NOTE 6 - SENIOR SECURED CONVERTIBLE NOTES

Initial Proceeds from Issuance

On December 4, 2012, the Company entered into a Securities Purchase Agreement with the Holders, pursuant to which, the Company sold an aggregate of (i) $4,000,000 principal amount of Notes and (ii) warrants (the Warrants) to purchase 2,275,000 shares of the Company’s common stock, to the Holders for aggregate gross proceeds of $4,000,000 (the Financing). In connection with the Financing, (i) the Company entered into a registration rights agreement with the Holders (the Registration Rights Agreement), (ii) the Company and its subsidiaries entered into the Security Agreement, and (iii) subsidiaries of the Company entered into a guaranty in favor of the Collateral Agent for the Holders (the Guaranty). The Closing Date of the Financing was December 5, 2012.

Pursuant to the terms of the Notes, the Company deposited the initial funds received from the Financing, minus $2,179,000 (Initial Lending Amount), which went into the Lockbox Account controlled by the Collateral Agent, as collateral agent on behalf of the Holders. The Company used the Initial Lending Amount to repay the existing loan of $2,000,000, plus $79,000 of interest accrued and fees and expenses to Sovereign Bank, N.A., which credit agreement was terminated in connection with the Notes, and $100,000 for Holder legal fees in connection with the Notes.

Amendment, Waiver and Exchange Agreement

On October 25, 2013, the Company entered into an Amendment, Waiver and Exchange Agreement (Amendment) with the Holders that amended the conversion features of the Warrants and Notes. Pursuant to the Amendment, the Holders exchanged 155,000 of their Warrants for 39,000 shares of common stock (the Shares) and warrants to purchase 155,000 shares of common stock (Exchange Warrants). Effectively, for every four Warrants surrendered, the Holder received a unit of four Exchange Warrants and one share of common stock. It was determined that the Black-Scholes value of one Warrant being exchanged was equal to $1.83, resulting in four Warrants being equal to $7.32 and the parties valued the unit at a price of $7.52. As a result, the shares of common stock issued were calculated at $0.20, and by the operation of the terms of the Notes, the conversion price of the Notes automatically adjusted to $0.20. The Exchange Warrants are exercisable for a period of five years from the date of issuance of the original Warrants at an initial exercise price of $2.15 per share. The exercise price will only adjust in the event of any future stock splits or dividends.

Pursuant to the Amendment, the Holders permanently waived, effective as of October 24, 2013, various provisions of the remaining 2,120,000 Warrants, including the anti-dilution protection from the issuance of securities at a price lower than the exercise price, the adjustment to market price on the first anniversary of the date of issuance of the Warrants and the Black-Scholes valuation upon the occurrence of a Fundamental Transaction (as defined in the Warrants). As a result of these waivers, the exercise price of the Warrants will only adjust in the event of any future stock splits or dividends. The Exercise Price of the Warrants remains at $2.15 per share. The Amendment resulted in 2,120,000 Warrants and 155,000 Exchange Warrants having the same terms, conditions and rights.

Further, the Holders agreed to waive any defaults through February 28, 2014 relating to the failure of the Company to have enough authorized shares of common stock available for issuance upon conversion of the Notes and/or exercise of the Warrants.

Amendment to Notes

Effective October 31, 2013, the Company entered into an amendment agreement (the Note Amendment) with the Holders. The Note Amendment eliminated certain features of the Notes which would otherwise result in substantial accounting charges to the Company. Pursuant to the Note Amendment, the Holders permanently waived various provisions of the Notes, including the adjustment to the conversion price under a Fundamental Transaction (as defined in the Notes), the anti-dilution protection from the issuance of securities at a price lower than the current exercise price and the adjustment to market price on the first anniversary of the date of issuance of the Notes. As a result of these waivers, the conversion price of the Notes will only adjust in the event of any future stock splits or dividends.

Further, the Holders waived certain events of default that had occurred under the Notes as more fully described as follows. Pursuant to the terms of the Notes, an event of default occurs when the Company’s common stock is suspended or threatened with suspension from trading on The NASDAQ Capital Market (or an equivalent market). On October 7, 2013, the Company received a notice from the Staff of the Listing Qualifications Department of The NASDAQ Stock Market LLC (NASDAQ) indicating that the Company’s common stock would be subject to delisting from The NASDAQ Capital Market on October 16, 2013 due to the Company’s non-compliance with the applicable $2.5 million stockholders’ equity requirement, as set forth in Listing Rule 5550(b) (1). As a result of the notice from NASDAQ, an event of default occurred under the Notes, which was waived by the Holders pursuant to the Note Amendment.

Prior to the Note Amendment, if an event of default existed under the Notes, the Holders would have been entitled to redeem $3,400,000 in aggregate principal and interest of the Notes for a make-whole amount equal to the greater of 125% of (x) the deemed value of the shares of common stock underlying the Note (the Intrinsic Value) and (y) the outstanding principal and unpaid interest under the Notes (the Base Value). The Note Amendment reduces and fixes the event of default make-whole amount by eliminating the Intrinsic Value calculation and modifying the Base Value calculation and interest rate to more accurately make-whole the holders of the Notes from the loss of interest from an early redemption of the Notes and the decreased value of the Notes without such Intrinsic Value rights. As revised, the event of default redemption amount (“Make-Whole Amount”) equals the sum of the Conversion Amount (as defined in the Notes) to be redeemed, plus a make-whole amount equal to the amount of any interest that, but for any redemption of the Notes on such given date, would have accrued with respect to the Conversion Amount being redeemed under the Notes at the interest rate then in effect for the period from such given date through October 31, 2023, the amended maturity date of the Notes, discounted to the present value of such interest using a discount rate of 2.5% per annum. As a result, the fixed value of the event of default make-whole amount was approximately $10,900,000 at the time of the Note Amendment. As a result of Note conversions during the current fiscal year, the value of the event of default make-whole amount was approximately $2,800,000 as of April 30, 2014. No Holder has exercised its right of redemption as a result of the events of default discussed above. In addition, the interest rate of the Notes was amended to 15% per annum, subject to increase to 25% per annum if an event of default occurs and is continuing.

As a result of the significant modifications of the Notes, the Company determined that the Notes were extinguished and new Notes were issued. In connection with this modification, the Company compared the present value of the beneficial conversion features of the Notes to the new Notes. The Company determined that the present value of the new Notes exceeded the present value of the old Notes by more than 10%, which resulted in the application of extinguishment accounting. The modification of the Note resulted in the debt instruments being exchanged with substantially different terms and extinguishment accounting was applied resulting in a loss on extinguishment of debt for the unamortized discount related to the Notes of $1,299,000. In addition, the Company recorded a new beneficial conversion feature and associated debt discount of $3,400,000 related to the proceeds of the new Notes based on the fixed conversion rate of $0.20 and the fair market value of the common stock at the amendment date.

Prior to the Note Amendment, $594,000 of Notes was converted into 276,000 shares of the Company’s common stock. In addition, $6,000 of Notes was redeemed for cash at the request of a Holder.

During the year ended April 30, 2014, $2,502,000 of Notes was converted into 12,508,000 shares of the Company’s Common Stock, resulting in the accelerated write-off of unamortized debt discount of $2,502,000 and included in interest expense. In addition, $19,000 of accrued interest on Notes was converted into 96,000 shares of the Company’s common stock.

In connection with the Amendment, the Company reserved an aggregate of 12,867,000 shares of common stock for issuance in connection with the conversion of the Notes, Warrants, and/or Exchange Warrants of the Holders (the Share Reserve Allocation). As of April 30, 2014, the Holders have converted Notes up to the Share Reserve Allocation. Until such time as the Company has increased its number of authorized shares, pursuant to stockholder approval, merger or otherwise, the Company shall not be required to reserve more than the Share Reserve Allocation, and the Holders shall not be entitled to convert and/or exercise, as applicable, the Note, the Warrants, and/or the Exchange Warrants, since they have already converted Notes up to the Share Reserve Allocation.

For the three and six months period ended October 31, 2014, the Company recorded $0 and $853,000 amortization of debt discount on the Notes, respectively.

Following the Note Amendment, the Notes consisted of the following as of October 31, 2014:

	Notes		Debt Discount		Total
Beginning balance as of April 30, 2014 - Senior secured convertible notes,
interest at 4% per annum to maturity June 5, 2014	$	898,338	$	(853,431)	$	44,907
Amortization of debt discount		-		853,431		853,431
Conversion of Senior secured convertible notes to preferrd stock		(145,362)				(145,362)
	$	752,976	$	-	$	752,976

Conversion of Notes to preferred stock - - 2^nd quarter 2015

See Note 1 for Hudson Bay Exchange Agreement.

Events of Default under the Notes

Pursuant to the terms of the Notes, an event of default occurs when our common stock is suspended or threatened with suspension from trading on The NASDAQ Capital Market (or an equivalent market) (“Event of Default”). As a result of the separate notices received by the Company from NASDAQ as described above, as well as the Company’s failure to obtain an increase in authorized common stock by February 28, 2014, Events of Default occurred under the Notes.

As a result of each of the Events of Default, the Holders have the right to require the Company to redeem the Notes equal to the Conversion Amount (as defined in the Notes) to be redeemed, plus a make-whole amount equal to the amount of any interest that, but for any redemption of the Notes on such given date, would have accrued with respect to the Conversion Amount being redeemed under the Notes at the interest rate then in effect for the period from such given date through October 31, 2023, the amended maturity date of the Notes, discounted to the present value of such interest using a discount rate of 2.5% per annum. Currently, the principal amount of Notes outstanding is $753,000 and the interest rate on the Notes was increased to 25% per annum effective March 1, 2014.

During August 2014, Holders requested that the make-whole amounts be redeemed. As of a result of this request and the Event of Default under the Notes, the Company recorded an addition $1,584,000 liability relating to the present value of the make-whole amount with an offsetting amount to interest expense as of October 31, 2014. If the Holders elects to convert the make-whole amounts and principal payments, the Company will issue 30,314,664 shares of common stock as of October 31, 2014.

Registration Rights of the Shares Issuable Upon Conversion of the Notes

The Company agreed to file a registration statement with the SEC, within 30 days following receipt of a request from a Holder (or 45 days with respect to an underwritten offering), covering such shares of common stock issuable upon conversion of the Notes or exercise of the Warrants, as requested by the Holders, and have such registration statement declared effective by the SEC within 90 days thereafter. The Company also agreed to notify the Holders if the Company at any time proposes to register any of its securities under the Securities Act of 1933, as amended, and of such Holders right to participate in such registration. In connection with the conversion described above, no request has been received from a Holder to register such shares.

If the Company fails to comply with the registration statement filing, effective date or maintenance date filing requirements, it is required to pay the Buyers a registration delay payment in cash equal to 2% of the Buyer’s original principal amount stated on such Investors’ Note as of the Closing Date on the date of each failure, and on every thirty (30) day anniversary of the respective failures (Registration Delay Payment). Notwithstanding the foregoing, in no event shall the aggregate amount of Registration Delay Payments exceed 10% of such Investor’s original principal amount stated on the New Notes on the Closing Date. The Company accounts for such Registration Delay Payments as contingent liabilities. Accordingly, the Company recognizes such damages when it becomes probable that they will be incurred and amounts are reasonably estimable. No Holders have submitted a request for a registration statement as of the date of this filing.

Holders Security Interests and Guarantees

Pursuant to the Guaranty, subsidiaries of the Company guaranteed to the collateral agent, for the benefit of the Holders, the punctual payment, as and when due and payable, of all amounts owed by the Company in respect of the Purchase Agreement, the Notes and the other transaction documents executed in connection with the Purchase Agreement.

Pursuant to the Security Agreement, the Company and its subsidiaries granted, in favor of the collateral agent for the Holders, a continuing security interest in all personal property and assets of the Company and its subsidiaries, as collateral security for the obligations of the Company and its subsidiaries under the Purchase Agreement, the Notes, the Guaranty and the other transaction documents.

In connection with the BTX purchase agreement, the Company agreed to waive any rights to compel the redemption of the Notes. The Holders agreed to restrict their ability to convert the Notes and/or exercise the Warrants and Exchange Warrants and receive shares of the Company’s common stock such that the number of shares of common stock held by the Holder in the aggregate and its affiliates after such conversion or exercise does not exceed 9.99% of the then issued and outstanding shares of the Company’s common stock.