-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, K1cEO6dj7ByA1bcCcIVnvBQaYkvlR5t7tVHXm4/PTvGb2T8Kgi7dMmt04y6ssgL4 jqL/eVCCrPY6qyZLVrZYYw== 0001144204-07-043129.txt : 20070814 0001144204-07-043129.hdr.sgml : 20070814 20070814132342 ACCESSION NUMBER: 0001144204-07-043129 CONFORMED SUBMISSION TYPE: 10QSB PUBLIC DOCUMENT COUNT: 5 CONFORMED PERIOD OF REPORT: 20070630 FILED AS OF DATE: 20070814 DATE AS OF CHANGE: 20070814 FILER: COMPANY DATA: COMPANY CONFORMED NAME: QPC Lasers CENTRAL INDEX KEY: 0001310753 STANDARD INDUSTRIAL CLASSIFICATION: LABORATORY ANALYTICAL INSTRUMENTS [3826] IRS NUMBER: 201568015 STATE OF INCORPORATION: NV FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10QSB SEC ACT: 1934 Act SEC FILE NUMBER: 333-121598 FILM NUMBER: 071053243 BUSINESS ADDRESS: STREET 1: 15632 ROXFORD STREET CITY: SYLMAR STATE: CA ZIP: 91342 BUSINESS PHONE: 818-986-0000 MAIL ADDRESS: STREET 1: 15632 ROXFORD STREET CITY: SYLMAR STATE: CA ZIP: 91342 FORMER COMPANY: FORMER CONFORMED NAME: Planning Force, Inc. DATE OF NAME CHANGE: 20041206 10QSB 1 v084000_10qsb.htm Unassociated Document                                                    
 
 
Washington, D.C. 20549
 
FORM 10-QSB
 
 QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended June 30, 2007
 
Commission file number: 000-28153
 
QPC Lasers, Inc.
(Exact name of registrant as specified in its charter)
 
Nevada
 
(State of incorporation)
 
20-1568015
 
(I.R.S. Employer Identification No.)
 
15632 Roxford Street, Sylmar, CA. 91342
 
(Address of principal executive offices) (Zip Code)
 
(818) 986-0000
 
(Registrant's telephone number, including area code)
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. xYes  oNo.
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act) oYes x No
 
There were 38,659,283 shares of the registrant's common stock outstanding as of June 30, 2007.
 
Transitional Small Business Disclosure Format (Check one): oYes xNo
 
 
INDEX TO FORM 10QSB

PART I FINANCIAL INFORMATION
  
   
PAGE
Item 1.
Condensed Financial Statements
3-6
     
 
Condensed Consolidated Balance Sheets at June 30, 2007 (unaudited) and December 31, 2006
3
   
 
Condensed Consolidated Statements of Operations for the three and six month periods ended June 30, 2007 and June 30, 2006 (unaudited)
4
     
 
Condensed Consolidated Statement of Stockholders' Deficiency (unaudited)
5
     
 
Condensed Consolidated Statements of Cash Flows for the six month periods ended June 30, 2007 and June 30, 2006 (unaudited)
6
     
 
Notes to Unaudited Condensed Consolidated Financial Statements
7 
   
 
Item2.
Management's Discussion and Analysis of Financial Condition and Results of Operations
21 
 
 
Item 3.
Controls and Procedures
35
   
 
PART II OTHER INFORMATION
 
     
Item 1.
Legal Proceedings
36 
   
 
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds
36
   
 
Item 3.
Defaults Upon Senior Securities
36
   
 
Item 4.
Submission of Matters to a Vote of Security Holders
36
   
 
Item 5.
Other Information
36
   
 
Item 6.
Exhibits
36
   
 
 
SIGNATURES
40
 
 
Part I - Financial Information
 
Item 1. Condensed Consolidated Financial Statements
 
QPC LASERS, INC. and Subsidiary
 
CONDENSED CONSOLIDATED BALANCE SHEETS 
 
   
June 30, 2007
(Unaudited) 
    
December 31, 2006
  
ASSETS
              
               
CURRENT ASSETS
              
Cash
 
$
10,655,973
  
$
1,429,077
  
Accounts receivable, commercial customers, net of allowance for doubtful accounts and returns and discounts of $3,735 as of June 30, 2007 and $19,810 as of December 31, 2006
    
933,628
    
667,908
  
Accounts receivable, government contracts
    
221,674
    
383,935
  
Other receivables
   
351,640
    
-
 
Unbilled revenue
    
852,125
    
42,692
  
Inventory
   
554,550
    
550,655
  
Prepaid expenses and other current assets
    
195,420
    
272,418
  
               
Total current assets
   
13,765,010
    
3,346,685
  
               
Property and equipment, net of accumulated depreciation of $5,707,072 as of June 30, 2007 and $5,276,320 as of December 31, 2006
    
3,594,246
    
3,961,796
  
Capitalized loan fees, net
   
-
   
38,039
  
Other assets
    
235,498
    
88,780
  
               
 TOTAL ASSETS  
$
17,594,754
  
$
7,435,300
  
 
LIABILITIES AND STOCKHOLDER’S DEFICIENCY
              
 
CURRENT LIABILITIES
              
Accounts payable and accrued liabilities
  
$
1,329,770
  
$
1,234,004
  
Embedded derivative liability
   
13,050,624
   
-
 
Current portion of long-term debt
   
639,700
    
1,034,437
  
Total current liabilities
   
15,020,094
    
2,268,441
  
Long-term debt, less current portion
   
7,081,866
    
6,398,189
  
               
Total liabilities
   
22,101,960
    
8,666,630
  
 
STOCKHOLDERS’ DEFICIENCY
              
Preferred stock, $0.001 par value, 20,000,000 shares authorized, none issued
   
-
   
-
 
Common stock, $0.001 par value, 180,000,000 shares authorized, 38,659,283 shares issued and outstanding
   
38,659
    
38,559
  
Additional paid-in capital
   
50,610,007
    
50,236,504
  
Accumulated deficit
   
(55,155,872
)
  
(51,506,393
)
               
Total stockholders’ deficiency
    
(4,507,206
)
  
(1,231,330
)
               
TOTAL LIABILITIES AND STOCKHOLDERS’ DEFICIENCY
  
$
17,594,754
  
$
7,435,300
  
 
See accompanying notes to condensed consolidated financial statements.
 
3
 
  QPC LASERS, INC. and Subsidiary
 
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited) 
 
   
Three months ended June 30, 
    
Six months ended June 30,
  
     
2007
 
 
2006
 
 
2007
 
 
2006
  
                           
REVENUE
  
$
1,823,005
  
$
577,346
  
$
2,929,584
  
$
842,910
  
COST OF SALES
    
960,162
    
495,022
    
1,815,943
    
774,748
  
                           
GROSS PROFIT
   
862,843
    
82,324
   
1,113,641
    
68,162
 
                           
OPERATING EXPENSES
                          
Research and development
    
1,060,761
    
1,134,986
    
2,073,560
    
2,258,778
  
General and administrative
    
1,407,889
    
2,498,459
    
2,624,413
    
3,577,304
  
Total operating expenses
    
2,468,650
    
3,633,445
    
4,697,973
    
5,836,082
  
                           
LOSS FROM OPERATIONS
    
(1,605,807
)
  
(3,551,121
)
  
(3,584,332
)
  
(5,767,920
)
                           
Interest income
    
46,223
    
6,463
   
47,977
    
6,473
 
Interest expense
    
(2,012,187
)
  
(550,382
)
  
(2,480,586
)
  
(1,610,359
)
Merger expense
   
-
   
(336,322
)
  
-
   
(336,322
)
Private placement expense
   
(17,740,180
)
  
-
   
(17,740,180
)
  
-
 
Change in fair value of derivative liability
   
20,054,927
   
28,626
   
20,054,927
   
28,626
 
Other income
   
20,751
    
17,437
    
52,715
    
33,607
  
                           
NET LOSS
  
$
(1,236,273
)
$
(4,385,299
)
$
(3,649,479
)
$
(7,645,895
)
                           
LOSS PER SHARE — Basic and Diluted
  
$
(0.03
)
$
(0.14
)
$
(0.09
)
$
(0.25
)
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING -
basic and diluted
    
38,609,283
    
31,459,137
    
38,584,283
    
31,156,221
  
 
See accompanying notes to condensed consolidated financial statements.
 
4
QPC LASERS. Inc. and Subsidiary
 
CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ DEFICIENCY
For the six months ended June 30, 2007 (unaudited)
 
   
Common Stock  
    
Additional
   
Accumulated
        
   
Shares  
    
Amount
    
Paid-in Capital
    
Deficit
    
Total
 
                                 
Balance, January 1, 2007
   
38,559,283
 
$
38,559
 
$
50,236,504
 
$
(51,506,393
)
$
(1,231,330
)
Fair value of vested stock options
    
-
   
-
   
215,758
   
-
   
215,758
 
Fair value of common stock issued to private placement agents
    
100,000
   
100
   
134,900
   
-
   
135,000
 
Fair value of modification of warrants
               
22,845
         
22,845
 
Net loss for the six months ended June 30, 2007
   
-
   
-
   
-
   
(3,649,479
)
  
(3,649,479
)
Balance, June 30, 2007
   
38,659,283
 
$
38,659
 
$
50,610,007
 
$
(55,155,872
)
$
(4,507,206
)
 
See accompanying notes to condensed consolidated financial statements.
 
5
 
QPC LASERS, INC. And Subsidiary
 
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
 
   
Six Months Ended June 30, 
  
     
2007
 
 
2006
  
               
CASH FLOWS FROM OPERATING ACTIVITIES
              
Net loss
  
$
(3,649,479
)
$
(7,645,895
)
Adjustments to reconcile net loss to net cash used in operating activities:
              
Depreciation and amortization
    
430,789
    
600,688
  
Compensation cost of vested options
   
215,758
   
74,395
  
Private Placement Costs
   
1,148,160
   
-
 
Amortization of loan discount
    
1,757,320
   
637,242
  
Amortization of Capitalized Loan Fees
    
38,039
   
72,822
  
Shares of common stock issued for services
   
135,000
   
1,500,000
  
Change in fair value of embedded derivative liability
    
(20,054,927
)
  
(28,626
)
Fair value of warrants issued for services and private placement costs
   
16,427,020
   
777,598
 
Fair value of modification of warrants
   
22,845
   
-
 
Changes in operating assets and liabilities:
              
Accounts receivable
    
(455,099
)
  
(116,776
)
Inventory
    
(3,895
)
  
39,453
 
Unbilled revenue
    
(809,433
)
  
(104,312
)
Other assets
    
(146,718
)
  
40,635
 
Prepaid expenses
    
76,998
   
43,776
 
Accounts payable and other current liabilities
    
95,766
   
20,469
 
               
Net cash used in operating activities
    
(4,771,856
)
  
(4,088,531
)
               
CASH FLOWS FROM INVESTING ACTIVITIES:
              
Purchase of property and equipment
    
(63,240
)
  
(78,721
)
Net cash used in investing activities
    
(63,240
)
  
(78,721
)
               
CASH FLOWS FROM FINANCING ACTIVITIES:
              
Exercise of stock options
   
-
   
11,000
 
Proceeds from borrowing, net of offering costs
    
14,425,740
   
-
 
Principal payments on debt
    
(363,748
)
  
(1,059,891
)
Proceeds from unit sales allocated to embedded derivatives
   
-
   
211,835
 
Proceeds from sale of common stock
   
-
   
10,737,706
 
               
Net cash provided by financing activities
    
14,061,992
    
9,900,650
  
               
     
9,226,896
   
5,733,398
 
NET INCREASE IN CASH
              
CASH — Beginning of period
    
1,429,077
    
69,440
  
               
CASH — End of period
  
$
10,655,973
  
$
5,802,838
  
               
Supplemental Disclosures of Cash Flow Information
              
Cash paid during the period for:
              
Interest
  
$
676,572
  
$
196,012
  
               
Income taxes
    
-
   
-
 
 
SUPPLEMENTAL DISCLOSURE OF NON-CASH FINANCING AND INVESTING ACTIVITIES:
 
During the six months ended June 30, 2007, the Company issued 100,000 shares of common stock valued at $135,000 as private placement fees.
 
During the six months ended June 30, 2007 the Company issued warrants to purchase 29,256,318 shares of common stock valued at $33,105,551 to investors, placement agents and advisors.
 
See accompanying notes to condensed consolidated financial statements.
 
6
 
 QPC LASERS, INC. AND SUBSIDIARY
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS 
FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2007 AND 2006 (UNAUDITED)
 
NOTE 1 - NATURE OF OPERATIONS AND BASIS OF PRESENTATION
 
The accompanying condensed consolidated financial statements of QPC Lasers, Inc. (the Company) have been prepared, without audit, in accordance with U.S. generally accepted accounting principles for interim financial reporting.  Accordingly, the condensed consolidated financial statements do not include all of the information and notes required by U.S. generally accepted accounting principles for complete financial statements.  In the opinion of management, such interim financial statements contain all adjustments (consisting of normal recurring items) considered necessary for a fair presentation of our financial position, results of operations and cash flows for the interim periods presented.  The results of operations and cash flows for any interim period are not necessarily indicative of results that may be reported for the full fiscal year.
 
The accompanying condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements, and the notes thereto, included in our Annual Report on Form 10-KSB for the year ended December 31, 2006, as filed with the Securities and Exchange Commission.
 
 ORGANIZATION AND NATURE OF OPERATIONS
 
The Company was originally incorporated in the State of Nevada on August 31, 2004 under the name “Planning Force, Inc.” (PFI) as a development stage company that planed to specialize in event planning for corporations. The Company offered two types of services: retreat training services and product launch event planning. This business generated minimal revenue for the Company since inception.
 
Effective May 1, 2006, Planning Force Inc., changed its name to QPC Lasers, Inc. On May 12, 2006 QPC Lasers, Inc. (QPC) executed a Share Exchange Agreement by and among Julie Moran, its majority shareholder, and Quintessence Photonics Corporation (Quintessence) and substantially all of its shareholders. Under the agreement QPC issued one share of its common stock to the Quintessence shareholders in exchange for each share of QPC common stock (QPC Shares). Upon closing, Quintessence Shares represented at least 87% of QPC’s common stock. Therefore, a change in control occurred and Quintessence also became a wholly owned subsidiary of QPC. Accordingly, the transaction is accounted for as a reverse merger (recapitalization) in the accompanying condensed consolidated financial statements with Quintessence deemed to be the accounting acquirer and QPC is deemed to be the legal acquirer. As such the condensed consolidated financial statements herein reflect the historical activity of Quintessence since its inception, and the historical stockholders’ equity of Quintessence has been retroactively restated for the equivalent number of shares received in the exchange after giving effect to any differences in the par value offset to paid in capital.
 
GOING CONCERN
 
The accompanying condensed consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America, which contemplate continuation of the Company as a going concern. However, the Company had a net loss of $18,692,607 and utilized cash of $8,219,053 in operating activities during the year ended December 31, 2006, and had working capital of $1,078,244 at December 31, 2006. During the six months ended June 30, 2007, the Company had a net loss of $3,649,479 and utilized cash of $4,771,856 in operating activities. At June 30, 2007 the Company had a stockholders’ deficiency of $4,507,206. These factors raise substantial doubt about the Company's ability to continue as a going concern. The condensed consolidated financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts, or amounts and classification of liabilities that might result from this uncertainty.
 
7
 
Effective April 16, 2007 and May 29, 2007, we entered into securities purchase agreements with certain investors, pursuant to which the Company issued the Investors secured convertible debentures in the aggregate principal amount of $18,530,646 at an original issue discount of 10% for an aggregate consideration of $16,678,531.
 
The net cash proceeds to us from the April 2007 Debenture Offering and May 2007 Debenture Offering was approximately $13,900,000 net of closing costs and private placement fees. Our negative cash flow in recent months has been approximately $800,000 a month. Accordingly, we currently expect such funds will be sufficient to meet our cash requirements until late 2008. However, our expectations may prove incorrect and we may need to raise additional funds. Moreover, if we do not generate positive cash flow from operations and we expend our current cash resources to meet our ongoing requirements, then we will not have sufficient cash to meet our debt obligations that mature in 2009. Those obligations are in excess of $25 million, and even if all of the Secured Debentures are converted our payment obligation on our outstanding debt in 2009 will be nearly $6 million.
 
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 
Impairment of Long-Lived Assets
 
Management regularly reviews property, equipment and other long-lived assets for possible impairment in accordance with SFAS No. 144 “Accounting for the Impairment or Disposal of Long-Lived Assets.” SFAS No. 144 addresses financial accounting and reporting for the disposal of long-lived assets. This review occurs quarterly, or more frequently, if events or changes in circumstances indicate the carrying amount of the asset may not be recoverable. If there is indication of impairment , then management prepares an estimate of future cash flows (undiscounted and without interest charges) expected to result from the use of the asset and its eventual disposition. If these cash flows are less than the carrying amount of the asset, an impairment loss is recognized to write down the asset to its estimated fair value.
 
 
Current income tax expense is the amount of income taxes expected to be payable for the current year. A deferred income tax asset or liability is established for the expected future consequences of temporary differences in the financial reporting and tax bases of assets and liabilities. The Company considers future taxable income and ongoing, prudent and feasible tax planning strategies, in assessing the value of its deferred tax assets. If the Company determines that it is more likely than not that these assets will not be realized, the Company will reduce the value of these assets to their expected realizable value, thereby decreasing net income. Evaluating the value of these assets is necessarily based on the Company’s judgment. If the Company subsequently determined that the deferred tax assets, which had been written down, would be realized in the future, the value of the deferred tax assets would be increased, thereby increasing net income in the period when that determination was made.
 
8
 
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
 
Revenue Recognition
 
A portion of the Company’s revenues result from fixed-price contracts with U.S. government agencies. Revenues from fixed-price contracts are recognized under the percentage-of-completion method of accounting, generally based on costs incurred as a percentage of total estimated costs of individual contracts (“cost-to-cost method”). Revisions in contract revenue and cost estimates are reflected in the accounting period as they are identified. Provisions for the entire amount of estimated losses on uncompleted contracts are made in the period such losses are identified. No contracts were determined to be in an overall loss position at December 31, 2006 or June 30, 2007. In addition, the Company has certain cost plus fixed fee contracts with U.S. Government agencies that are being recorded as revenue is earned based on time and costs incurred. At December 31, 2006, there was no deferred revenue and approximately $42,692 of unbilled receivables related to these government contracts. At June 30, 2007 there was no deferred revenue and $852,125 of unbilled receivables related to these government contracts.
 
The Company recognizes revenues on product sales, other than fixed-price contracts, based on the terms of the customer agreement. The customer agreement takes the form of either a contract or a customer purchase order and each provide information with respect to the product or service being sold and the sales price. If the customer agreement does not have specific delivery or customer acceptance terms, revenue is recognized at the time of shipment of the product to the customer.
 
Management periodically reviews all product returns and evaluates the need for establishing either a reserve for product returns or a product warranty liability. As of June 30, 2007, management has concluded that neither a reserve for product returns nor a warranty liability is required.
 
Accounts receivable are reviewed for collectibility. When management determines a potential collection problem, a reserve is established, based on management’s estimate of the potential bad debt. When management abandons all collection efforts it will directly write off the account and adjust the reserve accordingly.
 
Management Estimates
 
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
 
Stock-Based Compensation
 
The Company periodically issues stock options and warrants to employees and non-employees in non-capital raising transactions for services and for financing costs. The Company adopted Statement of Financial Accounting Standards (SFAS) No. 123R effective January 1, 2006, and is using the modified prospective method in which compensation cost is recognized beginning with the effective date (a) based on the requirements of SFAS No. 123R for all share-based payments granted after the effective date and (b) based on the requirements of SFAS No. 123R for all awards granted to employees prior to the effective date of SFAS No. 123R that remain unvested on the effective date. The Company accounts for stock option and warrant grants issued and vesting to non-employees in accordance with EITF No. 96-18: "Accounting for Equity Instruments that are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or Services” and EITF 00-18 “Accounting Recognition for Certain Transactions involving Equity Instruments Granted to Other Than Employees” whereas the value of the stock compensation is based upon the measurement date as determined at either a) the date at which a performance commitment is reached, or b) at the date at which the necessary performance to earn the equity instruments is complete
 
9
 
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
 
The Company recognizes compensation cost for equity-based compensation for all new or modified grants issued after December 31, 2005. In addition, commencing January 1, 2006, the Company recognized the unvested portion of the grant date fair value of awards issued prior to adoption of SFAS No. 123R based on the fair values previously calculated for disclosure purposes over the remaining vesting period of the outstanding stock options and warrants.
 
 
Basic loss per share is calculated by dividing net loss available to common stockholders by the weighted average number of common shares outstanding during the period. Weighted average number of shares outstanding have been retroactively restated for the equivalent number of shares received by the accounting acquirer as a result of the exchange transaction as if these shares had been outstanding as of the beginning of the earliest period presented. The 4,166,378 shares issued to the legal acquirer are in included in the weighted average share calculation from May 12, 2006, the date of the exchange agreement.
 
Diluted loss per share is calculated assuming the issuance of common shares, if dilutive, resulting from the exercise of stock options and warrants. At June 30, 2007 and 2006, potentially dilutive securities consisted of outstanding common stock purchase warrants and stock options to acquire an aggregate of 41,698,449 and 11,266,429 shares, respectively. Since we reported a net loss for the three and six months ended June 30, 2007 and 2006, these potentially dilutive common shares were excluded from the diluted loss per share calculation because they were anti-dilutive.
 
Accounting for Derivative Instruments
 
Statement of Financial Accounting Standard (“SFAS”) No. 133, “Accounting for Derivative Instruments and Hedging Activities,” as amended, requires all derivatives to be recorded on the balance sheet at fair value. In September 2000, the Emerging Issues Task Force (“EITF”) issued EITF 00-19, “Accounting for Derivative Financial Instruments Indexed to and Potentially Settled in, a Company’s Own Stock,” (“EITF 00-19”) which requires freestanding contracts that are settled in a company’s own stock, including common stock warrants, to be designated as an equity instrument, asset or a liability. Under the provisions of EITF 00-19, a contract designated as an asset or a liability must be carried at fair value on a company’s balance sheet, with any changes in fair value recorded in the company’s results of operations. These derivatives, including embedded derivatives in the debentures issued in April and May 2007, are separately valued and accounted for on our balance sheet, and revalued at each reporting period. The net change in the value of embedded derivative liability is recorded as change in fair value of derivative liability in the consolidated statement of operations, included in other income.
 
Adoption of New Accounting Policy
 
Effective January 1, 2007, the Company adopted Financial Accounting Standards Board Interpretation No. 48, Accounting for Uncertainty in Income Taxes (“FIN 48”). —an interpretation of FASB Statement No. 109, Accounting for Income Taxes. The Interpretation addresses the determination of whether tax benefits claimed or expected to be claimed on a tax return should be recorded in the financial statements. Under FIN 48, we may recognize the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial statements from such a position should be measured based on the largest benefit that has a greater than fifty percent likelihood of being realized upon ultimate settlement. FIN 48 also provides guidance on derecognition, classification, interest and penalties on income taxes, accounting in interim periods and requires increased disclosures. At the date of adoption, and as of June 30, 2007, the Company does not have a liability for unrecognized tax benefits.
 
10
 
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
 
The Company files income tax returns in the U.S. federal jurisdiction and various states. The Company is subject to U.S. federal or state income tax examinations by tax authorities for years after 2002. During the periods open to examination, the Company has net operating loss and tax credit carry forwards for U.S. federal and state tax purposes that have attributes from closed periods. Since these NOLs and tax credit carry forwards may be utilized in future periods, they remain subject to examination.
 
The Company’s policy is to record interest and penalties on uncertain tax provisions as income tax expense. As of June 30, 2007, the Company has no accrued interest or penalties related to uncertain tax positions.
 
Recent Accounting Pronouncements
 
In September 2006, the Financial Accounting Standards Board ("FASB") issued SFAS No. 157, "Fair Value Measurements" ("SFAS No. 157"), which establishes a formal framework for measuring fair value under GAAP. SFAS No. 157 defines and codifies the many definitions of fair value included among various other authoritative literature, clarifies and, in some instances, expands on the guidance for implementing fair value measurements, and increases the level of disclosure required for fair value measurements.
 
Although SFAS No. 157 applies to and amends the provisions of existing FASB and AICPA pronouncements, it does not, of itself, require any new fair value measurements, nor does it establish valuation standards. SFAS No. 157 applies to all other accounting pronouncements requiring or permitting fair value measurements, except for: SFAS No. 123(R), share-based payment and related pronouncements, the practicability exceptions to fair value determinations allowed by various other authoritative pronouncements, and AICPA Statements of Position 97-2 and 98-9 that deal with software revenue recognition. SFAS No. 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years.
 
In February 2007, the Financial Accounting Standards Board (FASB) issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities  — Including an amendment of FASB Statement No. 115” (SFAS 159).  SFAS 159, which becomes effective for the company on January 1, 2008, permits companies to choose to measure many financial instruments and certain other items at fair value and report unrealized gains and losses in earnings. Such accounting is optional and is generally to be applied instrument by instrument. The company does not anticipate that election, if any, of this fair-value option will have a material effect on its consolidated financial condition, results of operations, cash flows or disclosures.
 
 
Inventory consists of the following:
 
 
  
June 30, 2007
(Unaudited)
  
December 31,
2006
  
Raw materials
  
$
519,670
  
$
552,521
  
Work in process
    
36,503
    
12,177
  
Reserve for slow moving and obsolescence
    
(1,623
)
  
(14,043
)
 
          
 
  
$
554,550
  
$
550,655
  
 
11
 
NOTE 4 - PROPERTY AND EQUIPMENT
 
Property and equipment consist of the following:
 
  
  
June 30, 2007 (Unaudited)
  
December 31,
2006
  
Useful
Lives
  
Computer software
  
$
66,932
  
$
66,932
    
3 years
  
Furniture and fixtures
    
123,222
    
121,558
    
6 years
  
Computer equipment
    
154,316
    
146,000
    
3 years
  
Office equipment
    
69,362
    
69,362
    
6 years
  
Lab and manufacturing equipment
    
5,014,407
    
4,964,608
    
6 years
  
Leasehold improvements
    
3,873,079
    
3,869,656
    
14 years
  
 
    
9,301,318
    
9,238,116
      
Less accumulated depreciation and amortization
    
(5,707,072
)
  
(5,276,320
)
    
 
              
Property and equipment, net
  
$
3,594,246
  
$
3,961,796
      
 
Depreciation and amortization expense related to property and equipment amounted to $430,789 and $600,688, respectively for the six months ended June 30, 2007 and 2006.

12
 
 
As of December 31, 2006, notes payable consist of the following:
 
 
  
Loan
Balance
  
 Loan
Discount
  
 Current
Portion
  
 Non-current
Portion
  
Senior Secured Notes  (a)
  
$
729,518
  
$
(367,923
)
$
361,595
  
$
--
  
Subordinated Secured Convertible Notes  (b)
    
1,280,000
    
(136,267
)
  
363,800
    
779,933
  
Finisar Secured Note (c)
    
5,927,298
    
--
    
309,042
    
5,618,256
  
   
$
7,936,816
  
$
(504,190
)
$
1,034,437
  
$
6,398,189
  
 
 
 
 
As of June 30, 2007 notes payable consist of the following (Unaudited):
 
  
  
Loan
Balance  
  
Loan
discount  
  
Current
portion  
  
Noncurrent
Portion  
  
Senior Secured Notes  (a)
  
$
--
  
$
--
  
$
--
  
$
--
  
Subordinated Secured Convertible Notes  (b)
    
230,000
    
(17,490
)
  
188,508
    
24,002
  
Finisar Secured Note (c)
    
5,776,514
    
--
    
324,357
    
5,452,157
  
Secured Equipment Financing (d)
    
461,923
    
--
    
126,835
    
335,088
  
April Secured Debentures (e)
   
7,976,146
    
(7,145,298
)
  
--
    
830,848
  
May Secured Debentures (f)
   
10,554,500
    
(10,114,729
)
  
--
    
439,771
  
   
$
24,999,083
  
$
(17,277,517
)
$
639,700
  
$
7,081,866
  
 
(a)
Senior Secured Notes Payable
 
During 2004, the Company issued $3,250,000 of notes payable to Investors. The term of the notes are 24 months, bearing interest at 10% per annum, with no principal and interest payments required for the initial 3 months. The remaining 21 months required principal and interest payments sufficient to pay the loan in full at the end of 24 months. The notes are secured by all of the assets of the Company, including its intellectual property. The note holders received one warrant for every $1.33 of principal, with each warrant being exerciseable into one share of common stock at $3.75 per share. The warrants are immediately vested and have a six year term. The Company determined there was no accounting value to be assigned to the warrants at the date of issuance, based a calculation using an option pricing model. In January 2006, we adjusted the exercise price of 2,325,000 of these warrants to $1.25. The Company recorded the difference in the value of the warrants immediately prior to the modification and the value of the warrants following modification of $744,000 as additional loan discount to be amortized over the remaining life of the loan. Interest expense includes $218,824 related to the amortization of this discount during the six months ended June 30, 2007. Of the total notes above, $2,500,000 was subscribed to by a limited partnership of which an officer of the Company is an owner, of which there was no outstanding balance as of June 30, 2007.
 
13
 
NOTE 5 - NOTES PAYABLE  (CONTINUED)
 
In addition, warrants to purchase 840,000 shares of common stock were issued to the five note holders who elected to defer principal payments on their loans. The warrants were valued at $0.71 a warrant or $596,400, using an option pricing model and were reflected as a loan discount amount, which is netted against the loan principal balance. The assumptions used in the model were: risk free interest rate, 4.41%, expected life, 4.66 years, expected volatility, 70%, no expected dividends. The loan discount fee is being amortized over the remaining life of the loan. Interest expense includes $149,100 and $178,920 related to the amortization of this discount during the six months ended June 30, 2007 and June 30, 2006 respectively. The effective interest rate on these loans, giving effect for the modified terms and the loan discount is 24.4%. 
 
During 2005, five of the seven note holders agreed to modify the terms of their notes. The modifications include deferring principal payments from April 2005 to March 2006, thereafter principal payments are due until the notes are fully paid in May 2007. During April 2007, four of the note holders converted the remaining principal balance of their notes into the April 2007 Debentures (see (e) below), and the remaining balance was paid off. The total amount of principal converted into the April 2007 debentures was $554,631. As of June 30, 2007, there is no balance due on the Senior Secured Notes Payable.
 
 (b)
Subordinated Secured Convertible Notes Payable
 
During 2005, the Company issued $1,280,000 of subordinated, secured notes to nine note holders. The terms of the notes include interest only payments for 24 months, thereafter the loans will be paid in full over the next twelve months. The loans are secured by all the assets of the Company but take a secondary position to the Senior Secured Notes. The interest rate on the loans is 10% per annum. The loans, at the option of the note holder, may be extended an additional three years, with the same terms as the original three year period. If the note holders elect to extend the loan, they will receive additional warrants to purchase 26,666 shares of the Company’s common stock for every $100,000 loaned to the Company. The conversion feature which is in effect during the time the loan is outstanding, allows the note holder to convert outstanding principal and interest into common stock at a conversion price of $3.75. The conversion price is subject to downward revision upon the occurrence of certain stock offerings. The downward revision is subject to a floor of $0.90 and allows the note holder to convert at the price of the most recent stock offering. The conversion price was reduced to $1.25 in December 2005, and reduced to $1.05 in April 2007. During April 2007, six of the note holders converted the remaining principal balance of their notes into the April 2007 Debentures (see (e) below).
 
The Company issued warrants to purchase 320,000 shares of the Company’s common stock in connection with this debt offering during 2005. The warrants were valued at $0.73 a warrant or $233,600, using an option pricing model and are reflected as a loan discount amount, which has been netted against the loan principal balance. The assumptions used in the model were: risk free interest rate, 4.41%, expected life, 5 years, expected volatility, 70%, no expected dividends. The loan discount fee is being amortized over the life of the loan. Interest expense includes $166,636 and $38,934 relating to the amortization of this discount during the six months ending June 30, 2007 and June 30, 2006. The effective interest rate on these loans, giving effect for the modified terms and the loan discount is 22%.
 
In April 2007, the exercise price of the warrants was reduced to $1.05 per the terms of the warrants as a result of the April 2007 Debenture offering. As a result of the $0.20 warrant exercise price reduction provided to the note holders, the Company recorded a charge to operations during the three months ended June 30, 2007 for the aggregate fair value of such exercise price reductions of $22,845 relating to the warrants held by the Subordinated Secured Convertible Notes Payable holders in April 2007.  This amount was calculated by determining the difference between the fair value of the warrants held by the subordinated notes payable note holders, based on a comparison of updated Black-Scholes calculations using the original $1.25 exercise price and the reduced $1.05 exercise price.  The Company utilized revised Black-Scholes input metrics to reflect updated changes, in particular to estimated life and volatility.  The result was that the Black-Scholes value of these warrants was $0.67, based on the original $1.25 exercise price, as compared to a Black-Scholes value of $0.74, based on the reduced exercise price of $1.05.  This charge to operations was presented as reduction in exercise price of warrants and was included in other income (expense) in the statement of operations.
 
14
 
NOTE 5 - NOTES PAYABLE  (CONTINUED)
 
The Company has analyzed the terms of the conversion feature and warrants issued to the note holders and has determined that such features do not give rise to an embedded derivative as defined by SFAS 133 and EITF 00-19 as the instruments are not derivative liabilities based on the analysis, principally because they are convertible into unregistered common shares , the Company has sufficient authorized shares available for conversion , there is a fixed maximum shares that required to be issued and there are no provisions that could require a net cash settlement.
 
(c)
Finisar Senior Secured Note 
 
During the year ended December 31, 2006, an agreement between Finisar and QPC to terminate the License Agreement dated September 18, 2003 became effective. In consideration of the termination of the license, the Company issued Finisar a $6 million promissory note. Payment terms of the note require that $1,000,000 of the principal, together with interest thereon payable at the rate of 9.7% per annum, be paid in thirty-six monthly installments, commencing on October 18, 2006. The remaining $5,000,000 of the principal shall be paid in full on September 18, 2009 and accrues interest at the rate of 9.7% per annum payable in arrears, on the 18th day of each calendar month commencing on October 18, 2006. The note is secured by substantially all of our assets and is subject to an inter-creditor agreement with the senior secured note holders (see paragraph (a) above).
 
(d)
Secured Equipment Financing
 
On February 8, 2007, the Company completed a secured equipment lease financing transaction with a financing company. The Company sold and leased back certain manufacturing equipment that had been purchased by the Company between July and December 2006. The gross amount of the loan was $500,000. Repayments under the loan require a monthly payment of $21,990 for the first 30 months, $4,850 for the next 30 months, and then an option to extend for an additional 60 months for $2,800 per month. Additionally, at the end of the end of the first 60 payments, the Company has the option of acquiring the equipment at the greater of 20% of the original cost ($100,000) or fair market value at the time.
 
The Company has determined that the substance of this lease was a financing transaction and reflected the amount payable to the lender as a secured debt in the accompanying financial statements. The Company calculated the interest rate implicit in the lease based on the stream of payments over the first 60 months of the lease, at which time management estimates they would exercise the purchase option for $100,000. As such, the interest rate implicit in the lease was calculated to be 33.5%. The Company is allocating its payments to principal and interest based upon this payment stream and implicit interest rate. The Company further determined that as the gross proceeds of the loan approximated the net book value of the assets on the date of the agreement, and no gain was recognized.
 
In accordance with the lease, the Company paid a security deposit of $125,000 that has been classified as other assets in the accompanying balance sheet that is secured by certain manufacturing equipment purchased by the company between July and December 2006.
 
(e)
April Secured Debentures
 
Between April 16 and April 19, 2007, the Company entered into securities purchase agreements with certain investors, pursuant to which the Company issued the investors secured convertible debentures (the “April Secured Debentures”) in the aggregate principal amount of $7,976,146 at an original issue discount of 10%. The April Secured Debentures have a term of 2 years and pay interest at the rate of 10% per annum, and are secured by all of our shares in Quintessence Photonics Corporation, the operating subsidiary which owns all of our operating assets. The April Secured Debentures are convertible into shares of the Company’s common stock at an initial conversion price of $1.05 per share, subject to adjustments as set forth therein and any applicable Milestone Adjustments. The initial fair value of this conversion feature was approximately $4,738,682 using a complex Binomial Lattice pricing model using the assumptions provided below.
 
15
 
NOTE 5 - NOTES PAYABLE  (CONTINUED)
 
The purchase price consisted of (i) $ 5,013,900 in cash, (ii) conversion of outstanding notes in the aggregate principal amount of $1,604,631 which were exchanged for debentures, (iii) promissory notes for the aggregate principal sum of $100,000 payable to the Company, that are due in 30 days and (iv) promissory notes for the aggregate principal sum of $460,000 payable to the Company, that are due in 45 days. The Company paid the following fees (including fees for advisors, placement agents and finders) in connection with the financing: (i) $404,068 in cash, (ii) warrants to purchase up to 212,796 shares of common stock valued at $188,750, and (iii) 100,000 shares of common stock valued at $135,000.
 
At June 30, 2007, $350,000 of such funds have not yet been collected by the company and have been reflected in other receivables in the accompanying balance sheet as of June 30, 2007.
 
In connection with the April 2007 Debenture Offering, we granted warrants to purchase 11,394,494 shares of common stock to certain investors and warrants to purchase 212,796 shares of common stock to the dealers in that offering. The above warrants have an initial exercise price of $1.05 per share, subject to adjustments as set forth therein and any applicable Milestone Adjustments, and expire five years from the date of issuance. The aggregate purchase price for the April Secured Debentures and the warrants issued in connection with the April 2007 Debenture Offering was $ 7,178,531. The initial fair value of the investor warrants was estimated at approximately $10,112,590 using a complex Binomial Lattice pricing model suitable to value path dependent American options. The significant assumptions used in the model are as follows: (1) dividend yield of 0%; (2) expected volatility of 63%, (3) risk-free interest rate of 4.64%, and (4) expected life of 5 years, and (5) the probability of the occurrence of certain factors impacting the future fair value due to possible adjustment.
 
The aggregate fair value of the conversion feature and the investor warrants was $14,851,272 on the date of issuance. The value of the compound embedded derivative up to the $7,178,531 carrying amount of the loan is reflected as a loan discount which has been netted against principal balance, to be amortized over the term of the loan. Interest expense includes $830,849 related to the amortization of this discount during the six months ended June 30, 2007. The excess $7,672,741 fair value of the embedded derivative was charged to private placement costs during the three months ended June 30, 2007.
 
See Note 6 for a description of the compound embedded derivative.
 
(f)
May Secured Debentures
 
On May 22, 2007, the Company entered into securities purchase agreements with certain investors (the “May Investors”), pursuant to which the Company issued the May Investors secured convertible debentures (the “May Secured Debentures” and collectively with the April Secured Debentures, the “Secured Debentures”) in the aggregate principal amount of $10,554,500 at an original issue discount of 10%. The May Secured Debentures have a term of 2 years and pay interest at the rate of 10% per annum, and are secured by all of our shares in Quintessence Photonics Corporation, the operating subsidiary which owns all of our operating assets. The May Secured Debentures are convertible into shares of the Company’s common stock at an initial conversion price of $1.05 per share, subject to adjustments as set forth therein and any applicable Milestone Adjustments. The initial fair value of this beneficial conversion feature was approximately $4,974,818 using a complex Binomial Lattice pricing model using the assumptions provided below. The Company paid the following fees (including fees for advisors, placement agents and finders) in connection with the May 2007 Debenture Offering: (i) $795,000 in cash, and (ii) warrants to purchase up to 2,571,171 shares of common stock valued at $1,907,809.

16
 
NOTE 5 - NOTES PAYABLE  (CONTINUED)
 
In connection with the May 2007 Debenture Offering, we granted warrants to purchase 15,077,857 shares of common stock to the May Investors and warrants to purchase 2,571,171 shares of common stock to the dealers in that offering. All of the above warrants have an initial exercise price of $1.05 per share, subject to adjustments as set forth therein and any applicable Milestone Adjustments, and expire five years from the date of issuance. The aggregate purchase price for the May Secured Debentures and the warrants issued in connection with the May 2007 Debenture Offering was $9,500,000 paid in cash.  The initial fair value of the investor warrants was estimated at approximately $11,182,902 using a complex Binomial Lattice pricing model suitable to value path dependent American options. The significant assumptions used in the model are as follows: (1) dividend yield of 0%, (2) expected volatility of 63%, (3) risk-free interest rate of 4.82%, and (4) expected life of 5 years , and (5) the probability of the occurrence of certain factors impacting the future fair value due to possible adjustment.
 
The aggregate fair value of the beneficial conversion feature and the investor warrants was $16,157,720 on the date of issuance. The value of the compound embedded derivative up to the $9,500,000 carrying amount of the loan is reflected as a loan discount which has been netted against principal balance, to be amortized over the term of the loan. Interest expense includes $439,771 related to the amortization of this discount during the six months ended June 30, 2007. The excess $6,657,720 fair value of the embedded derivative was charged to private placement costs during the three months ended June 30, 2007.
 
See Note 6 for a description of the compound embedded derivative.
 
The Secured Debentures issued in April and May 2007 are secured by all of our shares in Quintessence Photonics Corporation, the operating subsidiary which owns all of our operating assets.
 
NOTE 6 - COMPOUND EMBEDDED DERIVATIVE
 
Between April 16 and April 19, 2007, the Company entered into securities purchase agreements with certain investors, pursuant to which the Company issued the investors secured convertible debentures (the “April Secured Debentures”) in the aggregate principal amount of $7,976,146 at an original issue discount of 10% (the “April 2007 Debenture Offering”). On May 22, 2007, the Company entered into securities purchase agreements with certain investors (the “May Investors”), pursuant to which the Company issued the May Investors secured convertible debentures (the “May Secured Debentures” and collectively with the April Secured Debentures, the “Secured Debentures”) in the aggregate principal amount of $10,554,500 at an original issue discount of 10% (the “May 2007 Debenture Offering”). The April Secured Debentures and the May Secured Debentures have a term of 2 years and pay interest at the rate of 10% per annum. The April Secured Debentures and the May Secured Debentures are convertible into shares of the Company’s common stock at an initial conversion price of $1.05 per share, subject to adjustments as set forth therein and any applicable Milestone Adjustments. The market price of our common stock on April 16, 2007 and May 29, 2007 was $1.35 and $1.18 per share, respectively.
 
The conversion price of the Secured Debentures may be adjusted downwards if the Company fails to meet certain revenue milestones for any one or more of the following periods (“Milestone Adjustments”):
 
 
o
$5,000,000 in revenues for the nine (9) month period ending September 30, 2007,
 
o
$7,750,000 in revenues for the twelve (12) month period ending December 31, 2007
 
o
$6,000,000 in revenues for the six (6) month period ending June 30, 2008.
 
17
 
NOTE 6 - COMPOUND EMBEDDED DERIVATIVE (CONTINUED)
 
If a Milestone Adjustment occurs the conversion price will be the lower of $1.05 or the market price as determined on the date that is five trading days after the Company files its next Form 10-Q with the SEC following the applicable Milestone period. Any Milestone Adjustment is permanent notwithstanding any future revenue or achievement of any other milestones. Any Milestone Adjustment may only adjust the conversion price downward. The Secured Debentures are subject to a conversion cap which limits the number of shares issuable upon conversion of the Secured Debentures. The number of shares currently issuable upon conversion of the Secured Debentures is at the maximum level permitted by the conversion cap. Consequently, if a Milestone Adjustment occurs, the Secured Debenture holders will not acquire additional shares upon conversion. The Company, however, will be obligated to redeem that portion of the Secured Debenture that can not be converted into common stock.

In connection with the April 2007 Debenture Offering, we granted warrants to purchase 11,394,494 shares of common stock to certain investors and warrants to purchase 212,796 shares of common stock to the dealers in that offering. In connection with the May 2007 Debenture Offering, we granted warrants to purchase 15,077,857 shares of common stock to the May Investors and warrants to purchase 2,571,171 shares of common stock to the dealers in that offering. All of the above warrants have an initial exercise price of $1.05 per share, subject to adjustments as set forth therein and any applicable Milestone Adjustments, and expire five years from the date of issuance.
 
EITF 05-02 requires that instruments provide holders with an option to convert into a fixed number of shares (or an equivalent amount of cash at the discretion of the issuer) in order to be treated as conventional convertible securities. The Company determined that the Secured Debentures were not eligible for treatment as conventional convertible securities because the conversion price is subject to milestone adjustments
 
The Company then compared the terms of the debentures to the content of EITF 00-19. Per EITF 00-19, contracts that include any provision that could require net-cash settlement cannot be accounted for as equity of the company (that is, asset or liability classification is required for those contracts). Based on our review we determined that the since the debentures require a net cash settlement in the event that the conversion price is reduced, the conversion feature requires bifurcation and is a derivative.
 
We performed the same analysis on the warrants, and determined that an event of default as described in the Warrants would trigger a mandatory redemption and cash payment. The mandatory redemption amount is payable in cash or cash equivalent within five business days of the date of the applicable default notice. Since these circumstances would require a net cash settlement, under EITF 00-19 they are treated as a derivative .
 
We concluded that both the debentures conversion features and the detached warrants should be accounted for as a compound embedded derivative and had a valuation performed which concluded that the value of these features value exceeded the value if the funds raised. See Note 5 for a description of the assumptions used in the complex binomial lattice pricing model to determine the fair value of the compound embedded derivative.
 
We recorded the fair value of the compound embedded derivative as a liability on the date of issuance. The value of the compound embedded derivative relating to the April Secured Debentures was $15,040,022 on April 16, 2007. The value of the compound embedded derivative relating to the May Secured Debentures was $18,065,529 on May 29, 2007. The value of the compound embedded derivative up to the face amount of debentures was reflected as a loan discount to be amortized over the two year term of the debentures, and the excess $16,427,020 is reflected as a private placement cost during the six months ended June 30, 2007 in the accompanying statement of operations. These derivatives are separately valued and accounted for on our balance sheet, and revalued at each reporting period. The net change in the value of embedded derivative liability is recorded as income or loss on derivative instruments in the consolidated statement of operations, included in other income. Change in fair value of embedded derivative liability was $20,054,927 for the three and six months ended June 30, 2007 principally due to the reduction in market price of the Company’s common stock. The Company concluded the accounting in the balance sheet and income statement is in accordance with existing Generally Accepted Accounting Principles.
 
18
 
NOTE 7 - STOCK OPTIONS AND WARRANTS
 
A summary of option activity as of June 30, 2007 and changes during the six months then ended is presented below:

Options
   
Shares
 
 
Weighted-Average
Exercise Price
 
 
Weighted-Average
Remaining Contractual
Term (Years)
 
 
Aggregate
Intrinsic
Value
  
Outstanding at January 1, 2007
    
3,541,083
  
$
0.83
              
Granted
    
507,083
  
$
1.21
              
Exercised
    
--
                    
Forfeited or expired
    
(62,500
)
                  
Outstanding at June 30, 2007
    
3,985,666
  
$
0.87
    
7.47
  
$
630,660
  
Exercisable at June 30, 2007
    
2,361,569
  
$
0.56
    
7.05
  
$
630,660
  
 
For the six months ended June 30, 2007 and 2006, the value of options vesting during the period was $215,758 and $74,395 respectively, and has been reflected as compensation cost. As of June 30, 2007, the Company has unvested options of $2,366,928 which will be reflected as compensation cost in future periods as the options vest.
 
The Company calculates the fair value of employee stock options using a Black-Scholes option pricing model at the time the stock options are granted and that amount is amortized over the vesting period of the options, which is generally four years. The fair value for employee stock options for the three and six months ended June 30, 2007 and 2006 was calculated based on the following assumptions: an average risk-free interest rate for the period of 4.65%; dividend yield of 0%; volatility factor of 63% to 70%; and a weighted average expected life of the options of 7 years. The expected term was determined using the “shortcut method” described in Staff Accounting Bulletin Topic 14.D.2, which is based on a calculation to arrive at the midpoint between the vesting date and the end of the contractual term. The risk-free interest rate was based on the applied yield currently available on U.S treasury zero-coupon issues. The expected weighted-average volatility factor is based on the historical stock prices of competitors of the Company whose shares are publicly traded over the most recent period.
 
A summary of the Company’s warrant activity for the six months ended June 30, 2007 follows:
 
    
Number of Warrants 
  
 
      
Warrants outstanding at January 1, 2007
    
8,456,464
  
Granted
    
29,256,319
  
Exercised
    
-
  
Cancelled
    
-
  
 
        
Warrants outstanding at June 30, 2007
    
37,712,783
  
 
See Notes 5 and 6 for a description of the warrants issued during the six months ended June 30, 2007.
 
19
 
NOTE 8 - INCOME TAXES
 
At December 31, 2006, the Company had available Federal and state net operating loss carryforwards to reduce future taxable income. The amounts available were approximately $33,000,000 for Federal and for state purposes. The Federal carryforward expires in 2026 and the state carryforward expires in 2016. Given the Company’s history of net operating losses, management has determined that it is more likely than not the Company will not be able to realize the tax benefit of the carryforwards. Accordingly, the Company has not recognized a deferred tax asset for this benefit. Upon the attainment of taxable income by the Company, management will assess the likelihood of realizing the tax benefit associated with the use of the carryforwards will recognize a deferred tax asset at that time.
 
 
20
 
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
THE FOLLOWING DISCUSSION AND ANALYSIS SHOULD BE READ TOGETHER WITH THE CONSOLIDATED FINANCIAL STATEMENTS OF QPC LASERS, INC. AND THE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS INCLUDED ELSEWHERE IN THIS REPORT ON FORM 10-QSB. THIS DISCUSSION SUMMARIZES THE SIGNIFICANT FACTORS AFFECTING OUR OPERATING RESULTS, FINANCIAL CONDITIONS AND LIQUIDITY AND CASH-FLOW FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2006 AND 2007. THIS DISCUSSION CONTAINS FORWARD LOOKING STATEMENTS THAT INVOLVE RISKS AND UNCERTAINTIES AND ARE BASED ON JUDGMENTS CONCERNING VARIOUS FACTORS THAT ARE BEYOND OUR CONTROL. OUR ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THOSE ANTICIPATED IN THESE FORWARD-LOOKING STATEMENTS AS A RESULT OF VARIOUS FACTORS, INCLUDING THOSE DISCUSSED BELOW AND ELSEWHERE IN THIS REPORT ON FORM 10-QSB, PARTICULARLY UNDER THE CAPTION "FORWARD LOOKING STATEMENTS."
 
FORWARD LOOKING STATEMENTS
 
 This Report contains statements that involve expectations, plans or intentions (such as those relating to future business or financial results, new features or services, or management strategies). These statements are forward-looking and are subject to risks and uncertainties, so actual results may vary materially. You can identify these forward-looking statements by words such as “may,” “should,” “expect,” “anticipate,” “believe,” “estimate,” “intend,” “plan” and other similar expressions. You should consider our forward-looking statements in light of the risks discussed under the heading “Factors That May Affect Future Performance” below, as well as our financial statements, related notes, and the other financial information appearing elsewhere in this Report and our other filings with the Commission. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of certain factors, including but not limited to those set forth under “Factors That May Affect Future Performance” and elsewhere in this Report on Form 10-QSB. Except as required by law or regulation, we assume no obligation to update any forward-looking statements.
 
Overview
 
Background
 
QPC Lasers, Inc. designs and manufactures laser diodes through its wholly-owned subsidiary, Quintessence Photonics Corporation (“Quintessence”). Quintessence was incorporated in November 2000 by Jeffrey Ungar, Ph.D. and George Lintz, MBA (our “Founders”). The Founders began as entrepreneurs in residence with DynaFund Ventures in Torrance, California and wrote the original business plan during their tenure at DynaFund Ventures from November 2000 to January 2001. The business plan drew on Dr. Ungar’s 17 years of experience in designing and manufacturing semiconductor lasers and Mr. Lintz’s 15 years of experience in finance and business; the primary objective was to build a state of the art wafer fabrication facility and hire a team of experts in the field of semiconductor laser design.
 
After operating as a private company for almost six years, on May 12, 2006 and June 13, 2006, the stockholders of Quintessence entered into Exchange Agreements with QPC in which all of the stockholders of Quintessence exchanged their shares, warrants and options for shares warrants and options of QPC. QPC was a public reporting company; and as a result of the Share Exchange, QPC was the surviving entity and is now a public reporting company. Our predecessor public company was incorporated in the State of Nevada on August 31, 2004 as Planning Force, Inc.
 
Our originally targeted market was fiber optic telecommunications. As it became clear within the first two years of operations that the telecommunication market was experiencing a slump, we investigated other markets that could benefit from our laser diode technology and decided to focus on industrial and medical applications, as well as the burgeoning defense/homeland security laser market.
 
We released our Generation I products in the second quarter of 2004, and released some of our Generation II products in the fourth quarter of 2005 through the second quarter of 2006. We expect to release some Generation III prototypes during calendar year 2007. Generation I and II products have been sold to customers in the medical, printing, and defense industries.
 
21
 
We were awarded four Phase I “Small Business Innovation Research” contracts; three of them have progressed to Phase II contracts. In general, these contracts are cancelable and in some cases include multiple phases associated with meeting technical milestones. In the second quarter of 2006, we signed a sub-contract with Telaris, Inc. as part of a team working on a project for the Defense Advance Research Project Agency (“DARPA”). Our portion of the DARPA contract is $3.1 million which is to be performed in two phases over three years. This contract funded development of semiconductor lasers to be used for directed energy weapons; the technology overlaps with our development of lasers for the industrial materials processing markets.  
 
In the second quarter of 2006, QPC was also awarded a subcontract with Fibertek, Inc. as part of a team working on a project for the United States Missile Defense Agency to develop lasers that emit mid-infrared wavelengths. Management believes these lasers may be used in systems designed to defend military and commercial aircraft against heat seeking missiles. We also believe that this effort will bring us closer to creating a compact and affordable system for detection of biochemical agents in public places. The contract is a Phase III follow-on contract from an earlier contract that QPC completed which demonstrated the early phases of feasibility of our technology. Our portion of this Phase III contract is $800,000 and is to be performed over twelve months through June 2007. As of June 30, 2007, we have recognized $760,000 of revenue from this contract.
 
 The United States Army Research Laboratory awarded us a Phase II development contract in the first quarter of 2006 and we began performing under this contract in the second quarter of 2006. The contract is a follow-on contract from an earlier contract with the same customer in which QPC demonstrated its ability to develop diode lasers that emit wavelengths that are safer to the human eye than conventional high power diode wavelengths. Management believes that upon successful completion of the diode laser project, these lasers will be used in both military and commercial systems to limit accidental damage to human eyes of system operators, friendly forces, and bystanders. The Army contract amount is $673,028 and is to be performed by March 2008. As of June 30, 2007 we have recognized $541,348 of revenue from this contract.
 
In the second quarter of 2007, the United States Navy awarded QPC two contracts totaling $1 million to deliver high-energy laser engine prototypes for naval aviation directed energy weapons applications. The concurrent nine-month contracts build upon the Company’s previous high-brightness chip-based laser development for the U.S. Navy, as well as for the U.S. Defense Advanced Research Projects Agency (DARPA), the U.S. Army, the Missile Defense Agency, and the Israeli Ministry of Defense. As of June 30, 2007, we have recognized $509,645 of revenue from these contracts.
 
In addition to U.S. Government funds, we have received development funds from U.S. prime defense contractors as well as a major foreign military contractor. The funds that we have received and expect to receive are for development that overlaps with our commercial development.
 
In the medical laser market, QPC has received production orders and new product development orders from a large medical laser manufacturer. Other medical equipment manufacturers have also ordered from us. In the industrial market, QPC has received an order for development and production of optical sensing lasers.
 
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
 
Our discussion and analysis of our financial condition and results of operations are based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the U.S. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses for each period. The following represents a summary of our critical accounting policies, defined as those policies that we believe are the most important to the portrayal of our financial condition and results of operations and that require management's most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effects of matters that are inherently uncertain.
 
22
 
Impairment of Long-Lived Assets
 
On January 1, 2002, the Company adopted the provisions of Statement of Financial Accounting Standard (“SFAS”) No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” SFAS No. 144 addresses financial accounting and reporting for the disposal of long-lived assets and supersedes SFAS No. 121, “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of.” The adoption of this statement did not have a material effect on the Company’s results of operations or financial condition. Management regularly reviews property, equipment and other long-lived assets for possible impairment. This review occurs quarterly, or more frequently if events or changes in circumstances indicate the carrying amount of the asset may not be recoverable. If there is indication of impairment, then management prepares an estimate of future cash flows (undiscounted and without interest charges) expected to result from the use of the asset and its eventual disposition. If these cash flows are less than the carrying amount of the asset, an impairment loss is recognized to write down the asset to its estimated fair value. Management believes that the accounting estimate related to impairment of its property and equipment, is a “critical accounting estimate” because: (1) it is highly susceptible to change from period to period because it requires management to estimate fair value, which is based on assumptions about cash flows and discount rates; and (2) the impact that recognizing an impairment would have on the assets reported on our balance sheet, as well as net income, could be material. Management’s assumptions about cash flows and discount rates require significant judgment because actual revenues and expenses have fluctuated in the past and are expected to continue to do so.
 
Revenue Recognition
 
A portion of the Company’s revenues result from fixed-price contracts with U.S. government agencies. Revenues from fixed-price contracts are recognized under the percentage-of-completion method of accounting, generally based on costs incurred as a percentage of total estimated costs of individual contracts (“cost-to-cost method”). Revisions in contract revenue and cost estimates are reflected in the accounting period as they are identified. Provisions for the entire amount of estimated losses on uncompleted contracts are made in the period such losses are identified. No contracts were determined to be in an overall loss position at December 31, 2006 or June 30, 2007. In addition, the Company has certain cost plus fixed fee contracts with U.S. Government agencies that are being recorded as revenue is earned based on time and costs incurred. At December 31, 2006, there was no deferred revenue and approximately $42,692 of unbilled receivables related to these government contracts. At June 30, 2007, there was no deferred revenue and approximately $852,125 of unbilled receivables related to these government contracts.
 
The Company recognizes revenues on product sales, other than fixed-price contracts, based on the terms of the customer agreement. If the customer agreement does not have specific delivery or customer acceptance terms, revenue is recognized at the time of shipment of the product to the customer. Accounts receivable are reviewed for collectibility quarterly. When management determines that there is a potential collection problem, a reserve is established, based on management’s estimate of the potential bad debt. When management abandons all collection efforts it will write off the account and adjust the reserve accordingly.
 
Management Estimates
 
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
 
Stock Based Compensation
 
The Company periodically issues stock options and warrants to employees and non-employees in non-capital raising transactions for services and for financing costs. The Company adopted SFAS No. 123R effective January 1, 2006, and is using the modified prospective method in which compensation cost is recognized beginning with the effective date (a) based on the requirements of SFAS No. 123R for all share-based payments granted after the effective date and (b) based on the requirements of SFAS No. 123R for all awards granted to employees prior to the effective date of SFAS No. 123R that remain unvested on the effective date. The Company accounts for stock option and warrant grants issued and vesting to non-employees in accordance with EITF No. 96-18: "Accounting for Equity Instruments that are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or Services” and EITF 00-18 “Accounting Recognition for Certain Transactions involving Equity Instruments Granted to Other Than Employees” whereas the value of the stock compensation is based upon the measurement date as determined at either (a) the date at which a performance commitment is reached, or (b) at the date at which the necessary performance to earn the equity instruments is complete
 
23
 
Accounting for Derivative Instruments
 
Statement of Financial Accounting Standard (“SFAS”) No. 133, “Accounting for Derivative Instruments and Hedging Activities,” as amended, requires all derivatives to be recorded on the balance sheet at fair value. In September 2000, the Emerging Issues Task Force (“EITF”) issued EITF 00-19, “Accounting for Derivative Financial Instruments Indexed to and Potentially Settled in, a Company’s Own Stock,” (“EITF 00-19”) which requires freestanding contracts that are settled in a company’s own stock, including common stock warrants, to be designated as an equity instrument, asset or a liability. Under the provisions of EITF 00-19, a contract designated as an asset or a liability must be carried at fair value on a company’s balance sheet, with any changes in fair value recorded in the company’s results of operations. These derivatives, including embedded derivatives in the debentures issued in April and May 2007, are separately valued and accounted for on our balance sheet, and revalued at each reporting period. The net change in the value of embedded derivative liability is recorded as change in fair value of derivative liability in the consolidated statement of operations, included in other income.
 
QUARTER ENDED June 30, 2007 COMPARED TO THE QUARTER ENDED June 30, 2006
 
REVENUE. During the quarter ended June 30, 2007, QPC had revenue of $1,823,005 as compared to revenue of $577,346 during the quarter ended June 30, 2006, an increase of approximately 216%. This increase is attributable to an increase in both commercial sales and government contracts. We continue to increase our product offerings and expand our sales and marketing resources. We continued to perform and bill on government contracts awarded to us in prior periods and to ship to customers for orders placed in 2006. Additionally we were awarded two government contracts during the quarter ended June 30, 2007.
 
COST OF SALES. Cost of sales, which consists of direct labor, material costs and overhead, was $960,162 or 53% of revenue for the quarter ended June 30, 2007 as compared to $495,022 or 86% of revenue for the quarter ended June 30, 2006. As a percentage of revenue, cost of sales decreased as we recognized improved efficiencies as a result of allocating our fixed costs over a higher number of units, and achieved higher yields on direct materials and labor.
 
GROSS PROFIT. Gross profit was $862,843 for the quarter ended June 30, 2007 as compared to $82,324 for the quarter ended June 30, 2006, representing gross margins of approximately 47% and 14%, respectively. As mentioned above, the increase in our gross profits is attributable to increased efficiencies in our operations.
 
RESEARCH AND DEVELOPMENT COSTS. Research and development costs which consist of salaries, professional and technical support fees, material used by our research and development team and overhead, totaled $1,060,761 for the quarter ended June 30, 2007, as compared to $1,134,986 for the quarter ended June 30, 2006 a decrease of approximately 7%. The decrease in research and development costs is attributable to the shift of some of our resources from development resources to manufacturing as a result of increased orders for our products.
 
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses totaled $1,407,889 the quarter ended June 30, 2007, as compared to $2,498,459 for the quarter ended June 30, 2007, a decrease of approximately 44%. Of this decrease, $1,531,000 was due to non-cash investor relations expense for the issuance of common stock that occurred in the quarter ended June 30, 2006, partially off-set by an increase in selling and marketing costs of approximately $109,500, an increase of approximately $64,000 in employee stock option compensation , and increased legal and insurance fees. We expect these categories of expenses to increase in future quarters, based on anticipated growth of the Company.
 
24
 
OTHER INCOME AND EXPENSE. Other Income and Expense reflects the significant impact on our Statement of Operations of the transactions undertaken in connection with the sale of the Secured Debentures in April and May 2007. In those transactions, we sold Secured Debentures and warrants. The conversion feature and detached warrants have been bifurcated and are treated as embedded derivatives. As of the date of issuance, the value of such embedded derivative liabilities aggregated $33,105,551. However, because the price of our common stock was lower on June 30, 2006 than it was on the dates that the Secured Debentures and warrants were issued, the fair value of the embedded derivative liability declined by $20,054,927 which is treated as Other Income.
 
Effect of embedded derivative liability on the three months ended June 30, 2007
 
   
April Secured Debentures and Detached Warrants
  
May Secured Debentures and Detached Warrants
  
Total
  
Value of compound embedded derivative at issuance:
                   
Value of conversion feature
 
$
4,738,682
  
$
4,974,818
  
$
9,713,500
  
Value of detached warrants (investor warrants)
   
10,112,590
    
11,182,902
    
21,295,492
  
Value of detached warrants (issued to dealers)
    
188,750
    
1,907,809
    
2,096,559
  
Total Value of compound embedded derivative at issuance (April 16, 2007 and May 29, 2007
    
15,040,022
    
18,065,529
    
33,105,551
  
Total value of compound embedded derivative at June 30, 2007
   
5,220,043
    
7,830,581
    
13,050,624
  
Change in fair value of embedded derivative liability
   
9,819,979
    
10,234,948
    
20,054,927
  
 
Other Income also includes $46,233 of interest income during the three months ended June 30, 2007 compared to interest income of $6,463 during the three months ended June 30, 2006.
 
Other Income is offset by interest expense of $2,012,187 and $550,382 for the three months ended June 30, 2007 and June 30, 2006 respectively. Interest expense includes non-cash interest for the amortization of loan discount which was $1,517,100 for the second quarter 2007 compared to $240,221 for the second quarter 2006. This increase in loan discount amortization is due to the amortization of loan discount for the Secured Debentures which totaled $1,270,620 for the three months ended June 30, 2007.
 
Other Income is also offset by the placement costs associated with the sale of the Secured Debentures and warrants. Placement costs of $17,740,180 are included in Other Expense for the three months ended June 30, 2007 which includes $2,231,559 for the value of warrants and shares of common stock issued to placement agents, and $14,330,461 for the value of the conversion feature and warrants issued to investors in the Secured Debentures, and $1,178,160 fees paid to placement agents, finders and advisors.
 
NET LOSS. QPC had a net loss of $1,236,273 for the quarter ended June 30, 2007 as compared to a net loss of $4,385,299 for the quarter ended June 30, 2006. This reduction in net loss is due to an increase in gross profit together with a decrease in operating expenses and an increase in other income.
 
25
 
SIX MONTHS ENDED JUNE 30, 2007 COMPARED TO THE SIX MONTHS ENDED JUNE 30, 2006
 
REVENUE. During the six months ended June 30, 2007, the Company had revenue of $2,929,584 as compared to revenue of $842,910 during the six months ended June 30, 2006, an increase of approximately 248%. This increase is attributable to an increase in both commercial sales and government contract work which are a result of our expanded sales and marketing resources and our increase in released products. Additionally, we were awarded two government contracts for which we began to perform and bill.
 
COST OF SALES. Cost of sales, which consists of direct labor, material costs and overhead, was $1,815,943 or 62% of revenue for the six months ended June 30, 2007 as compared to $774,748 or 92% of revenue for the six months ended June 30, 2006. As a percentage of revenue, cost of sales decreased as we recognized improved efficiencies as a result of allocating our fixed costs over a higher number of units, and achieved higher yields on direct materials and labor.

GROSS PROFIT. Gross profit was $1,113,641 for the six months ended June 30, 2007 as compared to $68,162 for the six months ended June 30, 2006, representing gross margins of approximately 38% and 8%, respectively. Costs include non-recurring engineering expenses for custom orders and government contracts. As mentioned above, the increase in our gross profits is attributable to increased efficiencies in our operations, and the allocation of overhead costs to increased production units.  

RESEARCH AND DEVELOPMENT COSTS. Research and development costs which consist of salaries, professional and technical support fees, material and overhead, totaled $2,073,560 for the six months ended June 30, 2007, as compared to $2,258,778 for the six months ended June 30, 2006, a decrease of approximately 8%. While we expect to maintain our current level of research and development spending, we expect research and development spending to decrease as a percentage of revenue as our revenues increase.
 
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses totaled $2,624,413 for the six months ended June 30, 2007, as compared to $3,577,304 for the six months ended June 30, 2006, a decrease of approximately 27%. $1,531,000 of this expense in 2006 was a non-cash expense attributable to the fair value of shares issued to investor relations consultants. The decrease in non-cash investor relations expenses was partially offset by increased sales and marketing expenses, increased stock option compensation expense, legal and insurance fees.
 
OTHER INCOME AND EXPENSE. Other Income and Expense reflects the significant impact on our Statement of Operations of the transactions undertaken in connection with the sale of the Secured Debentures in April and May 2007. In those transactions, we sold Secured Debentures and warrants. The conversion feature and detached warrants have been bifurcated and are treated as embedded derivatives. As of the date of issuance, the value of such embedded derivative liabilities aggregated $33,105,551. However, because the price of our common stock was lower on June 30, 2006 than it was on the dates that the Secured Debentures and warrants were issued, the fair value of the embedded derivative liability declined by $20,054,927 which is treated as Other Income.
 
Other Income also includes $47,977 of interest income during the six months ended June 30, 2007 compared to interest income of $6,473 during the six months ended June 30, 2006. Other Income is offset by interest expense of $2,480,586 and $1,610,359 for the six months ended June 30, 2007 and June 30, 2006 respectively. Interest expense includes non-cash interest for the amortization of loan discount which was $1,757,320 for the six months ended June 30, 2007 compared to $636,242 for the six months ending June 30, 2006. This increase in loan discount amortization is due to the amortization of loan discount for the Secured Debentures which totaled $1,270,620 for the six months ended June 30, 2007. Interest expense during the six months ended June 30, 2006 also included $690,000 for the issuance of warrants as loan fees.
 
Other Income is also offset by the placement costs associated with the sale of the Secured Debentures and warrants. Placement costs of $17,740,180 are included in other expense for the six months ended June 30, 2007 which includes $16,562,020 for the value of the embedded derivatives including warrants issued to placement agents and shares of common stock issued to placement agents in excess of the face amount of the debentures.
 
26
 
NET LOSS. QPC had a net loss of $3,649,479 for the six months ended June 30, 2007 as compared to a net loss of $7,645,895 for the six months ended June 30, 2006. The decrease in net loss is primarily attributable in an increase in gross profit together with a decrease operating expenses and an increase in other income less other expenses.
 
Liquidity and Capital Resources
 
Overview
 
We continue to operate with a negative cash flow from operations, and depend upon external financing to maintain our operations. QPC lost $3,649,479 during the six months ended June 30, 2007 and has a cumulative deficit of $55,155,872 as of June 30, 2007. Our negative cash flow from operations during the six months ended June 30, 2007 was in excess of $800,000 per month. We currently anticipate that we will continue to have a negative cash flow from operations for at least the next 12 months. 
 
 
The purchase price consisted of (i) $ 5,013,900 in cash, (ii) outstanding notes in the aggregate principal amount of $1,604,631 which were exchanged for debentures, (iii) promissory notes for the aggregate principal sum of $100,000 payable to the Company, that are due in 30 days and (iv) promissory notes for the aggregate principal sum of $460,000 payable to the Company, that are due in 45 days. The Company paid the following fees (including fees for advisors, placement agents and finders) in connection with the financing: (i) $404,068 in cash, (ii) warrants to purchase up to 212,796 shares of common stock, and (iii) 100,000 shares of common stock.
 
In May 2007, we issued to certain investors additional secured convertible debentures in the aggregate principal amount of $10,554,500 at an original issue discount of 10%. These debentures are also convertible into shares of the Company’s common stock at an initial conversion price of $1.05 per share, subject to certain adjustments. In addition, the Company issued to the May Investors five year warrants to purchase up to 15,077,857 shares of common stock at an exercise price of $1.05, subject to certain adjustments. The aggregate purchase price for the debentures and warrants sold in May was $9,500,000 paid in cash. The Company paid the following fees (including fees for advisors, placement agents and finders) in connection with the May 2007 Debenture Offering: (i) $795,000 in cash, and (ii) warrants to purchase up to 2,571,171 shares of common stock.

The net cash proceeds to us from the April 2007 Debenture Offering and May 2007 Debenture Offering was approximately $13,900,000. Our negative cash flow in recent months has been approximately $800,000 a month. Accordingly, we currently expect such funds will be sufficient to meet our cash requirements until late 2008. However, our expectations may prove incorrect and we may need to raise additional funds. Moreover, if we do not generate positive cash flow from operations and we expend our current cash resources to meet our ongoing requirements, then we will not have sufficient cash to meet our debt obligations that mature in 2009. Those obligations are in excess of $25 million, and even if all of the Secured Debentures are converted our payment obligation on our outstanding debt in 2009 will be nearly $6 million. Unless most of the Secured Debentures convert prior to maturity, we will likely default on our obligations to the Secured Debentureholders unless we can raise additional funds through a new financing.
 
The Secured Debentures issued in April and May 2007 are secured by all of our shares in Quintessence Photonics Corporation, the operating subsidiary which owns all of our operating assets. In addition, all of our assets and intellectual property is pledged as collateral on certain indebtedness. As a result, it may be difficult or impossible for us to borrow money as we have no collateral to provide for any loan.
 
27
 
If we need to raise additional funds in the future, it is likely we will seek to issue additional equity securities. If we issue additional equity securities to raise funds, the ownership percentage of our existing stockholders would be reduced. New investors may demand rights, preferences or privileges senior to those of existing holders of common stock. If we cannot raise any needed funds, we might be forced to make substantial reductions in our operating expenses, which could adversely affect our ability to implement our current business plan and ultimately our viability as a company.
 
Our consolidated financial statements have been prepared assuming that the Company will continue as a going concern. The factors described above raise substantial doubt about our ability to continue as a going concern. Our consolidated financial statements do not include any adjustments that might result from this uncertainty. Our independent registered public accounting firm has included an explanatory paragraph expressing doubt about our ability to continue as a going concern in their audit report for the fiscal year ended December 31, 2006.
 
Current Debt Obligations
 
Our current obligations require us to make the following payments over the next five years including principal and interest:

Payments by Period
   
Remainder of 2007 
    
2008
 
 
2009
 
 
2010 and Beyond
  
Subordinated Secured Notes Payable
   
103,020
    
141,545
    
--
    
--
  
Finisar Secured Note Payable
   
435,607
    
871,214
    
5,653,408
    
--
  
Secured Equipment Financing
   
95,455
    
263,880
    
178,180
    
221,250
  
April Secured Debentures
   
398,807
    
797,615
    
8,275,251
    
--
  
May Secured Debentures
   
527,725
    
1,055,450
    
10,994,271
    
--
  
Total
 
$
1,560,614
  
$
3,129,704
  
$
25,101,110
  
$
221,250
  
 
On February 8, 2007, the Company completed a financing transaction with Boston Financial and Equity Corporation, a financing company that is secured by certain manufacturing equipment purchased by the company between July and December 2006. The gross amount of the loan was $500,000 and the Company paid a security deposit of $125,000 and first and last months payment of $43,980 upon closing for net proceeds of $331,020. Payments are to be made on the first of each calendar month for $21,990 through July 2009 and $4,850 through January 2012 consisting of principal and interest to pay off $400,000 of the loan by January 2012, with a final payment of the remaining $100,000 balance in January 2012. The effective interest rate of this note is 33.65%.
 
Capital Expenditures
 
From January 1, 2007 to June 30, 2007 we spent approximately $63,240 on manufacturing and computer equipment and leasehold improvements and furniture. We expect our capital expenditures to increase based on growth of our operations, and increased orders and personnel. We are considering expanding our manufacturing area by up to 10,000 square feet. Our facility has warehouse space that is contiguous to our present manufacturing area that we are considering using for the manufacturing area expansion. We expect that expansion, should we choose to proceed, to cost in the range of $1 million to $2 million.
 
Recent Accounting Pronouncements
 
In February 2006, the FASB issued SFAS 155 Accounting for Certain Hybrid Financial Instruments, an amendment of SFAS 133 and 140. These SFAS’s deal with derivative and hedging activities, accounting for transfers and servicing of financial instruments and extinguishment of liabilities. SFAS 155 is effective for all financial instruments acquired or issued in an entity’s first fiscal year beginning after September 15, 2006. The Company does not engage in the activities described in these SFAS’s and does not have any intention of engaging in those activities when SFAS 155 becomes effective. The Company is evaluating the impact the adoption of SFAS 155 will have to the Company's overall results of operations or financial position.
 
28
 
In September 2006, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 157, "Fair Value Measurements" ("SFAS No. 157"), which establishes a formal framework for measuring fair value under GAAP. SFAS No. 157 defines and codifies the many definitions of fair value included among various other authoritative literature, clarifies and, in some instances, expands on the guidance for implementing fair value measurements, and increases the level of disclosure required for fair value measurements.
 
Although SFAS No. 157 applies to and amends the provisions of existing FASB and AICPA pronouncements, it does not, of itself, require any new fair value measurements, nor does it establish valuation standards. SFAS No. 157 applies to all other accounting pronouncements requiring or permitting fair value measurements, except for: SFAS No. 123(R), share-based payment and related pronouncements, the practicability exceptions to fair value determinations allowed by various other authoritative pronouncements, and AICPA Statements of Position 97-2 and 98-9 that deal with software revenue recognition. SFAS No. 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years.
 
In February 2007, the Financial Accounting Standards Board (FASB) issued FASB Statement No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities  — Including an amendment of FASB Statement No. 115” (FAS 159).  FAS 159, which becomes effective for the company on January 1, 2008, permits companies to choose to measure many financial instruments and certain other items at fair value and report unrealized gains and losses in earnings. Such accounting is optional and is generally to be applied instrument by instrument. The company does not anticipate that election, if any, of this fair-value option will have a material effect on its (consolidated) financial condition, results of operations, cash flows or disclosures.
 
29
 
FACTORS THAT MAY AFFECT FUTURE PERFORMANCE
 
You should carefully consider the following risk factors, the other information included herein and the information included in our other reports and filings. Our business, financial condition, and the trading price of our common stock could be adversely affected by these and other risks.
 
RISKS OF THE BUSINESS [PLEASE UPDATE RISK FACTORS TO CONFORM WITH THE SB-2/A.
 
RISKS OF THE BUSINESS
 
Our consolidated financial statements have been prepared assuming that the Company will continue as a going concern. The factors described below raise substantial doubt about our ability to continue as a going concern. Our consolidated financial statements do not include any adjustments that might result from this uncertainty. Our independent registered public accounting firm has included an explanatory paragraph expressing doubt about our ability to continue as a going concern in their audit report for the fiscal year ended December 31, 2006.
 
We have relied upon outside financing to fund our operations. As a result, our ability to sustain and build our business has depended upon our ability to raise capital from investors and we do not know if we will be able to continue to raise sufficient funds from investors. We have operated on a negative cash flow basis since our inception and we have never earned a profit. We anticipate that we will continue to incur losses for at least the next 12 to 15 months and that we will continue to operate on a negative cash flow basis for at least the next 9 to 12 months.  We have financed our operations to date through the sale of stock, other securities and certain borrowings.
 
In April and May 2007 we received net proceeds of approximately $13,900,000 through the sale of Secured Debentures and common stock purchase warrants. We believe such funds will be sufficient to sustain our operations for the next 20 months based upon our current expectations. If such expectations prove incorrect, or if we continue to operate on a negative cash flow basis at the end of such period, then we will likely need to raise additional funds through the sale of securities.
 
If we raise additional funds through the issuance of equity securities, this may cause significant dilution of our common stock, and holders of the additional equity securities may have rights senior to those of the holders of our common stock. If we obtain additional financing by issuing debt securities, the terms of these securities could restrict or prevent us from paying dividends and could limit our flexibility in making business decisions.
 
We do not have sufficient revenues to service our debt. As of June 30, 2007, we had $24,999,083 of debt secured by our fixed assets and intellectual property. $7,976,146 accrues interest at a rate of 10% per annum and requires monthly interest payments until April 2009, when the balance is due in full; $10,554,500 accrues interest at a rate of 10% per annum and requires monthly interest payments until May 2009 when the balance is due in full; $230,000 debt accrues interest at a rate of 10% per annum and requires monthly payments until September 30, 2008; $5,776,514 of debt accrues interest at a rate of 10% per annum and requires monthly payments until September 18, 2009 at which time the balance of 5,031,872 is due and payable; and $461,923 accrues interest at a rate of 33.65% and requires monthly payments until January 2012. If we are unable to service our debt, our assets, including our patents and other intellectual property, may be subject to foreclosure. Accordingly, if the Secured Debentures are not converted we will default unless we are able to raise additional funds through the sale of new securities. It is our expectation that most or all of the Secured Debentures will be converted into shares of common stock. However, we can not predict how many Secured Debentures will be converted and, even if all the Secured Debentures are converted, we will still owe more than $5,800,000 in 2009. We do not currently have the ability to service this debt without obtaining additional cash resources. If our revenues fail to increase sufficiently, our debt service requirements may affect our working capital and, therefore, adversely affect our ability to operate our business. If we are unable to service our debt, our assets, including our patents and other intellectual property, may be subject to foreclosure and our common stock may become worthless.
 
30
 
We are an early stage company with a short operating history and limited revenues. We were formed in November 2000. Since that time, we have engaged in the formulation of a business strategy and the design and development of technologically advanced products. We have recorded limited revenues from various government-funded research programs, and we have generated only limited revenues from the sale of products. Our ability to implement a successful business plan remains unproven and no assurance can be given that we will ever generate sufficient revenues to sustain our business.
 
Our products are not proven. We are currently engaged in the design and development of laser diode products for certain medical, industrial and defense applications. Our first commercial sales occurred in 2004. Our most advanced technologies, including without limitation, our “Generation III” products, are in the design or prototype stage. While we have shipped Generation I and Generation II products, most of our products do not have an established commercial track record. We have received only a limited number of purchase orders for our products and we only have a limited number of contractual arrangements to sell our products.
 
We are dependent on our customers and vulnerable to their sales and production cycles. For the most part, we do not sell end-user products. We sell laser components that are incorporated by our customers into their products. Therefore, we are vulnerable to our customers’ prosperity and sales growth. Failure of our customers to sell their products will ultimately hurt their demand for our products, and thus, have a material adverse effect on our revenues.
 
Unusually long sales cycles may cause us to incur significant expenses without offsetting revenue. Customers often view the purchase of our products as a significant strategic decision. Accordingly, customers carefully evaluate and test our products before making a decision to purchase them, resulting in a long sales cycle. While our customers are evaluating our products and before they place an order, we may incur substantial expenses for sales and marketing and research and development to customize our products to the customer's needs. After evaluation, a potential customer may not purchase our products. As a result, these long sales cycles may cause us to incur significant expenses without ever receiving revenue to offset those expenses.
 
The markets for our products are subject to continuing change that may impair our ability to successfully sell our products. The markets for laser diode products are volatile and subject to continuing change. For example, since 2001, the market for telecommunications and data communications products has been severely depressed while a more robust market for defense and homeland security applications has developed. We must continuously adjust our marketing strategy to address the changing state of the markets for laser diode products. We may not be able to anticipate changes in the market and, as a result, our product strategies may be unsuccessful.
 
Our products may become obsolete if we are unable to stay abreast of technological developments. The photonics industry is characterized by rapid and continuous technological development. If we are unable to stay abreast of such developments, our products may become obsolete. We lack the substantial research and development resources of some of our competitors. This may limit our ability to remain technologically competitive.
 
We are dependent for our success on a few key executive officers. Our inability to retain those officers would impede our business plan and growth strategies, which would have a negative impact on our business and the value of your investment. Our success depends on the skills, experience and performance of key members of our management team. We are heavily dependent on the continued services of Jeffrey Ungar, our Chief Executive Officer, George Lintz, our Chief Financial Officer and Chief Operating Officer and Paul Rudy, our Senior Vice President of Marketing and Sales. We do not have long-term employment agreements with any of the members of our senior management team. Each of those individuals may voluntarily terminate his employment with the Company at any time upon short notice. Were we to lose one or more of these key executive officers, we would be forced to expend significant time and money in the pursuit of a replacement, which would result in both a delay in the implementation of our business plan and the diversion of limited working capital. We maintain $8.0 million and $2.0 million key man insurance policies on Mr. Ungar and Mr. Lintz, respectively.
 
We are also dependent for our success on our ability to attract and retain technical personnel, sales and marketing personnel and other skilled management. Our success depends to a significant degree upon our ability to attract, retain and motivate highly skilled and qualified personnel. Failure to attract and retain necessary technical personnel, sales and marketing personnel and skilled management could adversely affect our business. If we fail to attract, train and retain sufficient numbers of these highly qualified people, our prospects, business, financial condition and results of operations will be materially and adversely affected. Although we intend to issue stock options or other equity-based compensation to attract and retain employees, such incentives may not be sufficient to attract and retain key personnel.
 
31
 
Our business is dependent upon proprietary intellectual property rights. We have employed proprietary information to design our products. We believe that our proprietary technology is critical to our ability to compete. We seek to protect our intellectual property rights through a combination of patent filings, trademark registrations, confidentiality agreements and inventions agreements. However, no assurance can be given that such measures will be sufficient to protect our intellectual property rights. Competitors may challenge the validity of patents we obtain. They may also contend that our patents do not prevent them from selling products that are similar but not identical to our products. Patent litigation is expensive and time-consuming. Competitors may seek to take advantage of our limited financial resources by contesting our patent and other intellectual property rights. If we cannot protect our rights, we may lose our competitive advantage. Moreover, if it is determined that our products infringe on the intellectual property rights of third parties, we may be prevented from marketing our products.
 
We currently rely on R&D Contracts with the U.S. Government. Currently, a significant part of our near term revenue is expected to be derived from research contracts from the U.S. Government. Changes in the priorities of the U.S. Government may affect the level of funding of certain defense and homeland security programs. Changes in priorities of government spending may diminish interest in sponsoring research programs in our area of expertise. 
 
We face intense competition, including competition from companies with significantly greater resources than ours, and if we are unable to compete effectively with these companies, our market share may not grow and our business could be harmed. The laser diode industry is highly competitive with numerous competitors from well-established manufacturers to innovative start-ups. A number of our competitors have significantly greater financial, technological, engineering, manufacturing, marketing and distribution resources than we do. Their greater capabilities in these areas may enable them to compete more effectively on the basis of price and production and more quickly develop new products and technologies. In addition, new companies may enter the markets in which we compete, further increasing competition in the laser industry. As we expand our marketing efforts, we expect to increasingly compete with companies that produce diode-pumped solid state and fiber lasers. We may face substantial resistance from prospective customers who are reluctant to change incumbent technologies. We believe that our ability to compete successfully and grow our business depends on a number of factors, including the strength of our technology platform and related intellectual property rights, the capabilities of our scientists and technical staff and our reputation for product innovation and reliability. We may not be able to compete successfully in the future, and increased competition may result in price reductions, reduced profit margins, lost growth opportunities and an inability to generate cash flows that are sufficient to maintain or expand our development and marketing of new products.
 
If our facilities were to experience catastrophic loss, our operations would be seriously harmed. Our facilities could be subject to a catastrophic loss from fire, flood, earthquake or terrorist activity. All of our research and development activities, manufacturing, our corporate headquarters and other critical business operations are located near major earthquake faults in Sylmar, California, an area with a history of seismic events. Any such loss at this facility could disrupt our operations, delay production, and revenue and result in large expenses to repair or replace the facility. While we have obtained insurance to cover most potential losses, we cannot assure you that our existing insurance coverage will be adequate against all other possible losses.
 
The relative lack of public company experience of our management team may put us at a competitive disadvantage. Our management team lacks public company experience, which could impair our ability to comply with legal and regulatory requirements such as those imposed by Sarbanes-Oxley Act of 2002. The individuals who now constitute our senior management have never had responsibility for managing a publicly traded company. Such responsibilities include complying with federal securities laws and making required disclosures on a timely basis. Our senior management may not be able to implement programs and policies in an effective and timely manner that adequately respond to such increased legal, regulatory compliance and reporting requirements. For example, we concluded that our disclosure controls were not effective as of June 30, 2006 and September 30, 2006. Our failure to comply with all applicable requirements could lead to the imposition of fines and penalties and distract our management from attending to the growth of our business.
 
32
 
Our internal controls over financial reporting may not be effective, and our independent auditors may not be able to certify as to their effectiveness, which could have a significant and adverse effect on our business. We are subject to various regulatory requirements, including the Sarbanes-Oxley Act of 2002. We, like all other public companies, must incur additional expenses and, to a lesser extent, diversion of our management’s time in our efforts to comply with Section 404 of the Sarbanes-Oxley Act of 2002 regarding internal controls over financial reporting. We have not evaluated our internal controls over financial reporting in order to allow management to report on, and our independent auditors to attest to, our internal controls over financial reporting, as required by Section 404 of the Sarbanes-Oxley Act of 2002 and the rules and regulations of the SEC, which we collectively refer to as Section 404. We have never performed the system and process evaluation and testing required in an effort to comply with the management assessment and auditor certification requirements of Section 404, which will initially apply to us as of December 31, 2007. Our lack of familiarity with Section 404 may unduly divert management’s time and resources in executing the business plan. If, in the future, management identifies one or more material weaknesses, or our external auditors are unable to attest that our management’s report is fairly stated or to express an opinion on the effectiveness of our internal controls, this could result in a loss of investor confidence in our financial reports, have an adverse effect on our stock price and/or subject us to sanctions or investigation by regulatory authorities.
 
MARKET RISKS.
 
Our common stock is thinly traded, so you may be unable to sell at or near ask prices or at all if you need to sell your shares to raise money or otherwise desire to liquidate your shares. Prior to the Share Exchange in May 2006, QPC’s shares were not publicly traded. Through this Share Exchange, QPC has essentially become public without the typical initial public offering procedures which usually include a large selling group of broker-dealers who may provide market support after going public. Thus, we have undertaken efforts to develop market recognition for our stock. As of June 30, 2007, we had approximately 525 stockholders and our market capitalization was approximately $ 27,061,498. As a result, there is limited market activity in our stock and we are too small to attract the interest of many brokerage firms and analysts. We cannot give you any assurance that a broader or more active public trading market for our common stock will develop or be sustained. While we are trading on the OTC Bulletin Board, the trading volume we will develop may be limited by the fact that many major institutional investment funds, including mutual funds, as well as individual investors follow a policy of not investing in Bulletin Board stocks and certain major brokerage firms restrict their brokers from recommending Bulletin Board stocks because they are considered speculative, volatile and thinly traded.
 
The application of the “penny stock” rules to our common stock could limit the trading and liquidity of the common stock, adversely affect the market price of our common stock and increase your transaction costs to sell those shares. As long as the trading price of our common stock is below $5 per share, the open-market trading of our common stock will be subject to the “penny stock” rules, unless we otherwise qualify for an exemption from the “penny stock” definition. The “penny stock” rules impose additional sales practice requirements on certain broker-dealers who sell securities to persons other than established customers and accredited investors (generally those with assets in excess of $1,000,000 or annual income exceeding $200,000 or $300,000 together with their spouse). These regulations, if they apply, require the delivery, prior to any transaction involving a penny stock, of a disclosure schedule explaining the penny stock market and the associated risks. Under these regulations, certain brokers who recommend such securities to persons other than established customers or certain accredited investors must make a special written suitability determination regarding such a purchaser and receive such purchaser’s written agreement to a transaction prior to sale. These regulations may have the effect of limiting the trading activity of our common stock, reducing the liquidity of an investment in our common stock and increasing the transaction costs for sales and purchases of our common stock as compared to other securities.
 
33
 
The market price for our common stock may be particularly volatile given our status as a relatively unknown company with a small and thinly traded public float, limited operating history and lack of profits which could lead to wide fluctuations in our share price. The market price of our common stock could be subject to wide fluctuations in response to:

·   
quarterly variations in our revenues and operating expenses;

·   
announcements of new products or services by us;

·   
fluctuations in interest rates;
 
·   
significant sales of our common stock, including “short” sales;

·   
the operating and stock price performance of other companies that investors may deem comparable to us; and

·   
news reports relating to trends in our markets or general economic conditions.
 
The stock market in general, and the market prices for penny stock companies in particular, have experienced volatility that often has been unrelated to the operating performance of such companies. These broad market and industry fluctuations may adversely affect the price of our stock, regardless of our operating performance. In addition, there are approximately 31,341,662 shares of our common stock which were sold in private transactions, which are now eligible for sale in accordance with Rule 144 under the Securities Act.
 
Stockholders should be aware that, according to SEC Release No. 34-29093, the market for penny stocks has suffered in recent years from patterns of fraud and abuse. Such patterns include (1) control of the market for the security by one or a few broker-dealers that are often related to the promoter or issuer; (2) manipulation of prices through prearranged matching of purchases and sales and false and misleading press releases; (3) boiler room practices involving high-pressure sales tactics and unrealistic price projections by inexperienced sales persons; (4) excessive and undisclosed bid-ask differential and markups by selling broker-dealers; and (5) the wholesale dumping of the same securities by promoters and broker-dealers after prices have been manipulated to a desired level, along with the resulting inevitable collapse of those prices and with consequent investor losses. Our management is aware of the abuses that have occurred historically in the penny stock market. Although we do not expect to be in a position to dictate the behavior of the market or of broker-dealers who participate in the market, management will strive within the confines of practical limitations to prevent the described patterns from being established with respect to our securities. The occurrence of these patterns or practices could increase the volatility of our share price.
 
Limitations on director and officer liability and indemnification of our officers and directors by us may discourage stockholders from bringing suit against a director. QPC’s Articles of Incorporation and Bylaws provide, with certain exceptions as permitted by governing state law, that a director or officer shall not be personally liable to us or our stockholders for breach of fiduciary duty as a director, except for acts or omissions which involve intentional misconduct, fraud or knowing violation of law, or unlawful payments of dividends. These provisions may discourage stockholders from bringing suit against a director for breach of fiduciary duty and may reduce the likelihood of derivative litigation brought by stockholders on our behalf against a director. In addition, QPC’s Articles of Incorporation and Bylaws provide for mandatory indemnification of directors and officers to the fullest extent permitted by governing state law.
 
We do not expect to pay dividends for the foreseeable future, and we may never pay dividends. We currently intend to retain any future earnings to support the development and expansion of our business and do not anticipate paying cash dividends in the foreseeable future. Our payment of any future dividends will be at the discretion of our Board of Directors after taking into account various factors, including but not limited to our financial condition, operating results, cash needs, growth plans and the terms of any credit agreements that we may be a party to at the time. In addition, our ability to pay dividends on our common stock may be limited by state law. Accordingly, investors must rely on sales of their common stock after price appreciation, which may never occur, as the only way to realize their investment. In addition, the Company is contractually prohibited from paying dividends based on the terms of certain outstanding indebtedness.
 
34
 
Our executive officers and directors beneficially own or control at least 21.2% of our outstanding common stock, which may limit your ability and the ability of our other stockholders, whether acting alone or together, to propose or direct the management or overall direction of our Company. Additionally, this concentration of ownership could discourage or prevent a potential takeover of our Company that might otherwise result in you receiving a premium over the market price for your shares. We estimate that approximately 21.2% of our outstanding shares of common stock is beneficially owned and controlled by a group of insiders, including our directors and executive officers. Such concentrated control of the Company may adversely affect the price of our common stock. Our principal stockholders may be able to control matters requiring approval by our stockholders, including the election of directors, mergers or other business combinations. Such concentrated control may also make it difficult for our stockholders to receive a premium for their shares of our common stock in the event we merge with a third party or enter into different transactions which require stockholder approval. These provisions could also limit the price that investors might be willing to pay in the future for shares of our common stock. In addition, certain provisions of Nevada law could have the effect of making it more difficult or more expensive for a third party to acquire, or of discouraging a third party from attempting to acquire, control of us. Accordingly, the existing principal stockholders together with our directors and executive officers will have the power to control the election of our directors and the approval of actions for which the approval of our stockholders is required. If you acquire shares of our common stock, you may have no effective voice in the management of the Company.
 
Future sales of our equity securities could put downward selling pressure on our securities, and adversely affect the stock price. There is a risk that this downward pressure may make it impossible for an investor to sell his securities at any reasonable price, if at all. Future sales of substantial amounts of our equity securities in the public market, or the perception that such sales could occur, could put downward selling pressure on our securities, and adversely affect the market price of our common stock. This downward pressure could be magnified as a result of the large number of shares issuable upon the exercise of outstanding warrants, the conversion of our convertible debt and the exercise of outstanding options. Certain of our outstanding warrants, including the warrants issued in connection with the April 2007 Debenture Offering and the May 2007 Debenture Offering, have registration rights. As of the date of this Prospectus, 37,712,783 shares of our common stock are issuable upon exercise of warrants at an exercise price ranging between $1.05 to $1.50, 17,867,282 shares of our common stock are issuable upon the conversion of our convertible debt at a conversion price of $1.05 and 4,046,083 shares of our common stock are issuable upon exercise of options.
 
Item 3. CONTROLS AND PROCEDURES
 
(a) Evaluation of Disclosure Controls and Procedures.
 
Our management, with the participation of our principal executive officer and principal financial officer, has evaluated the effectiveness of the design and effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended) as of the end of the period covered by this quarterly report. Based on this evaluation, our principal executive officer and principal financial officer concluded, as of the end of such period, that these disclosure controls and procedures are effective and designed to ensure that the information required to be disclosed in our reports filed or submitted under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the requisite time periods.
 
(b) Changes in Internal Controls.
 
There was no change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934, as amended) identified in connection with the evaluation of our internal control performed during our last fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
 
35
 
Part II -Other information
 
Item 1 Legal Proceedings
 
From time to time, the Company is involved in legal actions arising in the ordinary course of business. Absolute assurance cannot be given that third party assertions will be resolved without costly litigation in a manner that is not adverse to the Company's financial position, results of operations or cash flows.
 
Item 2 Unregistered Sales of Equity Securities and Use of Proceeds
 
See Reports on Form 8-K filed April 20 and May 31, 2007.
 
Item 3. Defaults Upon Senior Securities
 
Not applicable
 
Item 4. Submission of Matters to a Vote of Security Holders
 
Not applicable
 
Item 5. Other Information
 
Not applicable
 
Item 6. Exhibits
 
Exhibit
Number 
  
 Description of Document
     
2.1
 
Share Exchange Agreement by and among Quintessence, the Company, the stockholders of Quintessence, and Julie Morin dated May 12, 2006 (1)
 
 
 
3.1
 
Articles of Incorporation of QPC Lasers, Inc. as filed with the State of Nevada, as amended. (1)
 
 
 
3.2
 
Bylaws of QPC Lasers, Inc. (1)
 
 
 
4.1
 
Registration Rights Agreement (2)
 
 
 
4.2
 
Form of Investor Warrant (2)
 
 
 
4.3
 
Form of Placement Agent Warrant (2)
 
 
 
4.4
 
Form of Warrant dated September 2005 (3)
 
 
 
4.5
 
Form of Amended and Restated Warrant dated May 2004 (3)
 
 
 
4.6
 
Form of Warrant dated April 2005 (3)
 
 
 
4.7
 
Form of Consultant Warrant (3)
 
 
 
4.8
 
Form of Promissory Note, as amended (4)
 
36
 
4.9
 
Form of Warrant issued on or about January 25, 2006 (4)
 
 
 
 4.10
 
Secured Promissory Note dated September 18, 2006, issued by Quintessence to Finisar (6)
 
 
 
4.11
 
Form of Subordinated Secured Note dated as of August 1, 2005 (4)
 
 
 
4.12
 
Form of Warrant issued in connection with Subordinated Secured Note (4)
 
 
 
4.13
 
Form of Senior Secured Note dated as of May 24, 2004 (4)
     
4.14
 
Form of Warrant issued in connection with Senior Secured Note (“Original Senior Secured Warrant”) (4)
 
 
 
4.15
 
Form of Amended and Restated Warrant amending the Original Senior Secured Warrant (4)
 
 
 
4.16
 
Form of First Amendment to Senior Secured Note dated as of March 24, 2005 (4)
 
 
 
10.1
 
2006 Stock Option Plan (2)
 
 
 
10.2
 
Bridge Loan Agreement (2)
 
 
 
10.3
 
Real Property Lease (2)
 
 
 
10.4
 
License Agreement dated September 16, 2003 by and between Quintessence and Finisar (2)
 
 
 
10.5
 
Form of Subscription Agreement (2)
 
 
 
10.6
 
Lock-up Agreement by the Company and George Lintz (3)
 
 
 
10.7
 
Lock-up Agreement by the Company and Jeffrey Ungar (3)
 
 
 
10.8
 
Purchase Agreement between Rafael Ltd. and the Company dated June 6, 2005 (3)
 
 
 
10.9
 
Subcontract Agreement effective as of June 2, 2006 by and between the Company and Fibertek, Inc. (3)
 
 
 
10.10
 
Agreement of Collaboration dated April 27, 2006 between the Company and Telaris, Inc. (10)
 
 
 
10.11
 
Consulting Agreement by and between Quintessence and Capital Group Communications, Inc. dated as of April 3, 2006 (4)
 
 
 
10.12
 
Loan Agreement by and among Quintessence and Jeffrey Ungar and George Lintz dated as of November 25, 2005 (4)
 
 
 
10.13
 
First Amendment to Loan Agreement by and among Quintessence and Jeffrey Ungar and George Lintz dated as of January 25, 2006 (4)
 
 
 
10.14
 
Security Agreement by and among Quintessence and M.U.S.A. Inc., Jeffrey Ungar and George Lintz dated as of August 1, 2005 (4)
 
37
 
10.15
 
License Termination Agreement dated September 18, 2006, by and between Quintessence and Finisar(6)
 
 
 
10.16
 
Security Agreement dated September 18, 2006, by and between Quintessence and Finisar (6)
 
 
 
10.17
 
Form of Series C Preferred Stock Offering (Tranche I) Subscription Agreement (4)
 
 
 
10.18
 
Form of Series C Preferred Stock Offering (Tranche II) Subscription Agreement (4)
 
 
 
10.19
 
Security Agreement by and between Quintessence and DBA Money USA, as collateral agent, dated as of August 1, 2005 (4)
     
10.20
 
Loan Agreement by and among the Quintessence and senior secured lenders dated as of May 21, 2004 (4)
 
 
 
10.21
 
Security Agreement by and between the Company and DBA Money USA, as collateral agent, dated as of May 21, 2004 (“Security Agreement regarding Senior Secured Notes”) (4)
 
 
 
10.22
 
First Amendment to Loan Agreement by and among Quintessence and senior secured lenders dated as of March 24, 2005 (4)
 
 
 
10.23
 
First Amendment to Security Agreement regarding Senior Secured Notes dated as of March 24, 2005 (4)
 
 
 
10.24
 
Phase II Award/Contract dated as of March 24, 2006 by and between the U. S. Army and the Company (9)(**) 
     
10.25
  
Securities Purchase Agreement dated April 16, 2007 (8)
     
10.26
  
Form of Secured Debenture (8)
     
10.27
  
Form of Warrant (8)
     
10.28
  
Form of Registration Rights Agreement (8)
     
10.29
  
Security Agreement (8)

31.01
Chief Executive Officer's Certification pursuant to Section 302 of the
 
Sarbanes-OxleyAct of 2002 (11)
31.02
Chief Financial Officer's Certification pursuant to Section 302 of the
 
Sarbanes-OxleyAct of 2002 (11)
32.01
Chief Executive Officer's Certification pursuant to Section 906 of the Sarbanes-Oxley
 
Act of 2002 (11)
32.02
Chief Financial Officer's Certification pursuant to Section 906 of the Sarbanes-Oxley
 
Act of 2002 (11)
 
38
 
 
(1)
Filed with the Registrant’s Current Report on Form 8-K filed on May 12, 2006
 
 
 
 
(2)
Filed with the Registrant’s Quarterly Report on Form 10-QSB for the quarter ended June 30, 2006 filed on August 15, 2006
     
 
(3)
Filed with the Registrant’s Registration Statement on Form SB-2 filed on September 18, 2006
 
 
 
 
(4)
Filed with the Registrant's Amendment No. 2 to the Registration Statement on Form SB-2 filed on December 1, 2006
 
 
 
 
(5)
Filed with the Registrant’s Current Report on Form 8-K filed on November 8, 2006
     
 
(6)
Filed with the Registrant’s Current Report on Form 8-K filed on November 2, 2006
 
 
 
 
(7)
Filed with the Registrant’s Registration Statement on Form SB-2/Pre-Effective Amendment No. 3 filed on January 26, 2007
 
 
 
 
(8)
Filed with the Registrant’s Current Report on Form 8-K filed on May 31, 2007  
 
 
 
 
(9)
Filed with the Registrant’s Registration Statement on Form SB-2 filed on June 15, 2007
     
 
(10)
Filed with Pre-Effective Amendment No. 1 to Registrant’s Registration Statement on Form SB-2, filed on August 1, 2007
     
  (11)  Filed herewith.
     
 
(**)
Confidential treatment requested as to portions of the Exhibit. Omitted materials filed separately with the Commission.
 
39
 
 
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
     
Dated: August 14, 2007
QPC Lasers, Inc.
 
 		  
 		  
 
   /s/ George Lintz
 
 
George Lintz
 
Chief Operating Officer, Chief Financial Officer
 
     
   
 
 		  
 		  
 
    /s/ Jeffrey Ungar
 
 
Chief Executive Officer
 
40
 
 
 EX-31.01 2 v084000_ex31-01.htm Unassociated Document
 
Exhibit 31.01
 
CERTIFICATION OF CHIEF EXECUTIVE OFFICER
 
PURSUANT TO THE SECURITIES EXCHANGE ACT OF 1934,
 
RULES 13a-14 AND 15d-14
 
AS ADOPTED PURSUANT TO
 
SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
 
I, Jeffrey Ungar, certify that:

1.
I have reviewed this Form 10-QSB of QPC Lasers, Inc.
   
2.
Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
   
3.
Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the small business issuer, as of, and for, the periods presented in this report;
   
4.
The small business issuer’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the Company and have:
 
(a)   Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the small business issuer, including its consolidated subsidiary, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
 
(b)   Evaluated the effectiveness of the small business issuer’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
 
(c)   Disclosed in this report any change in the small business issuer’s internal control over financial reporting that occurred during the small business issuer’s most recent fiscal quarter (the small business issuer’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the small business issuer’s internal control over financial reporting; and

5.
The small business issuer ‘s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the small business issuer’s auditors and the audit committee of the small business issuer’s board of directors (or persons performing the equivalent functions):
 
(a)   All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the small business issuer's ability to record, process, summarize and report financial information; and
 
(b)   Any fraud, whether or not material, that involves management or other employees who have a significant role in the small business issuer's internal control over financial reporting.
 
Jeffrey Ungar,
 
Chief Executive Officer
 
(Principal Executive Officer)
 
August 14, 2007
 
 
41
 
DRAFT
 
 EX-31.02 3 v084000_ex31-02.htm Unassociated Document
 
Exhibit 31.02
 
CERTIFICATION OF CHIEF FINANCIAL OFFICER
 
PURSUANT TO THE SECURITIES EXCHANGE ACT OF 1934,
 
RULES 13a-14 AND 15d-14
 
AS ADOPTED PURSUANT TO
 
SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
 
I, George Lintz, certify that:

 
1.
I have reviewed this Form 10-QSB of QPC Lasers, Inc.
     
 
2.
Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
     
 
3.
Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the small business issuer, as of, and for, the periods presented in this report;
     
 
4.
The small business issuer’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the Company and have:
 
(a)   Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the small business issuer, including its consolidated subsidiary, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
 
(b)   Evaluated the effectiveness of the small business issuer’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
 
(c)   Disclosed in this report any change in the small business issuer’s internal control over financial reporting that occurred during the small business issuer’s most recent fiscal quarter (the small business issuer’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the small business issuer’s internal control over financial reporting; and

5.
The small business issuer ‘s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the small business issuer’s auditors and the audit committee of the small business issuer’s board of directors (or persons performing the equivalent functions):
 
(a)   All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the small business issuer's ability to record, process, summarize and report financial information; and
 
(b)   Any fraud, whether or not material, that involves management or other employees who have a significant role in the small business issuer's internal control over financial reporting.
 
George Lintz,
 
Chief Financial Officer
 
(Principal Financial Officer)
 
August 14, 2007
 
 
42
 
DRAFT
 EX-32.01 4 v084000_ex32-01.htm Unassociated Document
 
Exhibit 32.01
 
CERTIFICATION OF CHIEF EXECUTIVE OFFICER AS REQUIRED BY
 
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
 
I, Jeffrey Ungar, hereby certify, pursuant to 18 U.S.C. §1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:

1.
The accompanying quarterly report on Form 10-QSB for the quarter ended September 30, 2006 fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; as amended, and
2.
The information contained in such report fairly presents, in all material respects, the financial condition and results of operations of QPC Lasers, Inc.
 
Jeffrey Ungar,
 
Chief Executive Officer
 
(Principal Executive Officer)
 
August 14, 2007
 
 
43
 
 EX-32.02 5 v084000_ex32-02.htm Unassociated Document
 
Exhibit 32.02
 
CERTIFICATION OF CHIEF FINANCIAL OFFICER AS REQUIRED BY
 
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
 
I, George Lintz, hereby certify, pursuant to 18 U.S.C. §1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:

1.
The accompanying quarterly report on Form 10-QSB for the quarter ended September 30, 2006 fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; as amended, and
2.
The information contained in such report fairly presents, in all material respects, the financial condition and results of operations of QPC Lasers, Inc.
 
George Lintz,
 
Chief Financial Officer
 
(Principal Financial Officer)
 
August 14, 2007
 
 
44
 
 -----END PRIVACY-ENHANCED MESSAGE-----