DERIVATIVE LIABILITIES

6 Months Ended

Oct. 31, 2013

Derivative Liabilities [Abstract]

DERIVATIVE LIABILITIES

NOTE 6 – DERIVATIVE LIABILITIES

Senior secured convertible notes- embedded conversion features

Immediately prior to entering into the Amendment and Note Amendment, the Notes met the definition of a hybrid instrument, as defined in ASC 815. The hybrid instrument was comprised of (i) a debt instrument, as the host contract and (ii) an option to convert the debentures into common stock of the Company, as an embedded derivative and recorded them as a discount to the Notes. The embedded derivatives derive their value based on the underlying fair value of the Company’s common stock. The embedded derivatives are not clearly and closely related to the underlying host debt instrument since the economic characteristics and risk associated with these derivatives are based on the common stock fair value.  As a result, the Company determined the final fair value of the embedded derivatives and recognized a derivative liability of $4,000,437. The changes in the fair value of the embedded derivative were immediately recognized in earnings and classified as a gain or loss on the embedded derivative financial instrument in the accompanying condensed consolidated statements of operations. For the three and six months ended October 31, 2013, the Company recognized a loss of $61,408 and $1,598,537, respectively.

The Company estimated the fair value of the embedded derivatives using a binomial lattice model with the following assumptions: conversion price of $0.20 per share; risk free interest rate of 0.08%; expected life of 1.5 years; expected dividend of zero; a volatility factor of 134%; and a volume weighted average common stock price of $2.07 per share as of October 31, 2013. The expected lives of the instruments are equal to underlying term of the senior secured convertible notes. The expected volatility is based on the historical price volatility of the Company’s common stock. The risk-free interest rate represents the U.S. Treasury constant maturities rate for the expected life of the related conversion option. The dividend yield represents anticipated cash dividends to be paid over the expected life of the conversion option.

As a result of the Amendment and Note Amendment, the exercise price of the Notes were fixed at $0.20 per share, and will only adjust in the event of any future stock splits or dividends, and the redemption price of the Notes in the event of default was fixed at approximately $10,900,000. As a result, the Company determined that the modifications changed the instruments classification to an equity instrument which has resulted in bifurcation and liability accounting no longer being required. Accordingly, the Company reclassed the total former derivative liability related to the Notes of $4,000,437 to additional paid-in capital at October 31, 2013.

Common stock warrants

Immediately prior to entering into the Amendment, the Company determined that the fair value of the Warrants issued in connection with the issuance of the Notes under the Purchase Agreement was a derivative liability and recorded them as a discount to the Notes. The Company has recognized a final derivative liability of $3,093,722. The changes in the fair value of the embedded derivative were immediately recognized in earnings and classified as a gain or loss on the embedded derivative financial instrument in the accompanying condensed consolidated statements of operations. For the three and six months ended October 31, 2013, the Company recognized a gain of $2,269,563 and a loss of $764,786, respectively. 

The Company estimated the fair value of the warrant derivative using a binomial lattice model with the following assumptions: conversion price of $2.1539 per share; risk free interest rate of 1.31%; expected life of 5 years; expected dividend of zero; a volatility factor of 81%; and a volume weighted average common stock price of $2.07 per share as of October 31, 2013. The expected lives of the instruments are equal to the contractual term of the Warrants. The expected volatility is based on the historical price volatility of the Company’s common stock. The risk-free interest rate represents the U.S. Treasury constant maturities rate for the expected life of the related warrants. The dividend yield represents anticipated cash dividends to be paid over the expected life of the conversion option.

In connection with the Amendment, the Company recorded $72,832 of additional non-cash interest expense for the fair value of the 154,961 Exchange Warrants issued. The Company estimated the fair value of the Exchange Warrants using the Black-Scholes-Merton pricing model with the following assumptions: conversion price of $2.1539; risk free interest rate of 1.070%; expected life of 5 years; expected dividend of zero; a volatility factor of 138.2%; and a common stock price of $2.17 as of October 23, 2013. In addition, the Company recorded the fair value of the 38,740 Shares issued with the Exchange Warrants at a fair value of $88,715 based on the closing market price on October 25, 2013 of $2.29 per share.

As a result of the Amendment and Note Amendment, the exercise price of the Warrants was fixed at $2.1539 per share, and will only adjust in the event of any future stock splits or dividends. As a result, the Company determined that the modifications changed the instruments classification to an equity instrument that has resulted in bifurcation and liability accounting no longer being required. Accordingly, the Company reclassed the total former derivative liability related to the Warrants of $3,093,722 to additional paid-in capital at October 31, 2013.