Acquisition

The Company entered into and consummated the Purchase Agreement on April 17, 2015 among the Company and certain of its subsidiaries, Accountable Health Solutions, Inc. (the "Seller" or "AHS") and Accountable Health, Inc. ("Shareholder"). Pursuant to the Purchase Agreement, the Company has acquired the assets and certain liabilities representing the health and wellness business of the Seller for approximately $7.0 million - $4.0 million in cash and up to 6,500,000 shares of the Company’s common stock, $0.04 par value, with a value of $3.0 million, subject to a working capital adjustment as described in the Purchase Agreement (the "Acquisition"). At the closing of the Purchase Agreement, the Company issued and delivered 5,576,087 shares of Common Stock to the Shareholder at closing and issued and held back 326,087 shares of Common Stock for the working capital adjustment, and 597,826 shares of Common Stock for indemnification purposes. No additional shares will be issued under the terms of the Purchase Agreement. The shares were issued pursuant to an exemption from registration under Section 4(a)(2) of the Securities Act of 1933, which provides an exemption for private offerings of securities. During the six month period ended June 30, 2015, the Company recorded transaction costs of $0.7 million in connection with the Acquisition in the consolidated statement of operations.

The acquisition provides significant growth opportunities for the Health and Wellness operations. It has expanded the Company's capabilities allowing us to deliver telephonic health coaching, wellness portals, and data analytics and reporting services. These factors, combined with the synergies and economies of scale expected from combining the operations of the two companies, are the basis for acquisition and comprise the resulting goodwill recorded.

In order to fund the Acquisition, the Company entered into and consummated a Credit Agreement (the "Credit Agreement") with SWK Funding LLC as the agent ("Agent") on April 17, 2015, and the lenders (including SWK Funding LLC) party thereto from time to time (the "Lenders"). The Credit Agreement provides the Company with a $5.0 million term loan (the "Term Loan"). The proceeds of the Loan were used to pay certain fees and expenses related to the negotiation and consummation of the Purchase Agreement and the Acquisition described above and general corporate purposes. The Company paid SWK Funding LLC an origination fee of $0.1 million. The Loan is due and payable on April 17, 2018. The Credit Agreement also contains certain financial covenants, including certain minimum aggregate revenue and EBITDA requirements and requirements regarding consolidated unencumbered liquid assets.

In addition, on April 17, 2015, in connection with the execution of the Credit Agreement, the Company issued SWK Funding, LLC a warrant (the "Warrant") to purchase 8,152,174 shares of the Company’s common stock. The Warrant is exercisable after October 17, 2015, and up to and including April 17, 2022, at an exercise price of $0.46 per share. The Warrant is exercisable on a cashless basis. The exercise price of the Warrant is subject to customary adjustment provisions for stock splits, stock dividends, recapitalizations and the like. The Warrant grants the holder certain piggyback registration rights. The Warrant was considered equity classified, and as such, the Company allocated the proceeds from the Term Loan to the Warrant using the Relative Fair Value Method. The fair value of the Warrant of $2.7 million was recorded as debt discount, which is being recognized as interest expense over the term of the Credit Agreement. The Company valued the Warrant using the Black-Scholes pricing model using volatility of 85.0%, a risk-free rate of 1.4%, dividend rate of zero and term of 7 years, which is consistent with the exercise period of the Warrant and is a Level 3 valuation technique.

Further, pursuant to the Credit Agreement, if the 2013 Loan and Security Agreement is not repaid in full and terminated, and all liens securing the 2013 Loan and Security Agreement are not released, on or prior to February 28, 2016, the Company has agreed to issue an additional warrant to SWK Funding LLC to purchase common stock valued at $1.25 million, with an exercise price of one cent over the closing price on February 28, 2016. The additional warrant will become exercisable six months after issuance, remain exercisable for 7 years and have customary anti-dilution protection similar to the Warrants. The Company considered whether the issuance of this additional warrant was a “credit sensitive payment”, as the issuance of the additional warrant is contingent upon the repayment of debt (the 2013 Loan and Security Agreement). However, as the repayment date specified in the Term Loan is prior to the maturity date of the 2013 Loan and Security Agreement and therefore this is an incentive feature, rather than a reflection of the Company’s creditworthiness, the Company did not think it was appropriate to consider this feature credit related. Therefore, the feature is not clearly and closely related to the debt host. The Company determined that the additional warrant feature does not contain an explicit limit on the number of warrants to be delivered for settlement. As the Company is required to deliver a number of additional warrants that will satisfy the fixed monetary amount of $1.25 million, the number of warrants (and underlying shares) to be delivered cannot be determined. Therefore, the additional warrant feature is considered an embedded derivative.

As the issuance of the additional warrant is contingent, the evaluation of the likelihood of the occurrence of the contingency was considered in determining the fair value of the embedded derivative. As the Company does believe that the contingency (i.e. not repaying in full and terminating the 2013 Loan and Security Agreement by February 28, 2016) is likely to occur, the value of the embedded derivative was be recognized on the financial statements. Consequently, the value of the Term Loan was reduced by the fair value of additional warrant. The Company determined the value of the additional warrant was $0.9 million as of the Acquisition date, which approximates its value as of June 30, 2015. The Company valued the additional warrant using the Black-Scholes pricing model using volatility of 85.0%, a risk-free rate of 1.4%, dividend rate of zero and term of 7 years, which is consistent with the exercise period of the additional warrant. The value of the embedded derivative will continue to be evaluated every reporting period.

The following table summarizes the net impact to cash for the proceeds of the Credit Agreement, debt assumed (Term Loan less the fair value of the Warrant and derivative liability), issuance of common shares, the impact to additional paid-in capital for the issuance of shares and fair value of the Warrant, derivative liability and transaction costs:



(in thousands)
Credit Agreement	$	5,000
Cash consideration	(4,000		)
Net proceeds from Credit Agreement	$	1,000

Term Loan	$	5,000
Debt discount associated with Warrant	(2,656		)
Derivative liability with additional warrant feature	(908		)
Net debt recorded with Acquisition	$	1,436

Common Stock (6,500,000 shares at $0.04 par)	$	260

Additional paid-in capital: issuance of shares	$	2,740
Additional paid-in capital: fair value of Warrant	2,656
Net increase to APIC with Acquisition	$	5,396

The Acquisition was treated as a purchase in accordance with Accounting Standards Codification (ASC) 805, Business Combinations, which requires allocation of the purchase price to the estimated fair values of the assets acquired and liabilities assumed in the transaction. The allocation of purchase price is based on management’s judgment after evaluating several factors, including a preliminary valuation assessment. The allocation of purchase price is preliminary and subject to changes, which could be significant, as the valuation of tangible and intangible assets are finalized, working capital adjustments are finalized, and additional information becomes available. The Company is also still evaluating the fair value of the deferred revenue recorded in connection with the Acquisition.

The preliminary allocation of purchase price is as follows:



(in thousands)
Accounts receivable, net of allowance of $16	$	877
Inventory and other current assets	193
Fixed assets	$	275
Customer portal (existing technologies)	1,930
Customer relationships	$	4,151
Goodwill	766
Accounts payable and accrued expenses	$	(750	)
Deferred revenue	(442		)
Preliminary Purchase Price	$	7,000

Intangible assets acquired include existing technology in the form of a customer-facing wellness portal and customer relationships. The fair value of the customer relationships acquired was determined using excess earnings method under the income approach for customer relationships; and the fair value of the wellness portal software was determined using the replacement cost method. The estimated useful life for the wellness portal and customer relationships is expected to be 4 years and 8 years, respectively. Amortization is expected to be recorded on a straight-line basis over the estimated useful life of the asset. The Company recorded amortization expense of $0.3 million during the three month period ended June 30, 2015, related to the intangible assets acquired in the Acquisition, of which $0.2 million is recorded as a component of cost of operations and $0.1 million is recorded as a component of selling, general and administrative expenses. The goodwill of $0.8 million was recorded in one reporting unit, the Health and Wellness operations, as the Company does not report segments, and is expected to be deductible for tax purposes.

The consolidated statement of operations for the three and six month periods ended June 30, 2015, includes revenue of $2.7 million attributable to AHS since the acquisition date of April 17, 2015. Disclosure of the earnings contribution from the AHS business is not practicable, as the Company has already integrated operations in many areas.

The following table provides unaudited pro forma results of operations for the three and six month periods ended June 30, 2015 and 2014 as if the acquisition had been completed on the first day of our 2014 fiscal year.



(in thousands)	Three Months Ended June 30,						Six Months Ended June 30,
(in thousands)	2015			2014			2015			2014
Pro forma revenues	$	7,662		$	10,596		$	15,750		$	21,788

Pro forma net loss from continuing operations	$	(2,749	)	$	(2,903	)	$	(5,856	)	$	(7,015	)

These pro forma results are based on estimates and assumptions, which the Company believes are reasonable. They are not the results that would have been realized had the Company been a combined company during the periods presented, nor are they indicative of the consolidated results of operations in future periods. The pro forma results for the six month period ended June 30, 2015, include pre-tax adjustments for amortization of intangible assets of $0.3 million, and the elimination of acquisition costs of $0.6 million and $0.7 million, respectively. Pro forma results for the three and six month periods ended June 30, 2014, include pre-tax adjustments for amortization of intangible assets of $0.3 million and $0.6 million, respectively.