(9) Convertible Debt and Other Debt 

We have entered into various convertible debentures. The convertible debentures have terms ranging from 12 to 24 months and subject to annual interest rates ranging from 2% to 9%. The proceeds received are net of fees. The lenders charge interest per annum based on the principal balance. The lenders have the right, at any time after 180 days from the issue date to convert any or part of the outstanding and unpaid principal and interest into shares of the Company’s common stock based on a volume weighted average price of the closing prices of the Company’s shares during various periods prior to conversion subject to adjustments for stock splits, stock dividends or rights offerings. The Company shall have the right to prepay the debenture for a payment of the outstanding principal plus unpaid interest at any time on or before six months after the effective date. If the Company chooses to prepay it will incur pre-payment penalties ranging from 9.5% to 38% of the principal balance. The Company is required to reserve shares of common stock for full conversion of these debentures. The maturity dates range from six months to two years after the effective date of the payment. The convertible debt as of December 31, 2015 are secured by the assets of the Company. The Company determined that the conversion feature met the definition of a liability in accordance with ASC 815-40 and therefore bifurcated the conversion feature on each debt agreement and accounted for it as a derivative liability. The fair value of the conversion feature was accounted for as a note discount and will be amortized to interest expense over the life of the loan. The fair value of the conversion feature was reflected in the conversion option liability line in the consolidated balance sheets. We will continue to classify the fair value of the conversion options as a liability until the conversion options are exercised, expire or are amended in a way that would no longer require these conversion options to be classified as a liability, whichever comes first.

The proceeds from these convertible debts were allocated between the host debt instrument and the convertible option based on the residual method. The estimated fair value of the convertible option was determined using a binomial formula, resulting in allocations to the convertible option and accounted for as a liability in the Company’s consolidated balance sheets. In accordance with the provisions of ASC 815-40, the gross proceeds are offset by debt discounts, which are amortized to interest expense over the expected life of the debt.

In connection with the senior secured convertible debentures issued in our still open $5 million private placement, we also issued warrants to the lenders to purchase an aggregate 8,767,857 shares of the Common Stock, at an exercise price of $0.40 per share, expiring five years after the issuance date.

ASC 470-20 states that the proceeds from the issuance of debt with detachable stock warrants should be allocated between the debt and warrants on the basis of their relative fair market values. The debt discount will be amortized to interest expense over the two-year term of these loans. The convertible debentures and warrants issued in connection with the convertible debentures are classified as derivative liabilities because the convertible debentures and warrants are entitled to certain rights in subsequent financings and these instruments contain “down-round protection” and therefore, do not meet the scope exception for treatment as a derivative under ASC 815, Derivatives and Hedging, (“ASC 815”). Since “down-round protection” is not an input into the calculation of the fair value of the convertible debentures and warrants, the instruments cannot be considered indexed to the Company’s own stock, which is a requirement for the scope exception as outlined under ASC 815. The estimated fair value of the warrants was determined using the binomial model, resulting in an allocation of $1,933,375 to the total warrants out of the gross proceeds of $4,910,000 at issuance date. The fair value will be affected by changes in inputs to that model including our stock price, expected stock price volatility, the contractual term, and the risk-free interest rate. We will continue to classify the fair value of the warrants as a liability until the warrants are exercised, expire or are amended in a way that would no longer require these warrants to be classified as a liability, whichever comes first.

The specific terms of the $5.4 million PIPE convertible debentures and outstanding balances as of December 31, 2015 are listed in the tables below.

1 The original issue discount is reflected in the first year.

2 The annual interest starts accruing in the second year.

Deferred finance fees include cash commissions amounting to $501,000 and the fair value of the 1,689,286 warrants issued to the placement agent amounting to $386,676. For the year ended December 31, 2015, the Company recognized amortization expense related to the debt discounts indicated above of $924,180. The unamortized debt discounts as of December 31, 2015 related to the convertible debentures amounted to $5,223,658.

As of December 31, 2015, the Company also had an outstanding convertible note with a third party amounting to $100,000. The note is convertible at a fixed rate of $0.25 and matures in July 2016.

 * The loans above either had outstanding balances as of December 31, 2014 or were issued in 2015 and subsequently paid off in 2015. 

The following table provides a summary of the changes in convertible debt, net of unamortized discount, during 2015:

Other Notes

 On June 6, 2014, we signed a Merchant Agreement with On Deck Capital. Under the agreement we received $150,000 in exchange for rights to all customer receipts until On Deck Capital is paid $190,499, to be collected at the rate of $756 per business day. The payments are secured by essentially all tangible assets of the Company. The Company paid On Deck Capital $3,750 in fees related to this transaction. The note was paid off in its entirety in 2015.

On January 15, 2015 we signed a Merchant Agreement with a lender. Under the agreement, we received $150,000 in exchange for rights to all customer receipts until the lender was paid $187,500, which was collected at the rate of $744 per business day. The payments were secured by essentially all tangible assets of the Company. $67,925 of the proceeds were used to pay off the outstanding balance of a previous loan from this lender. The Company paid $1,875 in fees in connection with this loan. The note was paid off in its entirety prior to December 31, 2015.

On January 29, 2015 we signed a Merchant Agreement with a lender. Under the agreement, we received $200,000 in exchange for rights to all customer receipts until the lender was paid $278,000, which was collected at the rate of $1,985 per business day. The payments were secured by essentially all tangible assets of the Company. The Company paid $999 in fees in connection with this loan. The note was paid off in its entirety prior to December 31, 2015.

On March 17, 2015 we signed a Merchant Agreement with a lender. Under the agreement, we received $50,000 in exchange for rights to all customer receipts until the lender was paid $67,450, which was collected at the rate of $559 per business day. The payments were secured by essentially all tangible assets of the Company. The Company paid $999 in fees in connection with this loan. The note was paid off in its entirety prior to December 31, 2015.

On May 29, 2015 we signed a Merchant Agreement with a lender. Under the agreement, we received $100,000 in exchange for rights to all customer receipts until the lender was paid $132,000, which was collected at the rate of $1,098 per business day. The Company paid $3,999 in fees in connection with this loan. The note was paid off in its entirety prior to December 31, 2015.

On August 28, 2015 we signed a Merchant Agreement with a lender. Under the agreement, we received $300,000 in exchange for rights to all customer receipts until the lender is paid $384,000, to be collected at the rate of $2,560 per business day. The payments are not secured. On the closing date, $131,710 of the proceeds were used to pay off the outstanding balances of two existing Notes. The Company paid $6,000 in fees in connection with this loan. The outstanding balance is recorded as other debt on the balance sheet.

During the year ended December 31, 2015, we signed three ninety-day notes with an investor. Under the terms of the notes, the Company received a total of $600,000. The investor converted these loans, plus $60,000 in accrued interest into the Company’s $5 million PIPE offering on July 21, 2015. There was no gain or loss on the conversion.

During the year ended December 31, 2015, the Company made payments of $587,949 in total on the non-convertible debt from non-related parties.

Related Party Notes

During the year ended December 31, 2015, the Company received advances from certain officers of the Company amounting to $6,300 and made payments of $12,300. These advances are non-interest bearing and payable on demand. As of December 31, 2015 there are no outstanding notes to related parties.