Derivative Liability

9 Months Ended

Sep. 30, 2014

Derivative Liability [Abstract]

Derivative Liability

Note 9 – Derivative Liability

On December 30, 2013, we entered into an agreement with Baytree Capital Partners LLC (“Baytree”) as our exclusive financial advisor for a period of twenty-four months upon the closing of the Merger to perform business and financial consulting services. Pursuant to this agreement, Baytree was issued warrants to purchase 4,250,000 shares of our common stock at an exercise price of $0.32 per share exercisable for a period of five years with cashless exercise provisions that will not vest for a period of six months from issuance. These warrants also contain a clause which provides that if we issue any Additional Shares (as defined below) without consideration or for a price per share less than the then current exercise price of these warrants, the exercise price shall automatically be deemed to be reduced to the price per share for such issuance. “Additional Shares” means the issuance of common stock or any common stock equivalent for a price less than the then-current exercise price of these warrants; provided, however, securities issued to officers, directors or employees of, or consultants to, the Company pursuant to stock option or stock purchase plans or agreements on terms approved by the board of directors will not be deemed to constitute “Additional Shares.”

In addition to the warrants, at the start of each six-month period during the twenty-four month term of this agreement, we agreed to issue to Baytree 100,000 shares of our common stock. If the current market value of these shares is less than $75,000, we will issue to Baytree such number of shares of our common stock necessary to make the value of this fee equal to $75,000 (the current market value for our common stock would be calculated as the average closing price for our common stock for the 30 trading days prior to the payment of this fee). On July 17, 2014, we issued 384,620 shares of our common stock pursuant to this provision of the financial advisory agreement with Baytree for the six-month periods ended July 6, 2014 and January 6, 2015. For the six-month period ended July 6, 2014, weissued 267,858 shares of our common stock based on the agreed share price of$0.28 or $75,000 For the six-month period ended January 6, 2015, we issued 116,762 shares of our common stock in advance based on the current market value calculation per the agreement of $0.64 per share but these shares were valued for accounting purposes at $0.28 per share based on the purchase price of $0.28 per share for our latest private placements due to the limited trading in our common stock, or $32,693. We recorded $19,459 and $90,292 of expense to financial advisory fees related to this provision during the three and nine months ended September 30, 2014, respectively.

Based on the clause in the warrants to purchase 4,250,000 that provides exercise price protection, these warrants are not considered to be indexed to our stock and therefore are considered a derivative financial instrument that should be recorded as a derivative liability. We estimate the fair value of the derivative liability using the Black-Scholes model. In applying the Black-Scholes model, we used the following key inputs and assumptions; the trading market value is based on the purchase price of $0.28 per share of our common stock in the private placements on December 31, 2013, June 18, 2014 and August 27, 2014 due to the limited trading in our common stock, the exercise price of the warrants of $0.32, the expected volatility of 80% is based on an analysis of historical volatility of a group of comparable publicly traded companies over a period equal to the expected life of the options, the expected term is based on the remaining term per the agreement and the risk-free rate is based on the rate of U.S. treasury securities with the same term.

Estimating fair values of derivative financial instruments requires the development of significant and subjective estimates that may, and are likely to, change over the duration of the instrument with related changes in internal and external market factors. In addition, option-based techniques (such as the Black-Scholes model) are highly volatile and sensitive to changes in the trading market price of our common stock. Since derivative financial instruments are initially and subsequently carried at fair values, our income (expense) going forward will reflect the volatility in these estimate and assumption changes. Under the terms of the accounting standard, increases in the trading price of our common stock and increases in fair value during a given financial quarter result in the application of non-cash derivative expense. Conversely, decreases in the trading price of our common stock and decreases in trading fair value during a given financial quarter result in the application of non-cash derivative income.

The following table summarizes the components of derivative liabilities as of September 30, 2014 and the initial measurement date of January 10, 2014:

	September 30,			January 10,
	2014			2014
Fair value of derivative liability	$	688,500		$	722,500
Significant assumptions (or ranges):
Trading market value	$	0.28		$	0.28
Expected term (years)		4.28			5.00
Expected volatility		80.0	%		80.0	%
Risk-free rate		1.52	%		1.64	%
Effective Exercise price	$	0.32		$	0.32

In relation to this derivative liability, we recorded $722,500 of expense to financial advisory fees for the three months ended March 31, 2014, $17,000 of income to financial advisory fees for the three months ended June 30, 2014 and $17,000 of income to change in fair market value of derivative liability for the three months ended September 30, 2014.