6. SHAREHOLDERS' EQUITY

9 Months Ended

Sep. 30, 2016

Equity [Abstract]

6. SHAREHOLDERS' EQUITY

Common Stock

The Company has authorized 75,000,000 shares of $0.025 par value common stock. At September 30, 2016 and December 31, 2015 there were 1,194,051 and 1,051,933 shares issued and outstanding.

Treasury Stock

During 2014, the Company’s Board of Directors authorized a stock repurchase of 11,500 shares of its common stock for approximately $230,000 at an average price of $20.00 per share. At September 30, 2016 and December 31, 2015 the Company holds 11,500 shares of its common stock in its treasury.

Preferred Stock

The Company has authorized 5,000,000 shares of Preferred Stock, for which three classes have been designated to date. Series A has 51 and 51 shares issued and outstanding, Series B has 71,210 and 71,210 shares issued and outstanding and series C has 35,750 and 0 shares issued and outstanding, as of September 30, 2016 and December 31, 2015, respectively.

Each share of Series A Preferred Stock has no conversion rights, is senior to any other class or series of capital stock of the Company and has special voting rights. Each one (1) share of Series A Preferred Stock shall have voting rights equal to (x) 0.019607 multiplied by the total issued and outstanding Common Stock eligible to vote at the time of the respective vote (the “Numerator”), divided by (y) 0.49, minus (z) the Numerator.

Holders of Series B Preferred Stock shall be entitled to receive when and if declared by the Board of Directors cumulative dividends at the rate of twelve percent (12%) of the Original Issue Price. In the event of any liquidation, dissolution or winding up of the Company, either voluntary or involuntary, the holders of Series B Preferred Stock shall be entitled to receive, immediately prior and in preference to any distribution to holders of the Company’s common stock, an amount per share equal to the sum of $100.00 and any accrued and unpaid dividends of the Series B Preferred Stock. Each share of Series B Preferred Stock may be converted at the option of the holder into the Company’s Common stock. The shares shall be converted using the “Conversion Formula”: divide the Original Issue Price by 75% of the average closing bid price of the Common Stock for the five (5) consecutive trading days ending on the trading day of the receipt by the Company of the notice of conversion.

At September 30, 2016 and December 31, 2015, the Company’s Series B Preferred Stock dividends in arrears on the 12% cumulative preferred stock were approximately $1,673,000 ($23.50 per share) and $1,033,000 ($14.50 per share), respectively.

Series C

The Company has authorized for issuance up to 67,361 shares of Series C Preferred Stock (“Series C”). Each share of Series C: (a) has a stated value of equal to $100 per share; (b) has a par value of $0.001 per share; (c) accrues fixed rate dividends at a rate of eight percent per annum; (d) are convertible at the option of the holder into 89.28 shares of common Stock (conversion price of $1.12 per share based off stated value of $100); (e) votes on an ‘as converted’ basis; (f) has liquidation (including deemed liquidations related to certain fundamental transactions) privileges of $1.12 per share. The Series C expire 15 months after issuance.

Further, in the event of a Qualified Offering, the shares of Series C Preferred Stock will be automatically converted at the lower of $1.12 per share or the per share price that reflects a 20% discount to the price of the Common Stock pursuant to such Qualified Offering. A "Qualified Offering" is defined as an underwritten offering by the Company pursuant to which (1) the Company receives aggregate gross proceeds of at least $20,000,000 in consideration of the purchase of shares of Common Stock or (2) (a) the Company receives aggregate gross proceeds of at least $15,000,000 in consideration of the purchase of shares of Common Stock and (b) the Common Stock becomes listed on The Nasdaq Capital Market, the New York Stock Exchange, or the NYSE MKT.

In addition, if after six months from the date of the issuance until the expiration date, the holder converts a Series C security to common stock and sells such common stock for total proceeds that do not equal or exceed such holder’s purchase price, the Company is obligated to issue additional shares of common stock in an amount sufficient such that, when sold and the net proceeds are added to the net proceeds of the initial sale, the holder shall have received funds equal to that of the holder’s initial purchase price (“Shortfall Provision”).

The Company evaluated the Series C in accordance with ASC 815 – Derivatives and Hedging, to discern whether any feature(s) required bifurcation and derivative accounting. The Company noted the Shortfall Provision has variable settlement based upon an item (initial purchase price) that is not an input into a fixed for fixed price model, thus such provision is not considered indexed to the Company’s stock. Accordingly, the Shortfall Provision was bifurcated and accounted for as a derivative liability. In addition, given the Series C has deemed liquidation privileges that could require redemption outside the control of the issuer, the Series C is classified within the mezzanine section of the Condensed Consolidated Balance Sheet.

Third Quarter Series C Offering

During the three months ended September 30, 2016, the Company sold 12,750 shares of Series C for gross proceeds of $1.275 million. These proceeds were allocated between the Shortfall Provision derivative liability ($310,000) and the host Series C instrument ($965,000). After such allocation, the Company noted that the Series C had a beneficial conversion feature of $265,000 which was recognized as a deemed dividend.

Also during the three months ended September 30, 2016, the Company issued 23,000 shares of Series C to repurchase the 2,053,573 shares of common stock and related shortfall provision derivative issued in June 2016. Given the transaction was predominantly the repurchase of common stock that was immediately retired, the Company accounted for this as a treasury stock transaction. The Series C was recorded at a fair value of $2.3 million ($620,000 of which was allocated to the Shortfall Provision), the top off provision (which was $246,000 at the time of exchange) was written off, and a beneficial conversion feature of $373,000 was recognized immediately as a deemed dividend.

Derivative Footnote

As noted above, the common stock issuance during June 2016 included a top off provision that was extinguished in August 2016. Such provision was valued using an intrinsic measurement and such value was $246,000 at the time of extinguishment.

In addition, the Series C included a Shortfall Provision that required bifurcation and to be accounted for as a derivative liability. The fair value of the Shortfall Provision was calculated using a Monte Carlo simulated put option Black Scholes Merton Model. The cumulative fair values at respective date of issuances and September 30, 2016 were $930,000 and $1.1 million, respectively. The key assumptions used in the model at inception and at September 30, 2016 are as follows:

	Inception	9/30/2016
Stock Price	$0.00 - $3.00	$0.00 - $1.76
Exercise Price	$1.12	$1.12
Term	.5 years	0.3 to 0.42 years
Risk Free Interest Rate	.39% - .47%	0.29%
Volatility	60%	60%
Dividend Rate	0%	0%

The roll forward of the Shortfall Provision derivative liability is as follows

Balance – June 30, 2016	$	-
Issuances of Series C		930,048
Fair Value Adjustment		180,541
Balance – September 30, 2016	$	1,110,589

Common Stock Transactions

During the nine months ended September 30, 2016 and the year ended December 31, 2015, the Company issued, 244,788 and 553,762 shares of common stock, respectively. The fair values of the shares of common stock were based on the quoted trading price on the date of issuance. Of the 244,788 shares issued for the nine months ended September 30, 2016, the Company:

1. Issued 25,859 of these shares were issued to vendors for services rendered generating a professional fees expense of $778,985;

2. Issued 115,000 of these shares to officers and employees as incentive compensation resulting in compensation expense of $3,550,000;

3. Issued 102,679 shares of common stock as part of a private placement offering to accredited investors for aggregate gross proceeds to the Company of $2,342,500. The Company capitalized certain issuance costs associated with this offering of approximately $264,000, including the fair value of approximately 1,800 common shares issued to the placement agent. These common shares include a top-off provision. Specifically, if a subscriber were to sell the common shares within a 1 year period from the subscription agreement and such sales proceeds do not equal the investment amount of the subscriber, a warrant will vest. The Company accounted for this top-off provision as a separate liability with a fair value of 0 at June 30, 2016. In August of 2016 these 102,679 common shares were exchanged on a dollar for dollar basis for 23,000 shares of preferred stock, series C. This exchange was recorded as a capital transaction. The 102,679 common shares were retired in August of 2016.

The Company has issued and outstanding warrants of 104,314 common shares, as adjusted, with the current exercise price of $4.31, as adjusted, expiring December 31, 2023.

There were no outstanding warrants at September 30, 2015. A summary of the status of the Company's outstanding stock warrants for the period ended September 30, 2016 is as follows:

	Number of Shares		Average Exercise Price		If exercised		Expiration Date
Outstanding - December 31, 2015		83,678		-	$	449,518		-
Granted - Goldman, Sachs & Co.		20,636	$	4.31		-		-
Forfeited		-		-		-		-
Exercised		-		-		-		-
Outstanding, September 30, 2016		104,314	$	4.31	$	449,518
Warrants exercisable at September 30, 2016		104,314