Note 4 – Earnings or Loss Per Share
Basic earnings and loss per share is calculated by dividing the net earnings or loss by the weighted average number of common shares
outstanding for the period. Diluted earnings per share is calculated by dividing the net earnings by the weighted average number of common shares and the dilutive effect of common share equivalents outstanding for the period. For the purposes of
this calculation, restricted stock, stock options and warrants are considered to be common share equivalents, and are determined using the treasury stock method. Common share equivalents are only included in the calculation of diluted earnings or
loss per share when their effect is dilutive. There is no difference between basic loss per share and diluted loss per share, because the effect on the earnings per share is anti dilutive for the nine months ended September 30, 2010 and 2011 and the
three months ended September 30, 2010. The Company had a profit of $1,172,000 for the three months ended September 30, 2011, and, therefore, the effect of an additional 7.3 million warrants would be dilutive to earnings per share. The computed
effect is $0.00 resulting in dilutive earnings per share of $0.01. For the three and nine months ended September 30, 2011, the number of restricted stock, stock options and warrants not included in the computation totaled 75 million and 102
million, respectively. In both the three and nine months ended September 30, 2010 the number of restricted stock, stock options and warrants not included in the computation totaled 33.3 million.
Note 5 – Convertible Preferred Stock
On February 14, 2011, we completed a public offering of 1,667 shares of our convertible preferred stock at a price of $1,000 per
share, with an original issue discount of 4%, for gross proceeds of $1.6 million. The convertible preferred stock was convertible into 16,670,000 shares of common stock at a conversion price of $0.10 per share. The conversion price was also subject
to adjustment if the Company issued equity securities (other than certain excluded securities) at a price per share less than the conversion price, such that the conversion price would equal the price per share of such equity securities. The
convertible preferred stock was subject to automatic conversion, subject to the satisfaction of certain customary equity conditions, in four equal monthly installments commencing with March 17, 2011. The conversion price on each automatic
conversion date was equal to the lower of (i) the conversion price then in effect or (ii) 85% of the average of the three lowest closing bid prices of the Company’s common stock during the 20 trading day period prior to automatic
conversion date. The Company could elect, at its option but subject to the satisfaction of certain conditions, to redeem the shares of convertible preferred stock in lieu of an automatic conversion occurring.
The estimated fair value of the convertible preferred stock and related conversion feature at issuance was $3,250,000. In accordance with FASB ASC 815
Derivatives and Hedging, the original fair value of the embedded conversion feature of $1,579,000 has been recorded as conversion feature liability. The original fair value was computed using the Black-Scholes model under the following
assumptions: (1) expected life of .33 years; (2) volatility of 116%; (3) risk free interest of 2.26%, and (4) dividend rate of 0%. In addition, the Company is required to report the conversion liability at fair value and record
the fluctuation to the fair value of the conversion feature liability to current operations.
As convertible preferred stock converted into
common stock, the Company reduces the fair value of the conversion feature attributable to the convertible preferred shares converted and records the value as additional paid in capital. During the six months ended June 30, 2011, the Company
recognized the remaining $962,000 of the conversion feature liability in connection with the remaining shares that were converted.
The change
in the fair value of the conversion feature liability resulted in a net gain of $27,000 for the nine month period ended September 30, 2011. The fair value of conversion feature outstanding at September 30, 2011 was $0 since all of the
remaining shares were converted through June 30, 2011.
The investors also received Series PA Warrants, with a 5 year term from its
initial exercise date, to purchase up to 16,670,000 shares of common stock at an exercise price of $0.15 per share; Series PB Warrants, with a 1 year term, to purchase up to 16,670,000 shares of common stock at an exercise price of $0.10 per share;
and Series PC Warrants, with a 5 year term from its initial exercise date, to purchase up to 16,670,000 shares of common stock at an exercise price of $0.15 per share. The Series PC Warrants may be exercised by the investors only to the extent and
in the same percentage that the investors exercise its Series PB Warrants. The Series PB Warrants are immediately exercisable, while the other warrants are only exercisable after June 8, 2012. As discussed in Note 6, the Company estimated the
fair value of the Series PA, PB and PC Warrants on the grant date of February 14, 2011 to be $7,087,000.
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