Note 2 - Stock-Based Compensation; Changes in Equity

The Company has adopted Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 718 which requires all share-based payments to employees, including grants of employee stock options, to be recognized in the condensed consolidated financial statements based on their grant-date fair values.

The Company has applied the Black-Scholes model to value stock-based awards and issued warrants related to notes payable. That model incorporates various assumptions in the valuation of stock-based awards relating to the risk-free rate of interest to be applied, the estimated dividend yield and expected volatility of our common stock. The risk-free rate of interest is the related U.S. Treasury yield curve for periods within the expected term of the option at the time of grant. The dividend yield on our common stock is estimated to be 0%, as the Company did not issue dividends during 2016 and 2015. The expected volatility is based on historical volatility of the Company’s common stock.

The Company’s net loss for the three months ended June 30, 2016 and net income in 2015 includes approximately $11,000 and $9,000, respectively, of compensation costs related to share based payments. The Company’s net loss for the six months ended June 30, 2016 and net income in 2015 includes approximately $23,000 and $19,000, respectively, of compensation costs related to share based payments. As of June 30, 2016 there is $37,000 of unrecognized compensation expense related to non-vested stock option grants and stock grants. We expect approximately $11,000 of additional stock-based compensation expense to be recognized over the remainder of 2016, $15,000 to be recognized during 2017, $7,000 to be recognized during 2018, $3,000 to be recognized during 2019 and $1,000 to be recognized during 2020.

As of June 30, 2016, the Company had three stock-based compensation plans pursuant to which stock options were, or may be, granted. The Plans provide for the award of options, which may either be incentive stock options (“ISOs”) within the meaning of Section 422A of the Internal Revenue Code of 1986, as amended (the “Code”) or non-qualified options (“NQOs”) which are not subject to special tax treatment under the Code, as well as for stock grants.

On April 12, 2001, the Board of Directors approved for adoption, effective December 27, 2001, the 2001 Stock Option Plan (“2001 Plan”). The 2001 Plan authorizes the grant of options to purchase up to an aggregate of 119,050, shares of the Company’s Common Stock. As of June 30, 2016, options for 139,958 shares (including cancelled shares re-issued under the Plan) have been granted and were fully vested at the time of grant; no options remain outstanding.

On April 24, 2002, the Board of Directors approved for adoption, effective October 12, 2002, the 2002 Stock Option Plan (“2002 Plan”). The 2002 Plan authorizes the grant of options to purchase up to an aggregate of 142,860 shares of the Company’s Common Stock. As of June 30, 2016, options for 123,430 shares have been granted and were fully vested at the time of grant; no options remain outstanding.

On April 10, 2009, the Board of Directors approved for adoption, and on June 5, 2009, the shareholders of the Corporation approved, a 2009 Stock Incentive Plan (“2009 Plan”). The 2009 Plan authorizes the issuance of up to 250,000 shares of stock or options to purchase stock of the Company (including cancelled shares reissued under the plan.) As of June 30, 2016, options for 250,000 shares had been granted and options for 148,000 shares remain outstanding.

A summary of the Company’s stock option activity and related information is as follows:

	Shares under Option		Weighted Average Exercise Price		Weighted Average Remaining Contractual Life		Aggregate Intrinsic Value
Balance at December 31, 2015		154,000	$	5.25		2.9	$	1,450
Granted		-
Cancelled/Expired		(6,000)	$	5.96
Exercised		-
Outstanding at June 30, 2016		148,000	$	5.22		2.5	$	223,170

Exercisable at June 30, 2016		88,000	$	5.20		1.8	$	134,578

On July 17, 2012, the Company entered into a Note and Warrant Purchase Agreement with BMO Private Equity (U.S.), Inc. (“BMO Equity”) pursuant to which (i) BMO Equity advanced to the Company the sum of $5 million and (ii) the Company issued to BMO Equity a warrant to purchase up to Four Percent (4%) of the outstanding shares of common stock of the Company on a fully-diluted basis (140,048 shares of common stock of the Company) at the price of One Cent ($0.01) per share. The term of the loan provided for in this Agreement is five and a half years. Interest is payable on the outstanding balance of the loan at the rate of 11.5% per annum.

As of June 30, 2016, the Company was in compliance with all of the financial covenants under the Credit Agreement and the Note and Warrant Purchase Agreement, except that the Company did not meet two of the financial covenants in the Credit Agreement with the Bank – the ratio of EBITDA to Senior Debt and the ratio of EBITDA to Total Debt. The Bank has executed a waiver of the Company’s non-compliance with the covenants as of June 30, 2016.

A summary of the Company’s stock warrant activity and related information is as follows:

	Shares under Warrant		Weighted Average Exercise Price		Weighted Average Remaining Contractual Life		Aggregate Intrinsic Value
Balance at December 31, 2015		140,048	$	0.01		6.55	$	714,245
Granted
Cancelled
Exercised
Outstanding at June 30, 2016		140,048	$	0.01		6.05	$	941,123

Exercisable at June 30, 2016		-		-		-		-

A summary of the Company’s stock option activity by grant date as of June 30, 2016 is as follows:

	Options Outstanding								Options Vested
Options by Grant Date	Shares		Weighted Avg.		Remain. Life		Intrinsic Val		Shares		Weighted Avg.		Remain. Life		Intrinsic Val
Dec 2005		-		-		-		-		-		-		-		-
Dec 2010		-		-		-		-		-		-		-		-
Jan 2011		-		-		-		-		-		-		-		-
Nov 2012		94,000	$	5.17		1.4	$	146,640		75,200	$	5.17		1.4	$	117,312
Nov 2013		5,000	$	5.75		2.4	$	4,900		3,000	$	5.75		2.4	$	2,940
Dec 2015		49,000	$	5.27		4.5	$	71,630		9,800	$	5.27		4.5	$	14,326
TOTAL		148,000	$	5.22		2.5	$	223,170		88,000	$	5.20		1.8	$	134,578

The aggregate intrinsic value in the tables above represents the total pre-tax intrinsic value (the difference between the closing price of the Company’s common stock on the last trading day of the quarter ended June 30, 2016 and the exercise price, multiplied by the number of in-the-money options) that would have been received by the option holders had all the holders exercised their options on June 30, 2016.