EQUITY

6 Months Ended

Jun. 30, 2012

Notes to Financial Statements

Note 6 - EQUITY

The Company’s Articles of Incorporation, as amended, authorize the issuance of two classes of stock to be designated “common stock” and “preferred stock”. The preferred stock may be divided into such number of series and with the rights, preferences, privileges and restrictions as the Board of Directors may determine.

Series B Convertible Redeemable Preferred Stock

The Company had 239,400 shares of Series B Convertible Redeemable Preferred (“Series B Preferred”) outstanding as of June 30, 2012 and December 31, 2011.  At June 30, 2012 and December 31, 2011, the Company had cumulative undeclared dividends of approximately $8,000 and $187,000, respectively.  There were no conversions of Series B Preferred into common stock during the six months ended June 30, 2012 or 2011.

Common Stock

The following table summarizes common stock activity for the six months ended June 30, 2012:

	Common Stock
Shares outstanding at December 31, 2011		67,988,916
Shares issued pursuant to options exercised for cash		5,756
Shares issued pursuant to cashless warrants exercised		665,981
Shares outstanding at June 30, 2012		68,660,653

During the six months ended June 30, 2012, the Company issued 5,756 shares of common stock pursuant to the exercise of 5,756 options for cash proceeds of approximately $1,000.  During the six months ended June 30, 2012, the Company issued 665,981 shares of common stock pursuant to the cashless exercise of 1,139,000 warrants.

Warrants

 The following table summarizes warrant activity for the following periods:

	Warrants			Weighted- Average Exercise Price
Balance at December 31, 2011		28,453,760		$	0.52
Granted		150,000		$	0.88
Expired / Canceled		(12,000	)	$	0.50
Exercised		(1,139,000	)	$	0.50
Balance at June 30, 2012		27,452,760		$	0.54

 During the six months ended June 30, 2012, there were 1,139,000 warrants exercised pursuant to cashless transactions and12,000 warrants that expired. During the six months ended June 30, 2012, the Company issued to Vocel a warrant to purchase 150,000 shares of the Company’s common stock (“Purchaser Warrant”).  The Purchaser Warrant is exercisable at $0.88 per share and vests 100% at such time as the Company has derived $500,000 of gross revenue from the sale or license of the purchased intellectual property (“Warrant Vesting Date”).  The Purchaser Warrant is exercisable for a period of three years from the Warrant Vesting Date.

 As of June 30, 2012, warrants to purchase 27,302,760 shares of common stock at prices ranging from $0.50 to $1.67 were outstanding. All warrants are exercisable as of June 30, 2012, and expire at various dates through December 2016, with the exception of the 150,000 Purchaser Warrant which becomes exercisable for a three year period only upon the attainment of specified events.

Stock-Based Compensation 

        As of June 30, 2012, the Company had two active stock-based compensation plans for employees and nonemployee directors, which authorize the granting of various equity-based incentives including stock options and restricted stock.

The Company estimates the fair value of its stock options using a Black-Scholes option-pricing model, consistent with the provisions of ASC No. 718, Compensation – Stock Compensation. The fair value of stock options granted is recognized to expense over the requisite service period. Stock-based compensation expense for all share-based payment awards is recognized using the straight-line single-option method. Stock-based compensation expense is reported in operating expenses based upon the departments to which substantially all of the associated employees report and credited to Additional paid-in capital.  Stock-based compensation expense related to equity options was approximately $140,000 and $280,000 for the three and six months ended June 30, 2012, respectively. Stock-based compensation related to equity options was approximately $73,000 and $140,000 for the three and six months ended June 30, 2011, respectively. 

ASC 718 requires the use of a valuation model to calculate the fair value of stock-based awards. The Company has elected to use the Black-Scholes option-pricing model, which incorporates various assumptions including volatility, expected life, and interest rates. The Company is required to make various assumptions in the application of the Black-Scholes option-pricing model. The Company has determined that the best measure of expected volatility is based on the historical weekly volatility of the Company’s common stock. Historical volatility factors utilized in the Company’s Black-Scholes computations for the six months ended June 30, 2012 and 2011 ranged from 135% to 144%. The Company has elected to estimate the expected life of an award based upon the SEC approved “simplified method” noted under the provisions of Staff Accounting Bulletin No. 110. The expected term used by the Company during the six months ended June 30, 2012 and 2011 was 5.9 years. The difference between the actual historical expected life and the simplified method was immaterial.  The interest rate used is the risk free interest rate and is based upon U. S. Treasury rates appropriate for the expected term. Interest rates used in the Company’s Black-Scholes calculations for the six months ended June 30, 2012 and 2011 was 2.6%. Dividend yield is zero as the Company does not expect to declare any dividends on the Company’s common stock in the foreseeable future.

In addition to the key assumptions used in the Black-Scholes model, the estimated forfeiture rate at the time of valuation is a critical assumption.  The Company has estimated an annualized forfeiture rate of approximately 0% for corporate officers, 4% for members of the Board of Directors and 6% for all other employees.  The Company reviews the expected forfeiture rate annually to determine if that percent is still reasonable based on historical experience.

In January of 2010, the Company issued 847,258 shares of restricted stock to members of management and the Board of Directors.  These shares will vest quarterly over a three-year period.  The restricted shares were issued as compensation for the cancellation of 1,412,096 options held by members of management and the Board of Directors.  The Company evaluated the exchange in accordance with ASC 718 and determined there was no incremental cost to be recorded in conjunction with the exchange as the fair value of the options surrendered at the modification date exceeded the fair value of the restricted shares issued at the modification date. Stock-based compensation expense related to these restricted stock grants was approximately $9,000 and $19,000 for the three and six months ended June 30, 2012, respectively and was $10,000 and $20,000 for the three and six months ended June 30, 2011, respectively.

 During March 2011, the Company granted 880,000 performance units to certain key employees that grant the holder the right to receive compensation based on the appreciation in the Company’s common stock in the event of transfer of control of the Company ("Performance Units").  As the vesting of the Performance Units is contingent upon the sale of the Company, the expense associated with the granting of the Performance Units was not material.  The Performance Units issued to such key employees were terminated, and exchanged for options to purchase a total of 435,000 shares of common stock during the three months ended March 31, 2012.

 A summary of the activity under the Company’s stock option plans is as follows: 

	Options			Weighted-Average Exercise Price
Balance at December 31, 2011		1,707,713		$	0.76
Granted		1,330,000		$	0.89
Expired/Cancelled		(21,894	)	$	0.97
Exercised		(5,756	)	$	0.30
Balance at June 30,2012		3,010,063		$	0.81

The weighted-average grant date fair value of options granted during the six months ended June 30, 2012 was $0.72.