Stockholders' Deficiency

12 Months Ended

Dec. 31, 2016

Notes to Financial Statements

8. Stockholders' Deficiency

Authorized Capital

The Company is authorized to issue up to 100,000,000 shares of common stock with a par value of $0.001 per share and 1,000,000 shares of preferred stock with a par value of $0.001 per share.

Common Stock

On December 21, 2015, the Company issued 94,779 shares of common stock to a former employee resulting from a cashless exercise of warrants.

On July 28, 2016, the Company entered an Exchange Agreement with Dellave Holdings LLC ("Dellave") whereby the Company issued an aggregate of 2,253,528 shares of common stock in exchange for the extinguishment of $698,594 of accounts payable balances held by Dellave.  The exchange was based on the prior day's closing price of $0.31 of the Company's common stock.   The $698,594 aggregate fair value of the common stock issued was credited to equity at conversion. Mr. Timothy Reilly is the managing member of Dellave and he is also the managing member of Melrose Capital Advisors, LLC, the Company's senior lender at the time of the transaction.

Preferred Stock

Series A Preferred Stock

The Company has designated 200,000 of the 1,000,000 authorized shares of preferred stock as Series A Convertible Preferred Stock ("Series A Preferred Stock"). The Series A Preferred Stock is non-voting, has a liquidation preference equal to its purchase price, and does not pay dividends. The holders can call for the conversion of the Series A Preferred Stock at any time and are entitled to half a share of the Company's common stock for each share of Series A Preferred Stock converted. As of December 31, 2016, 44,443 shares of Series A Preferred Stock are available to be issued. There were no shares of Series A Preferred Stock outstanding as of December 31, 2016 or 2015.

Series B Preferred Stock

The Company has designated 625,000 of the 1,000,000 authorized shares of preferred stock as Series B Convertible Preferred Stock ("Series B Preferred Stock"). The Series B Preferred Stock has voting rights equal to one vote for each common share equivalent, has a liquidation preference equal to its purchase price, and receives preferred dividends equal to 7% of all outstanding shares in either cash or payment-in-kind. The holders can call for the conversion of the Series B Preferred Stock at any time and are entitled to five shares of the Company's common stock for each share of Series B Preferred Stock converted.

In addition, the Series B Preferred Stock is subject to weighted average anti-dilution protection whereby if shares of common stock are sold below the current conversion price, the conversion price is reduced pursuant to a pre-defined formula. As of December 31, 2016 and 2015, Series B holders were entitled to convert into 11.66 and 11.39 shares, respectively, of the Company's common stock for each share of Series B Preferred Stock due to the anti-dilution provision. The anti-dilution provision represents a contingent beneficial conversion feature.  As of December 31, 2016, an incremental 3,445,611 shares of common stock are issuable at conversion of the Series B Convertible Preferred Stock as compared to the original terms.   Using the commitment date common stock price in effect, the commitment date value of the incremental shares is $8,696,723.

However, recognition of beneficial conversion features is limited to the aggregate gross proceeds allocated to the preferred stock of $3,199,689 (422,315 shares of Series B Convertible Preferred Stock times $9.45 per share less the proceeds allocated to the warrants of $791,188) less the $1,666,967 beneficial conversion feature already recognized on the original 365,265 shares of Series B Preferred Stock (prior to the issuance of additional shares as payment-in-kind in lieu of cash dividends).  Due to these limitations, no beneficial conversion feature value was recorded for the years ended December 31, 2016 and 2015.  The investor rights agreement of the Company's Series B preferred shares limits the total debt of the Company to $1 million. The agreement also limits the ability to raise preferred equity at current market conversion rates.

As of and for the year ended December 31, 2016 and 2015, the Company had accrued contractual dividends of $342,233 and $319,854, respectively, related to the Series B Preferred Stock.  On January 3, 2016, the Company issued 33,847 shares of Series B convertible preferred stock valued at approximately $320,000, representing approximately $0.66 in value per share of Series B Preferred Stock outstanding on that date, to the Series B convertible preferred stock owners as payment in kind for dividends.

Series C Preferred Stock

The Company's Certificate of Designation designates 10,000 shares of the Company's preferred stock as Series C Preferred Stock to be issued at an original issue price of $100 per share. The Series C Preferred Stock has voting rights equal to one vote for each share held, has a liquidation preference equal to its purchase price, and has certain redemption rights available at the option of the holder.  The Series C Preferred Stock is non-convertible and does not pay dividends.

On October 17, 2011, the Company received net cash proceeds of $1,000,000 for the sale of 10,000 shares of Series C Preferred Stock to a greater than 10% stockholder of the Company. Since certain of the Company's preferred shares contain redemption rights which are not solely within the Company's control, these issuances of preferred stock were initially presented as temporary equity. On February 13, 2013, the Company received a Notice of Redemption of Series C Preferred Stock and as a result, the shares are classified as a current liability as of December 31, 2016 in the Company's consolidated balance sheet.

Incentive Compensation / Stock Option Plans

The Company sponsors an Incentive Compensation Plan (the "2009 Plan") which was approved by the Board of Directors and the Company's Stockholders, and initially allowed the total number of shares of common stock issuable pursuant to the 2009 Plan to be 2,881,425 shares.

The 2009 Plan imposes individual limitations on the amount of certain awards. Under these limitations during any fiscal year of the Company, the number of options, stock appreciation rights, shares of restricted stock, shares of deferred stock, performance shares and other stock based-awards granted to any one participant under the 2009 Plan may not exceed 250,000 shares, subject to adjustment in certain circumstances. The maximum amount that may be paid out as performance units in any 12-month performance period is an aggregate value of $2,000,000, and the maximum amount that may be paid out as performance units in any performance period greater than 12 months is an aggregate value of $4,000,000. The maximum term of each option or stock appreciation right, the times at which each option or stock appreciation right will be exercisable, and provisions requiring forfeiture of unexercised options or stock appreciation rights at or following termination of employment generally are fixed by the board of directors or committee of the Company's board of directors designated to administer the 2009 Plan (the "Committee"), except that no option or stock appreciation right may have a term exceeding ten years. The exercise price per share subject to an option and the grant price of a stock appreciation rights are determined by the Committee, but in the case of an incentive stock option (ISO) must not be less than the fair market value of a share of common stock on the date of grant.

Following the approval of the Board of Directors and stockholders of record as of August 25, 2014, the Company adopted the 2014 Equity Incentive Plan (the "2014 Plan") which made a total of 6,000,000 shares of common stock authorized and available for issuance pursuant to awards granted under the 2014 Plan.

The 2014 Plan limit imposes individual limitations on the amount of certain awards. Under these limitations during any fiscal year of the Company, the number of options, stock appreciation rights, shares of restricted stock, shares of deferred stock, performance shares and other stock based-awards granted to any one participant under the 2014 Plan may not exceed 1,500,000 shares, subject to adjustment in certain circumstances. The maximum number of shares that may be awarded that are not subject to performance targets is an aggregate of 1,200,000 shares.   The maximum term of each option or stock appreciation right, the times at which each option or stock appreciation right will be exercisable, and provisions requiring forfeiture of unexercised options or stock appreciation rights at or following termination of employment generally are fixed by the Committee designated to administer the 2014 Plan, except that no option or stock appreciation right may have a term exceeding ten years. The exercise price per share subject to an option and the grant price of a stock appreciation rights are determined by the Committee, but in the case of an incentive stock option (ISO) must not be less than the fair market value of a share of common stock on the date of grant.

Stock Options

Grants

During the year ended December 31, 2016, the Company granted options to and directors, employees, and consultants of the Company to purchase an aggregate of 660,265 shares of common stock under a previously approved plan at exercise price ranging between $0.24 and $0.35 per share for an aggregate grant date value of $195,875.  The options vested on the grant date and have a term of ten years.

During the year ended December 31, 2015, the Company granted options to employees and directors of the Company to purchase an aggregate of 2,141,339 shares of common stock under the 2014 Plan at an exercise price of between $0.09 to $0.15 per share for an aggregate grant date value of $211,860.  The options have a vesting period ranging from immediate to three years and have a term of ten years.

During the year ended December 31, 2015, the Company granted options to consultants of the Company to purchase an aggregate of 349,861 shares of common stock under the 2014 Plan at an exercise price of between $0.09 and $0.12 per share for an aggregate grant date value of $37,423.  The options have a vesting period ranging from immediate to three years and have a term of ten years.

Exercise

During the year ended December 31, 2016, the Company issued an aggregate of 1,492,078 shares of common stock to holders of options who elected to exercise options to purchase 3,091,475 shares of common stock on a cashless basis under the terms of the options.  The options had exercise prices ranging from $0.09 and $0.30 per share.

During the year ended December 31, 2016, the Company received proceeds of $1,833 from the exercise of options to purchase 16,666 shares of common stock.

The aggregate intrinsic value of the options exercised was $480,041 for the year ended December 31, 2016.

Valuation and Amortization

Option valuation models require the input of highly subjective assumptions.  The fair value of the stock-based payment awards is estimated utilizing the Black-Scholes option model.  The volatility component of this calculation is derived from the historical trading prices of the Company's own common stock.  The Company accounts for the expected life of options in accordance with the "simplified" method for "plain vanilla" share options.  The risk-free interest rate was determined from the implied yields of U.S. Treasury zero-coupon bonds with a remaining life consistent with the expected term of the options.

In addition, the Company is required to estimate the expected forfeiture rate and only recognize expense for those shares expected to vest.  In estimating the Company's forfeiture rate, the Company analyzed its historical forfeiture rate, the remaining lives of unvested options, and the number of vested options as a percentage of total options outstanding.  If the Company's actual forfeiture rate is materially different from its estimate, or if the Company reevaluates the forfeiture rate in the future, the stock-based compensation expense could be significantly different from what the Company has recorded in the current period.  The Company estimated forfeitures related to option grants at a weighted average annual rate of 5% and 3% per year for options granted during the years ended December 31, 2016 and 2015, respectively.

In applying the Black-Scholes option pricing model to stock options granted, the Company used the following weighted average assumptions:

	Year Ended December 31,
	2016	2015
Risk-free interest rate	1.00% to 2.12%	1.35% to 2.28%
Expected dividend yield	0.00%	0.00%
Expected volatility	196% to 200.0%	195% to 199.0%
Weighted average expected life
(contractual term) in years	5.5 to 10.0	5.5 to 10.0

Stock-based compensation expense related to stock options was recorded in selling, general and administrative expenses in the consolidated statements of operations and totaled $327,202 and $308,026 for the years ended December 31, 2016 and 2015, respectively.

As of December 31, 2016, stock-based compensation expense related to stock options of $36,291 remains unamortized which is being amortized over the weighted average remaining period of 1.5 years.

Summary

A summary of the stock option activity during the years ended December 31, 2016 and 2015 is presented below:

	Number of Options			Weighted Average Exercise Price		Weighted Average Remaining Contractual Term (Years)		Aggregate Intrinsic Value
Outstanding, January 1, 2015		3,944,557		$	1.27
Granted		2,491,200			0.10
Exercised		-			-
Forfeited		(1,094,473	)		1.40
Outstanding, December 31, 2015		5,341,284		$	0.70
Granted		660,265			0.30
Exercised		(3,108,141	)		0.16
Forfeited		(1,599,204	)		1.73
Outstanding, December 31, 2016		1,294,204		$	0.51		8.0	$	145,533
Exercisable, December 31, 2016		804,204		$	0.76		7.7	$	54,267

The following table presents information related to stock options outstanding and exercisable at December 31, 2016:

	Options Outstanding		Options Exercisable
	Weighted		Weighted	Weighted
Range of	Average	Outstanding	Average	Average	Exercisable
Exercise	Exercise	Number of	Exercise	Remaining Life	Number of
Price	Price	Options	Price	In Years	Options
$0.09 - $0.12	$0.10	786,667	$0.11	8.5		296,667
$0.25 - $0.35	0.32	262,087	0.32	9.8		262,087
$0.53 - $1.60	0.87	188,450	0.87	4.3		188,450
$4.10 - $6.99	5.80	57,000	5.80	5.1		57,000
$0.09 - $6.99	$0.51	1,294,204	$0.76	7.7		804,204

Warrants

Valuation

In applying the Black-Scholes option pricing model to stock warrants granted, the Company used the following weighted average assumptions:

Grants

	Year Ended December 31,
	2016	2015
Risk-free interest rate	1.58%	1.22% to 1.75%
Expected dividend yield	0.00%	0.00%
Expected volatility	200.0%	194.0% to 197.0%
Contractual term in years	5.00	2.90 to 7.50

On January 11, 2016, the Company issued to a lender a five-year warrant to purchase 75,000 shares of common stock at an exercise price of $0.25 per share for an aggregate grant date value of $15,500. See Note 6 – Notes Payable for additional information.

On April 3, 2015, the Company granted warrants to a former employee of the Company to purchase an aggregate of 137,430 shares of common stock at an exercise price of $0.09 per share for an aggregate grant date value of $12,018.  The warrants have a term of five years.  The warrants were issued as repayment for amounts previously accrued.

The weighted average fair value of the stock warrants granted during the years ended December 31, 2016 and 2015, respectively, was $0.25 and $0.09 per share.

Exercise

During the year ended December 31, 2015, the Company issued an aggregate of 97,449 shares of common stock to a holder of warrants who elected to exercise warrants to purchase 137,430 shares of common stock on a cashless basis under the terms of the warrants. The warrants had an exercise price of $0.09 per share.  The aggregate intrinsic value of the warrants exercised was $27,486 for the year ended December 31, 2015.

During the year ended December 31, 2016, the Company issued an aggregate of 1,155,179 shares of common stock to a holder of warrants who elected to exercise warrants to purchase 1,795,080 shares of common stock on a cashless basis under the terms of the warrants. The warrants had an exercise prices ranging from $0.10 to 0.15 per share. The aggregate intrinsic value of the warrants exercised was $414,176 for the year ended December 31, 2016.

A stock-based compensation benefit related to the mark-to-market adjustment for consultant warrants for the year ended December 31, 2015 was recorded in the consolidated statements of operations as a component of selling, general and administrative expenses and totaled $322. During the year ended December 31, 2015, the Company recorded aggregate stock-based compensation expense of $12,340 related to warrants.  As of December 31, 2016, there was no stock-based compensation expense related to warrants that remains unamortized.

A summary of the stock warrant activity during the years ended December 31, 2016 and 2015, respectively, is presented below:

							Weighted
				Weighted			Average
				Average			Remaining		Aggregate
	Number of			Exercise			Life		Intrinsic
	Warrants			Price			In Years		Value
Outstanding, January 1, 2015		9,339,044			$	0.45
Granted		887,430				0.10
Exercised		(137,430	)			0.09
Forfeited		(42,846	)			3.00
Outstanding, December 31, 2015		10,046,198			$	0.41
Granted		75,000				0.25
Exercised		(1,795,080	)			0.13
Forfeited		(520,000	)			2.90
Outstanding, December 31, 2016		7,806,118			$	0.30	2.4	$	91,257
Exercisable, December 31, 2016		7,806,118			$	0.30	2.4	$	91,257

The following table presents information related to stock warrants at December 31, 2016:

	Warrants Outstanding		Warrants Exercisabe
	Weighted		Weighted	Weighted
Range of	Average	Outstanding	Average	Average	Exercisable
Exercise	Exercise	Number of	Exercise	Remaining Life	Number of
Price	Price	Warrants	Price	In Years	Warrants
$0.15 - $0.25	$0.25	2,116,120	$0.25	1.7	2,116,120
$0.30 - $0.35	0.30	5,659,998	0.30	2.7	5,659,998
$4.95	4.95	30,000	4.95	0.8	30,000
$0.15 - $4.95	$0.30	7,806,118	$0.30	2.4	7,806,118