Derivative Liabilities



	September 30,		December 31,
	2014		2013
Series C preferred embedded derivative	$	13,574	$	3,761
Warrant derivative		6,551		2,146
Derivative liabilities, at fair value	$	20,125	$	5,907

Series C Convertible Preferred Stock and Warrants

The conversion feature embedded in the Series C convertible preferred stock was evaluated, and it was determined that the conversion feature should be bifurcated from its host instrument and accounted for as a freestanding derivative. In addition the common stock warrants issued with the Series C convertible preferred stock were also determined to be freestanding derivatives.

The amendment to the Company’s articles of incorporation, setting forth the terms of the Series C convertible preferred stock, the host instrument, includes an antidilution provision that requires an adjustment in the common stock conversion ratio should subsequent issuances of the Company’s common stock be issued below the instruments’ original conversion price of $8.00 per share. Accordingly we bifurcated the embedded conversion feature which is shown as a derivative liability recorded at fair value on the accompanying consolidated balance sheets as of September 30, 2014 and December 31, 2013. As a result of a subscription rights offering by the Company which concluded on June 6, 2014, the conversion price of the Series C convertible stock, pursuant to its terms, was adjusted to $1.60, the exercise price of the subscription rights for a share of common stock. The antidilution provision continues to be in effect, and treatment of the embedded conversion feature as a derivative liability remains unchanged.

The agreement setting forth the terms of the common stock warrants issued to the holders of the Series C convertible preferred stock also includes an antidilution provision that requires a reduction in the warrants’ exercise price of $9.60 should the conversion ratio of the Series C convertible preferred stock be adjusted due to antidilution provisions. Accordingly, the warrants do not qualify for equity classification, and, as a result, the fair value of the derivative is shown as a derivative liability on the accompanying consolidated balance sheets as of September 30, 2014 and December 31, 2013. As a result of a subscription rights offering by the Company which concluded on June 6, 2014, the exercise price of the warrants for a share of common stock was adjusted to $1.92, equal to 120% of the adjusted conversion price of the Series C convertible preferred stock. The antidilution provision remains in effect, and treatment of the warrants as a derivative liability remains unchanged.

Convertible Loan

On January 9, 2014, we entered into an unsecured convertible loan agreement with Real Estate Strategies, L.P. (“RES”), for a revolving line of credit of up to $2.0 million with an annual interest rate equal to LIBOR plus 7%. During the first quarter, the Company borrowed the full amount of $2.0 million available under the loan agreement. RES, pursuant to rights under the loan, applied the loan amount to purchase 1,250,000 shares of common stock on June 6, 2014, from the Company in the subscription rights offering at a rate per share of $1.60.

The Company analyzed the conversion options for derivative accounting consideration under ASC 815-15 “Derivatives and Hedging” and determined that the conversion feature should be bifurcated from its host instrument and accounted for as a freestanding derivative liability due to there being no explicit limit to the number of shares to be delivered upon settlement of the above conversion options.

The initial fair value of the conversion feature was determined to be $150,538 and was recorded as a derivative liability with the offset recorded as a debt discount against the $2.0 million convertible loan. Embedded derivatives are to be recorded at fair value each period with the changes in value recorded to earnings. The $2.0 million loan was converted and used by RES to purchase 1,250,000 shares of common stock from the Company in the subscription rights offering. On June 11, 2014, the effective purchase date, $1,950,000, the fair value of the shares issued, was recorded in equity, and a gain of $88,000 was recorded in other income to reflect the change in fair value from March 31, 2014 to the date of conversion of the convertible loan, amortized debt discount, and the separately accounted for embedded derivative. Amortization of $38,000 of the initial debt discount of $150,538 was determined using the straight line method, which approximates the effective interest method, and was reflected in interest expense. The amortization expense was calculated through the date of conversion. In addition $11,267 of loan expense which was shown in the balance sheet as deferred financing was released and reflected in loss on debt extinguishment upon conversion in the statement of earnings.