31, 2013. We used the following assumptions in a binomial pricing model to calculate the fair value of the warrant issued to Genesis: estimated volatility 181%; expected term 4.96 years; estimated exercise factor 4, risk free interest rate 1.41%; and dividends 0. Expense associated with this warrant is recognized as a component of general and administrative expense over the one-year vesting term of the warrant.