Sale of Convertible Notes

3 Months Ended

Sep. 30, 2012

Debt Disclosure [Abstract]

Sale of Convertible Notes

5. Sale of Convertible Notes

During January 2011, the Company entered into a series of Secured Loan Agreements with several individuals for the sale of secured convertible notes (the “Convertible Notes”) totaling $403,000. These are in addition to the $1,617,000 convertible notes issued during the year ending December 31, 2010. These individuals represent members of executive management, members of the board of directors, and significant shareholders. The Convertible Notes are for a term of two years, carry interest of 6% and are convertible into shares of common stock at the election of the holders of the Convertible Notes at $0.06 per share and, as long as the average share price of the Company’s common stock on the Over-the-Counter Bulletin Board remains above $0.06, at the election of the Company at $0.06 per share. The issuance of the Convertible Notes in the first quarter of 2011 does not represent a change of control as approximately 94% of the Convertible Notes were issued to shareholders of the Company that currently own approximately 34% of the Company’s outstanding share capital.

The Company recorded $67,167 in additional debt discount in 2011 related to the issuance of these convertible notes due to the beneficial conversion feature, which is shown as Additional Paid in Capital and reduction in the convertible notes payable. These discounts will be amortized over two years. The discount is based on the market value of the stock at the date of the note agreements which was $.07 per share.

In January 2011, the Company redeemed $20,000 of Convertible Notes.

The principle amount of the Convertible Notes may be converted into 33,333,334 shares of common stock, or approximately 279% of current outstanding shares of common stock. Accrued interest is also converted at $0.06 per share.

The Company also entered into a Security Agreement to secure payment and performance of its obligations under the Convertible Notes pursuant to which it granted the holders of the Convertible Notes a security interest in all of its assets.  The security granted is subordinated to a security interest granted to the Senior Debt. The Company’s sole active subsidiary also guaranteed all amounts owed by the Company under the Convertible Notes. Accrued interest is also converted at $0.06 per share.

Amortization expense related to the Convertible Note discounts was $115,750 for the nine months ending September 30, 2012 and is included in interest expense.

There is no more remaining amortization period for the discount related to the first tranche of $1,332,000, 3 months remains for second tranche of $285,000, and 3 months remains for the third tranche of $383,000, net of redemptions.

Interest expense recorded on these notes amounted to $415,000 for the nine months ended September 30, 2012 yielding an effective interest rate of 27.7%. The unamortized discount was approximately $14,000 at September 30, 2012.