CONVERTIBLE NOTES PAYABLE, AT FAIR VALUE

3 Months Ended

Sep. 30, 2013

Debt Disclosure [Abstract]

CONVERTIBLE NOTES PAYABLE, AT FAIR VALUE

NOTE 9 – CONVERTIBLE NOTE PAYABLE, AT FAIR VALUE

Convertible Note Payable Dated October 22, 2012 at Fair Value

On October 22, 2012, the Company entered into a convertible note payable with a corporation.  The convertible note payable, with a face value of $42,500, bears interest at 8.0% per annum and is due on July 24, 2013.  The convertible note payable is convertible, at the holder’s option, into the Company’s common shares at the Variable Conversion Price.  The Variable Conversion Price is defined as 60% multiplied by the average of the lowest two trading prices for the Company’s common stock during the twenty five trading day period ending one trading day prior to the date the convertible note payable is sent by the holder to the Company.  The conversion feature is subject to full-ratchet, anti-dilution protection if the Company sells shares or share-indexed financing instruments at less than the conversion price.  The holder has the option to redeem the convertible note payable for cash in the event of defaults or certain other contingent events (the “Default Put”).

In the evaluation of the financing arrangement, the Company concluded that the conversion feature did not meet the conditions set forth in current accounting standards for equity classification.  Since equity classification is not available for the conversion feature, it requires bifurcation and liability classification, at fair value. The Company also concluded that the Default Put required bifurcation because, while puts on debt instruments are generally considered clearly and closely related to the host, the Default Put is indexed to certain events that are not associated with the convertible note payable.

The Company elected to account for this hybrid contract under the guidance of ASC 815-15-25-4.

In connection with the issuance of the convertible note payable on October 22, 2012, the Company encountered the unusual circumstance of a day-one derivative loss related to the recognition of (i) the hybrid note and (ii) the derivative instrument arising from the fair value measurement due to the fair value of the hybrid note and embedded derivative exceeding the proceeds that the Company received from the arrangement.  Therefore, the Company was required to record a loss on the derivative financial instrument.  In addition, the fair value will change in future periods, based upon changes in the Company’s common stock price and changes in other assumptions and market indicators used in the valuation techniques.  These future changes will be currently recognized in interest expense or interest income on the Company’s statement of operations. 

The holder of this convertible note has the right to convert the balance of the note into shares of the Company’s common stock at a substantial discount to the current market price of the shares. The conversion of the note into shares of the Company’s common stock is potentially highly dilutive to current shareholders. If the note holder elects to sell the shares that it has acquired as a result of converting the note into shares of common stock, then any such sales may result in a significant decrease in the market price of the Company’s shares.

Additionally, the holder of this convertible note has substantial rights and protections regarding dilution if certain events, including a default were to occur. There are a number of events that could trigger a default, including but not limited to failure to pay principal or interest, failure to issue shares under the conversion feature, breach of covenants, breach of representations and warranties, appointment of a receiver or trustee, judgments, bankruptcy, delisting of common stock, failure to comply with the exchange act, liquidation, cessation of operations, failure to maintain assets, material financial statement restatement, reverse split of borrowers stock, etc. In the event of that any of these events were to occur then the lender would be entitled to receive significant amounts of additional shares of the Company’s stock above the amounts for conversion and such occurrence would be highly dilutive to the Company’s shareholders.

Furthermore, there are additional events that could cause the lender to be owed additional shares of common stock above and beyond the shares due from a conversion. Some of these events include, but are not limited to a merger or consolidation of the Company, dividend distribution or spin off, dilutive issuances of the Company’s stock, etc. If the lender receives additional shares of the Company’s commons stock due to any of the foregoing events or for other reasons, then this may have an extremely dilutive effect on the shareholders of the Company. Such dilution would likely result in a significant drop in the per share price of the Company’s common stock. The potential dilutive nature of this note presents a very high degree of risk to the Company and its shareholders.

During the nine months ended September 30, 2013, the Company repaid $30,000 in principal and the remaining $12,500 in principal was converted into 1,136,364 shares of the Company’s common stock. At September 30, 2013 and December 31, 2012, the convertible note payable, at fair value, was recorded at $0 and $90,047, respectively.

Convertible Note Payable Dated December 18, 2012 at Fair Value

On December 18, 2012, the Company entered into a convertible note payable with a corporation.  The convertible note payable, with a face value of $42,500, bears interest at 8.0% per annum and is due on September 20, 2013.  The convertible note payable is convertible, at the holder’s option, into the Company’s common shares at the Variable Conversion Price.  The Variable Conversion Price is defined as 60% multiplied by the average of the lowest two trading prices for the Company’s common stock during the twenty five trading day period ending one trading day prior to the date the convertible note payable is sent by the holder to the Company.  The conversion feature is subject to full-ratchet, anti-dilution protection if the Company sells shares or share-indexed financing instruments at less than the conversion price.  The holder has the option to redeem the convertible note payable for cash in the event of defaults or certain other contingent events (the “Default Put”).

In the evaluation of the financing arrangement, the Company concluded that the conversion feature did not meet the conditions set forth in current accounting standards for equity classification.  Since equity classification is not available for the conversion feature, it requires bifurcation and liability classification, at fair value. The Company also concluded that the Default Put required bifurcation because, while puts on debt instruments are generally considered clearly and closely related to the host, the Default Put is indexed to certain events that are not associated with the convertible note payable.

The Company elected to account for this hybrid contract under the guidance of ASC 815-15-25-4.

In connection with the issuance of the convertible note payable on December 18, 2012, the Company encountered the unusual circumstance of a day-one derivative loss related to the recognition of (i) the hybrid note and (ii) the derivative instrument arising from the fair value measurement due to the fair value of the hybrid note and embedded derivative exceeding the proceeds that the Company received from the arrangement.  Therefore, the Company was required to record a loss on the derivative financial instrument.  In addition, the fair value will change in future periods, based upon changes in the Company’s common stock price and changes in other assumptions and market indicators used in the valuation techniques.  These future changes will be currently recognized in interest expense or interest income on the Company’s statement of operations.

The holder of this convertible note has the right to convert the balance of the note into shares of the Company’s common stock at a substantial discount to the current market price of the shares. The conversion of the note into shares of the Company’s common stock is potentially highly dilutive to current shareholders. If the note holder elects to sell the shares that it has acquired as a result of converting the note into shares of common stock, then any such sales may result in a significant decrease in the market price of the Company’s shares.

Additionally, the holder of this convertible note has substantial rights and protections regarding dilution if certain events, including a default were to occur. There are a number of events that could trigger a default, including but not limited to failure to pay principal or interest, failure to issue shares under the conversion feature, breach of covenants, breach of representations and warranties, appointment of a receiver or trustee, judgments, bankruptcy, delisting of common stock, failure to comply with the exchange act, liquidation, cessation of operations, failure to maintain assets, material financial statement restatement, reverse split of borrowers stock, etc. In the event of that any of these events were to occur then the lender would be entitled to receive significant amounts of additional shares of the Company’s stock above the amounts for conversion and such occurrence would be highly dilutive to the Company’s shareholders.

Furthermore, there are additional events that could cause the lender to be owed additional shares of common stock above and beyond the shares due from a conversion. Some of these events include, but are not limited to a merger or consolidation of the Company, dividend distribution or spin off, dilutive issuances of the Company’s stock, etc. If the lender receives additional shares of the Company’s commons stock due to any of the foregoing events or for other reasons, then this may have an extremely dilutive effect on the shareholders of the Company. Such dilution would likely result in a significant drop in the per share price of the Company’s common stock. The potential dilutive nature of this note presents a very high degree of risk to the Company and its shareholders.

During the nine months ended September 30, 2013, the full $42,500 in principal and $1,700 in accrued interest was converted into 3,226,278 shares of the Company’s common stock. At September 30, 2013 and December 31, 2012, the convertible note payable, at fair value, was recorded at $0 and $93,195, respectively.

The following tables summarize the effects on earnings associated with changes in the fair values of the convertible note payable, at fair value for the three months ended September 30, 2013 and 2012:  

	For the three months ended
	September 30,			September 30,
	2013			2012
Interest expense recorded upon issuance of the convertible note payable		$	--		$	--
Interest income (expense) on fair value re-measurement of the convertible note payable			19,092			(35,685	)
		$	19,092		$	(35,685	)

The following tables summarize the effects on earnings associated with changes in the fair values of the convertible note payable, at fair value for the nine months ended September 30, 2013 and 2012:  

	For the nine months ended
	September 30,			September 30,,
	2013			2012
Interest expense recorded upon issuance of the convertible note payable		$	--		$	(100,793	)
Interest income (expense) on fair value re-measurement of the convertible note payable			23,556			151,071
		$	23,556		$	50,278