Zerify, Inc. - Quarter Report: 2014 March (Form 10-Q)

 

UNITED STATES

SECURITIES EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

  X .

QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.

For the quarterly period ended March 31, 2014

      .

TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.

For the transition period from   to   

 

STRIKEFORCE TECHNOLOGIES, INC.

(Exact name of registrant as specified in its Charter)

 

WYOMING	000-55012	22-3827597
(State or other jurisdiction of	(Commission file number)	(I.R.S. Employer Identification No.)
incorporation or organization)

   

1090 King Georges Post Road, Suite 603

Edison, NJ  08837

                                        (Address of Principal Executive Offices)   

(732) 661-9641

(Issuer’s telephone number)

Securities registered pursuant to Section 12(b) of the Exchange Act:

 

Title of each class	Name of each exchange on which registered
N/A	N/A

Securities registered pursuant to Section 12(g) of the Exchange Act:

 

Common stock, $0.0001 par value

Title of Class

 

Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes   X .  No       .

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such a shorter period that the registrant was required to submit and post such files).    Yes   X .    No       .

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or smaller reporting company. See definition of “accelerated filer”, “large accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer	.	Accelerated filer	.
Non-accelerated filer	.	Smaller reporting company	X .

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act. Yes       .  No   X . 

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Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Class		Outstanding at May 12, 2014
Common stock, $0.0001 par value		7,806,578

Indicate the number of shares outstanding of each of the issuer’s classes of preferred stock, as of the latest practicable date.

Class		Outstanding at May 12, 2014
Preferred stock, Series A, no par value		3

Class		Outstanding at May 12, 2014
Preferred stock, Series B, $0.10 par value		75,336

Transitional Small Business Disclosure Format   Yes       .   No   X .

 

Documents Incorporated By Reference

None

 

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STRIKEFORCE TECHNOLOGIES, INC.

FORM 10-Q

FOR THE THREE MONTHS ENDED MARCH 31, 2014 AND 2013

TABLE OF CONTENTS

 

CERTIFICATIONS

Exhibit 31 – Management certification

Exhibit 32 – Sarbanes-Oxley Act

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PART I

 

ITEM 1.  FINANCIAL STATEMENTS AND NOTES TO INTERIM FINANCIAL STATEMENTS

The accompanying unaudited interim financial statements have been prepared in accordance with the instructions to Form 10-Q.  Therefore, they do not include all information and footnotes necessary for a complete presentation of financial position, results of operations, cash flows, and stockholders' equity in conformity with generally accepted accounting principles.  Except as disclosed herein, there has been no material change in the information disclosed in the notes to the financial statements included in the Company's annual report on Form 10-K for the year ended December 31, 2013, filed April 14, 2014.  In the opinion of management, all adjustments considered necessary for a fair presentation of the results of operations and financial position have been included and all such adjustments are of a normal recurring nature.  Operating results for the three months ended March 31, 2014 are not necessarily indicative of the results that can be expected for the year ending December 31, 2014.

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StrikeForce Technologies, Inc.

March 31, 2014 and 2013

Index to the Financial Statements

Contents Page(s)

Balance Sheets at March 31, 2014 (Unaudited) and December 31, 2013 6 Statements of Operations for the Three Months Ended March 31, 2014 and 2013 (Unaudited) 7 Statement of Stockholders’ Deficit for the Interim Period Ended March 31, 2014 (Unaudited) 8 Statements of Cash Flows for the Three Months Ended March 31, 2014 and 2013 (Unaudited) 9 Notes to the Financial Statements(Unaudited) 10

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See accompanying notes to the financial statements.

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STRIKEFORCE TECHNOLOGIES, INC.
STATEMENTS OF OPERATIONS
			For the Three Months
			Ended
			March 31, 2014			March 31, 2013
			(Unaudited)			(Unaudited)
Revenue		$	90,901		$	160,991
Cost of revenue			6,879			5,407
Gross margin			84,022			155,584
Operating expenses:
Compensation			84,634			92,662
Professional fees			125,738			86,561
Selling, general and administrative expenses			118,942			83,122
Research and development			83,200			84,500
Total operating expenses			412,514			346,845
Loss from operations			(328,492)			(191,261)
Other (income) expense:
Interest and financing expense			353,269			231,225
Change in fair value of derivative liabilities			68,760			228,287
Other (income) expense, net			422,029			459,512
Income tax provision			-			-
Net loss		$	(750,521)		$	(650,773)
Net loss per common share - basic and diluted		$	(0.19)		$	(2.41)
Weighted average common shares outstanding
- basic and diluted			3,869,076			269,518

See accompanying notes to the financial statements.

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See accompanying notes to the financial statements.

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STRIKEFORCE TECHNOLOGIES, INC.
STATEMENTS OF CASH FLOWS
		For the Three Months			For the Three Months
		Ended			Ended
		March 31, 2014			March 31, 2013
		(Unaudited)			(Unaudited)
Cash flows from operating activities:
Net loss		$	(750,521)		$	(650,773)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization			2,449			1,970
Amortization of discount on notes payable			244,373			117,633
Change in fair value of derivative financial instruments			68,760			228,287
Issuance of stock options for employee services			-			3,750
Issuance of common stock and warrants for consulting services			819			1,590
Changes in operating assets and liabilities:
Accounts receivable			8,443			5,030
Prepaid expenses			22,757			(3,451)
Accounts payable			15,362			9,588
Accrued expenses			128,193			117,494
Garnishment withheld			1,500			-
Common stock to be issued			(1)			(19)
Net cash used in operating activities			(257,866)			(168,901)
Cash flows from investing activities:
Purchases of property and equipment			(605)			-
Net cash used in investing activities			(605)			-
Cash flows from financing activities:
Proceeds from sale of series B preferred stock			63,000			-
Repayment of notes payable			-			(7,824)
Proceeds from convertible notes payable			277,000			70,250
Repayment of convertible notes payable			-			(2,500)
Proceeds from notes payable			50,000			-
Net cash provided by financing activities			390,000			59,926
Net change in cash			131,529			(108,975)
Cash at beginning of the year			7,559			133,279
Cash at end of the period		$	139,088		$	24,304
Supplemental disclosure of cash flow information:
Interest paid		$	-		$	-
Income tax paid		$	-		$	-
Non-cash investing and financing activities:
Conversion of convertible notes payable into common stock		$	266,037		$	62,280
Issuance of stock options for patent		$	-		$	18,000
Issuance of common stock for common stock to be issued		$	(1)		$	-

See accompanying notes to the financial statements.

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StrikeForce Technologies, Inc.

March 31, 2014 and 2013

Notes to the Financial Statements

(Unaudited)

Note 1 - Organization and Operations

StrikeForce Technical Services Corporation was incorporated in August 2001 under the laws of the State of New Jersey. On September 3, 2004, the stockholders approved an amendment to the Certificate of Incorporation to change its name to StrikeForce Technologies, Inc. (the “Company”). On November 15, 2010, the Company was re-domiciled under the laws of the State of Wyoming. The Company’s operations are based in Edison, New Jersey.

The Company is a software development and services company.  The Company owned the exclusive right to license and has developed various identification protection software products that were developed to protect computer networks from unauthorized access and to protect network owners and users from identity theft.  The Company has developed a suite of products based upon the licenses and its strategy is to develop and exploit the products for customers in the areas of financial services, e-commerce, corporate, government, health care and consumer sectors.

Note 2 - Significant and Critical Accounting Policies and Practices

The Management of the Company is responsible for the selection and use of appropriate accounting policies and the appropriateness of accounting policies and their application.  Critical accounting policies and practices are those that are both most important to the portrayal of the Company’s financial condition and results and require management’s most difficult, subjective, or complex judgments, often as a result of the need to make estimates about the effects of matters that are inherently uncertain. The Company’s significant and critical accounting policies and practices are disclosed below as required by generally accepted accounting principles.

Basis of Presentation -Unaudited Interim Financial Information

The accompanying unaudited financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information and with the rules and regulations of the United States Securities and Exchange Commission to Form 10-Q and Article 8 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements.  In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation of the financial position, results of operations and cash flows for the interim periods have been included.  Interim results are not necessarily indicative of the results for the full year. These financial statements should be read in conjunction with the financial statements of the Company for the year ended December 31, 2013 and notes thereto contained in the Annual Report on Form 10-K of the Company as filed with the United States Securities and Exchange Commission (“SEC”) on April 14, 2014.

Use of Estimates and Assumptions

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date(s) of the financial statements and the reported amounts of revenues and expenses during the reporting period(s).

Critical accounting estimates are estimates for which (a) the nature of the estimate is material due to the levels of subjectivity and judgment necessary to account for highly uncertain matters or the susceptibility of such matters to change and (b) the impact of the estimate on financial condition or operating performance is material. The Company’s critical accounting estimates and assumptions affecting the financial statements were:

(i)

Allowance for doubtful accounts: Management’s estimate of the allowance for doubtful accounts is based on historical sales, historical loss levels, and an analysis of the collectability of individual accounts; and general economic conditions that may affect a client’s ability to pay. The Company evaluated the key factors and assumptions used to develop the allowance in determining that it is reasonable in relation to the financial statements taken as a whole.

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(ii)

Fair value of long-lived assets: Fair value is generally determined using the asset’s expected future discounted cash flows or market value, if readily determinable.  If long-lived assets are determined to be recoverable, but the newly determined remaining estimated useful lives are shorter than originally estimated, the net book values of the long-lived assets are depreciated over the newly determined remaining estimated useful lives. The Company considers the following to be some examples of important indicators that may trigger an impairment review: (i) significant under-performance or losses of assets relative to expected historical or projected future operating results; (ii) significant changes in the manner or use of assets or in the Company’s overall strategy with respect to the manner or use of the acquired assets or changes in the Company’s overall business strategy; (iii) significant negative industry or economic trends; (iv) increased competitive pressures; (v) a significant decline in the Company’s stock price for a sustained period of time; and (vi) regulatory changes.  The Company evaluates acquired assets for potential impairment indicators at least annually and more frequently upon the occurrence of such events.

(iii)

Valuation allowance for deferred tax assets: Management assumes that the realization of the Company’s net deferred tax assets resulting from its net operating loss (“NOL”) carry–forwards for Federal income tax purposes that may be offset against future taxable income was not considered more likely than not and accordingly, the potential tax benefits of the net loss carry-forwards are offset by a full valuation allowance. Management made this assumption based on (a) the Company has incurred recurring losses, (b) general economic conditions, and (c) its ability to raise additional funds to support its daily operations by way of a public or private offering, among other factors.

(iv)

‘Estimates and assumptions used in valuation of equity instruments: Management estimates expected term of share options and similar instruments, expected volatility of the Company’s common shares and the method used to estimate it, expected annual rate of quarterly dividends, and risk free rate(s) to value share options and similar instruments.

These significant accounting estimates or assumptions bear the risk of change due to the fact that there are uncertainties attached to these estimates or assumptions, and certain estimates or assumptions are difficult to measure or value.

Management bases its estimates on historical experience and on various assumptions that are believed to be reasonable in relation to the financial statements taken as a whole under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources.

Management regularly evaluates the key factors and assumptions used to develop the estimates utilizing currently available information, changes in facts and circumstances, historical experience and reasonable assumptions. After such evaluations, if deemed appropriate, those estimates are adjusted accordingly.

Actual results could differ from those estimates.

Fair Value of Financial Instruments

The Company follows applicable accounting guidance for disclosures about fair value of its financial instruments. U.S. GAAP establishes a framework for measuring fair value, and requires disclosures about fair value measurements.  To provide consistency and comparability in fair value measurements and related disclosures, U.S. GAAP establishes a fair value hierarchy which prioritizes the inputs to valuation techniques used to measure fair value into three broad levels.  The fair value hierarchy gives the highest priority to quoted prices (unadjusted) in active markets for identical assets or liabilities and the lowest priority to unobservable inputs.  The three levels of fair value hierarchy are described below:

Level 1		Quoted market prices available in active markets for identical assets or liabilities as of the reporting date.
Level 2		Pricing inputs other than quoted prices in active markets included in Level 1, which are either directly or indirectly observable as of the reporting date.
Level 3		Pricing inputs that are generally not observable inputs and not corroborated by market data.

Financial assets are considered Level 3 when their fair values are determined using pricing models, discounted cash flow methodologies or similar techniques and at least one significant model assumption or input is unobservable.

If the inputs used to measure the financial assets and liabilities fall within more than one level described above, the categorization is based on the lowest level input that is significant to the fair value measurement of the instrument.

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The carrying amounts of the Company’s financial assets and liabilities, such as cash, accounts receivable, prepayments and other current assets, accounts payable, accrued expenses, payroll taxes payable, and due to factor, approximate their fair values because of the short maturity of these instruments.  

The Company’s notes payable, convertible notes payable, convertible secured notes payable, and capital leases payable approximate the fair value of such instruments based upon management’s best estimate of interest rates that would be available to the Company for similar financial arrangements at March 31, 2014 and December 31, 2013.

The Company’s Level 3 financial liabilities consist of the derivative financial instruments for which there is no current market for these securities such that the determination of fair value requires significant judgment or estimation.  The Company valued the automatic conditional conversion, re-pricing/down-round, change of control; default and follow-on offering provisions using a lattice model, with the assistance of a valuation specialist, for which management understands the methodologies. These models incorporate transaction details such as Company stock price, contractual terms, maturity, risk free rates, as well as assumptions about future financings, volatility, and holder behavior as of the date of issuance and each balance sheet date.

Transactions involving related parties cannot be presumed to be carried out on an arm's-length basis, as the requisite conditions of competitive, free-market dealings may not exist.  Representations about transactions with related parties, if made, shall not imply that the related party transactions were consummated on terms equivalent to those that prevail in arm's-length transactions unless such representations can be substantiated.

Fair Value of Financial Assets and Liabilities Measured on a Recurring Basis

Level 3 Financial Liabilities – Derivative Financial Instruments

The Company uses Level 3 of the fair value hierarchy to measure the fair value of the derivative liabilities and revalues its derivative liability at the end of every reporting period and recognizes gains or losses in the Statements of Operations that are attributable to the change in the fair value of the derivative liability.

Carrying Value, Recoverability and Impairment of Long-Lived Assets

The Company has adopted paragraph 360-10-35-17 of the FASB Accounting Standards Codification for its long-lived assets. The Company’s long-lived assets, which include property and equipment, patents, and website development costs are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable.

The Company assesses the recoverability of its long-lived assets by comparing the projected undiscounted net cash flows associated with the related long-lived asset or group of long-lived assets over their remaining estimated useful lives against their respective carrying amounts. Impairment, if any, is based on the excess of the carrying amount over the fair value of those assets.  Fair value is generally determined using the asset’s expected future discounted cash flows or market value, if readily determinable.  When long-lived assets are determined to be recoverable, but the newly determined remaining estimated useful lives are shorter than originally estimated, the net book values of the long-lived assets are depreciated over the newly determined remaining estimated useful lives.

The Company considers the following to be some examples of important indicators that may trigger an impairment review: (i) significant under-performance or losses of assets relative to expected historical or projected future operating results; (ii) significant changes in the manner or use of assets or in the Company’s overall strategy with respect to the manner or use of the acquired assets or changes in the Company’s overall business strategy; (iii) significant negative industry or economic trends; (iv) increased competitive pressures; (v) a significant decline in the Company’s stock price for a sustained period of time; and (vi) regulatory changes.  The Company evaluates acquired assets for potential impairment indicators at least annually and more frequently upon the occurrence of such events.

The key assumptions used in management’s estimates of projected cash flow deal largely with forecasts of sales levels, gross margins, and operating costs of the manufacturing facilities.  These forecasts are typically based on historical trends and take into account recent developments as well as management’s plans and intentions.  Any difficulty in manufacturing or sourcing raw materials on a cost effective basis would significantly impact the projected future cash flows of the Company’s manufacturing facilities and potentially lead to an impairment charge for long-lived assets.  Other factors, such as increased competition or a decrease in the desirability of the Company’s products, could lead to lower projected sales levels, which would adversely impact cash flows.  A significant change in cash flows in the future could result in an impairment of long lived assets.

The impairment charges, if any, is included in operating expenses in the accompanying statements of operations.

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Cash Equivalents

The Company considers all highly liquid investments with maturities of three months or less at the time of purchase to be cash equivalents.

Accounts Receivable and Allowance for Doubtful Accounts

Accounts receivable are recorded at the invoiced amount, net of an allowance for doubtful accounts.  The Company follows paragraph 310-10-50-9 of the FASB Accounting Standards Codification to estimate the allowance for doubtful accounts.  The Company performs on-going credit evaluations of its customers and adjusts credit limits based upon payment history and the customer’s current credit worthiness, as determined by the review of their current credit information; and determines the allowance for doubtful accounts based on historical write-off experience, customer specific facts and economic conditions.

Pursuant to paragraph 310-10-50-2 of the FASB Accounting Standards Codification account balances are charged off against the allowance after all means of collection have been exhausted and the potential for recovery is considered remote.  The Company has adopted paragraph 310-10-50-6 of the FASB Accounting Standards Codification and determine when receivables are past due or delinquent based on how recently payments have been received.

Outstanding account balances are reviewed individually for collectability.  The allowance for doubtful accounts is the Company’s best estimate of the amount of probable credit losses in the Company’s existing accounts receivable. Bad debt expense is included in general and administrative expenses, if any.

The Company does not have any off-balance-sheet credit exposure to its customers.

Property and Equipment

Property and equipment are recorded at cost.  Expenditures for major additions and betterments are capitalized.  Maintenance and repairs are charged to operations as incurred.  Depreciation of property and equipment is computed by the straight-line method (after taking into account their respective estimated residual values) over the estimated useful lives of the respective assets as follows:

							Estimated Useful Life (Years)
Computer equipment								5
Computer software								3
Furniture and fixture								7
Office equipment								7

Upon sale or retirement of property and equipment, the related cost and accumulated depreciation are removed from the accounts and any gain or loss is reflected in the statements of operations.

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Leases

Lease agreements are evaluated to determine whether they are capital leases or operating leases in accordance with applicable paragraph 840-10-25-1 of the FASB Accounting Standards Codification (“Paragraph 840-10-25-1”). Pursuant to Paragraph 840-10-25-1 A lessee and a lessor shall consider whether a lease meets any of the following four criteria as part of classifying the lease at its inception under the guidance in the Lessees Subsection of this Section (for the lessee) and the Lessors Subsection of this Section (for the lessor): a. Transfer of ownership. The lease transfers ownership of the property to the lessee by the end of the lease term. This criterion is met in situations in which the lease agreement provides for the transfer of title at or shortly after the end of the lease term in exchange for the payment of a nominal fee, for example, the minimum required by statutory regulation to transfer title. b. Bargain purchase option. The lease contains a bargain purchase option. c. Lease term. The lease term is equal to 75 percent or more of the estimated economic life of the leased property. d. Minimum lease payments. The present value at the beginning of the lease term of the minimum lease payments, excluding that portion of the payments representing executory costs such as insurance, maintenance, and taxes to be paid by the lessor, including any profit thereon, equals or exceeds 90 percent of the excess of the fair value of the leased property to the lessor at lease inception over any related investment tax credit retained by the lessor and expected to be realized by the lessor. In accordance with paragraphs 840-10-25-29 and 840-10-25-30, if at its inception a lease meets any of the four lease classification criteria in Paragraph 840-10-25-1, the lease shall be classified by the lessee as a capital lease; and if none of the four criteria in Paragraph 840-10-25-1 are met, the lease shall be classified by the lessee as an operating lease. Pursuant to Paragraph 840-10-25-31 a lessee shall compute the present value of the minimum lease payments using the lessee's incremental borrowing rate unless both of the following conditions are met, in which circumstance the lessee shall use the implicit rate: a. It is practicable for the lessee to learn the implicit rate computed by the lessor. b. The implicit rate computed by the lessor is less than the lessee's incremental borrowing rate.  Capital lease assets are depreciated on a straight-line basis over the capital lease assets' estimated useful lives consistent with the Company’s normal depreciation policy for tangible assets, but generally not exceeding the term of the lease. Interest charges are expensed over the term of the lease in relation to the carrying value of the capital lease obligation.

Operating leases primarily relate to the Company’s leases of office spaces. When the terms of an operating lease include tenant improvement allowances, periods of free rent, rent concessions, and/or rent escalation amounts, the Company establishes a deferred rent liability for the difference between the scheduled rent payment and the straight-line rent expense recognized, which is amortized over the underlying lease term on a straight-line basis as a reduction of rent expense.

Intangible Assets Other Than Goodwill

The Company has adopted Subtopic 350-30 of the FASB Accounting Standards Codification for intangible assets other than goodwill.  Under the requirements, the Company amortizes the acquisition costs of intangible assets other than goodwill on a straight-line basis over or their estimated useful lives, the terms of the exclusive licenses and/or agreements, or the terms of legal lives of the patents, whichever is shorter.  Upon becoming fully amortized, the related cost and accumulated amortization are removed from the accounts.

Patents

For acquired patents the Company records the costs to acquire patents as patent and amortizes the patent acquisition cost over its remaining legal life, or estimated useful life, or the term of the contract, whichever is shorter. For internal developed patents, all costs incurred to the point when a patent application is to be filed are expended as incurred as research and development expense; patent application costs, generally legal costs, thereafter incurred are capitalized, which are to be amortized once the patents are granted or expended if the patent application is rejected. The Company amortizes the internal developed patents over the shorter of the expected useful lives or the legal lives of the patents, which are generally 17 to 20 years for domestic patents and 5 to 20 years for foreign patents from the date when the patents are granted. The costs of defending and maintaining patents are expended as incurred. Upon becoming fully amortized, the related cost and accumulated amortization are removed from the accounts.

Website Development Costs

The Company has adopted Subtopic 350-50 of the FASB Accounting Standards Codification for website development costs.  Under the requirements of Sections 350-50-15 and 350-50-25, the Company capitalizes costs incurred to develop a website as website development costs, which are amortized on a straight-line basis over the estimated useful lives of three (3) years. Upon becoming fully amortized, the related cost and accumulated amortization are removed from the accounts.

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Discount on Debt

The Company allocates the proceeds received from convertible debt instruments between the liability component and equity component, and records the conversion feature as a liability in accordance with subtopic 470-20 of the FASB Accounting Standards Codification (“Subtopic 470-20”). The conversion feature and certain other features that are considered embedded derivative instruments, such as a conversion reset provision, a penalty provision and redemption option, have been recorded at their fair value as its fair value can be separated from the convertible note and its conversion is independent of the underlying note value. The conversion liability is marked to market each reporting period with the resulting gains or losses shown in the Statement of Operations. The Company has also recorded the resulting discount on debt related to the warrants and conversion feature and is amortizing the discount using the effective interest rate method over the life of the debt instruments.

Derivative Instruments and Hedging Activities

The Company accounts for derivative instruments and hedging activities in accordance with paragraph 815-10-05-4 of the FASB Accounting Standards Codification (“Paragraph 815-10-05-4”). Paragraph 815-10-05-4 requires companies to recognize all derivative instruments as either assets or liabilities in the balance sheet at fair value.  The accounting for changes in the fair value of a derivative instrument depends upon: (i) whether the derivative has been designated and qualifies as part of a hedging relationship, and (ii) the type of hedging relationship.  For those derivative instruments that are designated and qualify as hedging instruments, a company must designate the hedging instrument based upon the exposure being hedged as either a fair value hedge, cash flow hedge or hedge of a net investment in a foreign operation.

Derivative Warrant Liability

The Company evaluates its convertible debt, options, warrants or other contracts, if any, to determine if those contracts or embedded components of those contracts qualify as derivatives to be separately accounted for in accordance with paragraph 815-10-05-4 and Section 815-40-25 of the FASB Accounting Standards Codification.  The result of this accounting treatment is that the fair value of the embedded derivative is marked-to-market each balance sheet date and recorded as either an asset or a liability.  In the event that the fair value is recorded as a liability, the change in fair value is recorded in the consolidated statement of operations and comprehensive income (loss) as other income or expense.  Upon conversion, exercise or cancellation of a derivative instrument, the instrument is marked to fair value at the date of conversion, exercise or cancellation and then that the related fair value is reclassified to equity.

In circumstances where the embedded conversion option in a convertible instrument is required to be bifurcated and there are also other embedded derivative instruments in the convertible instrument that are required to be bifurcated, the bifurcated derivative instruments are accounted for as a single, compound derivative instrument.

The classification of derivative instruments, including whether such instruments should be recorded as liabilities or as equity, is re-assessed at the end of each reporting period. Equity instruments that are initially classified as equity that become subject to reclassification are reclassified to liability at the fair value of the instrument on the reclassification date.  Derivative instrument liabilities will be classified in the balance sheet as current or non-current based on whether or not net-cash settlement of the derivative instrument is expected within 12 months of the balance sheet date.

The Company marks to market the fair value of the remaining embedded derivative warrants at each balance sheet date and records the change in the fair value of the remaining embedded derivative warrants as other income or expense in the consolidated statements of operations and comprehensive income (loss).

The Company utilizes the Lattice model that values the liability of the derivative warrants based on a probability weighted discounted cash flow model with the assistance of the third party valuation firm.  The reason the Company picks the Lattice model is that in many cases there may be multiple embedded features or the features of the bifurcated derivatives may be so complex that a Black-Scholes valuation does not consider all of the terms of the instrument.  Therefore, the fair value may not be appropriately captured by simple models.  In other words, simple models such as Black-Scholes may not be appropriate in many situations given complex features and terms of conversion option (e.g., combined embedded derivatives).  The Lattice model is based on future projections of the various potential outcomes. The features that were analyzed and incorporated into the model included the exercise and full reset features.  Based on these features, there are two primary events that can occur; the Holder exercises the Warrants or the Warrants are held to expiration. The Lattice model analyzed the underlying economic factors that influenced which of these events would occur, when they were likely to occur, and the specific terms that would be in effect at the time (i.e. stock price, exercise price, volatility, etc.).  Projections were then made on the underlying factors which led to potential scenarios.  Probabilities were assigned to each scenario based on management projections.  This led to a cash flow projection and a probability associated with that cash flow.  A discounted weighted average cash flow over the various scenarios was completed to determine the value of the derivative warrants.

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Embedded Beneficial Conversion Feature of Convertible Instruments

The Company recognizes and measures the embedded beneficial conversion feature of applicable convertible instruments by allocating a portion of the proceeds from the convertible instruments equal to the intrinsic value of that feature to additional paid-in capital. The intrinsic value of the embedded beneficial conversion feature is calculated at the commitment date as the difference between the conversion price and the fair value of the securities into which the convertible instruments are convertible. The Company recognizes the intrinsic value of the embedded beneficial conversion feature of the convertible notes so computed as interest expense.

From time to time, the Company transfers the liability under the indenture instrument to a third party in certain circumstances.

Related Parties

The Company follows subtopic 850-10 of the FASB Accounting Standards Codification for the identification of related parties and disclosure of related party transactions.

Pursuant to Section 850-10-20 the related parties include a. affiliates of the Company; b. entities for which investments in their equity securities would be required, absent the election of the fair value option under the Fair Value Option Subsection of Section 825–10–15, to be accounted for by the equity method by the investing entity; c. trusts for the benefit of employees, such as pension and profit-sharing trusts that are managed by or under the trusteeship of management; d. principal owners of the Company; e. management of the Company; f. other parties with which the Company may deal if one party controls or can significantly influence the management or operating policies of the other to an extent that one of the transacting parties might be prevented from fully pursuing its own separate interests; and g. other parties that can significantly influence the management or operating policies of the transacting parties or that have an ownership interest in one of the transacting parties and can significantly influence the other to an extent that one or more of the transacting parties might be prevented from fully pursuing its own separate interests.

The financial statements shall include disclosures of material related party transactions, other than compensation arrangements, expense allowances, and other similar items in the ordinary course of business. However, disclosure of transactions that are eliminated in the preparation of consolidated or combined financial statements is not required in those statements. The disclosures shall include:  a. the nature of the relationship(s) involved; b. a description of the transactions, including transactions to which no amounts or nominal amounts were ascribed, for each of the periods for which income statements are presented, and such other information deemed necessary to an understanding of the effects of the transactions on the financial statements; c. the dollar amounts of transactions for each of the periods for which income statements are presented and the effects of any change in the method of establishing the terms from that used in the preceding period; and d. amounts due from or to related parties as of the date of each balance sheet presented and, if not otherwise apparent, the terms and manner of settlement.

Commitment and Contingencies

The Company follows subtopic 450-20 of the FASB Accounting Standards Codification to report accounting for contingencies. Certain conditions may exist as of the date the consolidated financial statements are issued, which may result in a loss to the Company but which will only be resolved when one or more future events occur or fail to occur.  The Company assesses such contingent liabilities, and such assessment inherently involves an exercise of judgment.  In assessing loss contingencies related to legal proceedings that are pending against the Company or unasserted claims that may result in such proceedings, the Company evaluates the perceived merits of any legal proceedings or unasserted claims as well as the perceived merits of the amount of relief sought or expected to be sought therein.

If the assessment of a contingency indicates that it is probable that a material loss has been incurred and the amount of the liability can be estimated, then the estimated liability would be accrued in the Company’s consolidated financial statements.  If the assessment indicates that a potential material loss contingency is not probable but is reasonably possible, or is probable but cannot be estimated, then the nature of the contingent liability, and an estimate of the range of possible losses, if determinable and material, would be disclosed.

Loss contingencies considered remote are generally not disclosed unless they involve guarantees, in which case the guarantees would be disclosed.  Management does not believe, based upon information available at this time, that these matters will have a material adverse effect on the Company’s consolidated financial position, results of operations or cash flows. However, there is no assurance that such matters will not materially and adversely affect the Company’s business, financial position, and results of operations or cash flows.

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Revenue Recognition

The Company applies paragraph 605-10-S99-1 of the FASB Accounting Standards Codification for revenue recognition.  The Company recognizes revenue when it is realized or realizable and earned.  The Company considers revenue realized or realizable and earned when all of the following criteria are met: (i) persuasive evidence of an arrangement exists, (ii) the product has been shipped or the services have been rendered to the customer, (iii) the sales price is fixed or determinable, and (iv) collectability is reasonably assured.

The Company derives its revenues from sales contracts with customers with revenues being generated upon the shipment of products.  Persuasive evidence of an arrangement is demonstrated via sales invoice or contract; product delivery is evidenced by warehouse shipping log as well as a signed bill of lading from the third party carrier and title transfers upon shipment, based on free on board (“FOB”) warehouse terms; the sales price to the customer is fixed upon acceptance of the signed purchase order or contract and there is no separate sales rebate, discount, or volume incentive.  When the Company recognizes revenue, no provisions are made for returns because, historically, there have been very few sales returns and adjustments that have impacted the ultimate collection of revenues.

In addition to the aforementioned general policy, the following are the specific revenue recognition policies for each major category of products and services:

Hardware

Revenue from hardware sales is recognized when the product is shipped to the customer and there are either no unfulfilled Company obligations or any obligations that will not affect the customer's final acceptance of the arrangement.  All costs of these obligations are accrued when the corresponding revenue is recognized.  There were no revenues from fixed price long-term contracts.

Software, Services and Maintenance

Revenue from time and service contracts is recognized as the services are provided. Revenue from delivered elements of one-time charge licensed software is recognized at the inception of the license term, provided the Company has vendor-specific objective evidence of the fair value of each delivered element.  Revenue is deferred for undelivered elements. The Company recognizes revenue from the sale of software licenses when the four criteria discussed above are met. Delivery generally occurs when the product is delivered to a common carrier or the software is downloaded via email delivery or an FTP web site. The Company assesses collection based on a number of factors, including past transaction history with the customer and the creditworthiness of the customer.  The Company does not request collateral from customers.  If the Company determines that collection of a fee is not reasonably assured, the Company defers the fee and recognizes revenue at the time collection becomes reasonably assured, which is generally upon receipt of cash.  Revenue from monthly software licenses is recognized on a subscription basis.

ASP Hosted Cloud Services

The Company offers an Application Service Provider Cloud Service whereby customer usage transactions are invoiced monthly on a cost per transaction basis.  The service is sold via the execution of a Service Agreement between the Company and the customer.  Initial set-up fees are recognized over the period in which the services are performed.

Fixed Price Service Contracts

Revenue from fixed price service contracts is recognized over the term of the contract based on the percentage of services that are provided during the period compared with the total estimated services to be provided over the entire contract.  Losses on fixed price contracts are recognized during the period in which the loss first becomes apparent.  Revenue from maintenance is recognized over the contractual period or as the services are performed.  Revenue in excess of billings on service contracts is recorded as unbilled receivables and is included in trade accounts receivable.  Applicable billings in excess of revenue that is recognized on service contracts are recorded as deferred income until the aforementioned revenue recognition criteria are met.

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Stock-Based Compensation for Obtaining Employee Services

The Company accounts for its stock based compensation in which the Company obtains employee services in share-based payment transactions under the recognition and measurement principles of the fair value recognition provisions of section 718-10-30 of the FASB Accounting Standards Codification. Pursuant to paragraph 718-10-30-6 of the FASB Accounting Standards Codification, all transactions in which goods or services are the consideration received for the issuance of equity instruments are accounted for based on the fair value of the consideration received or the fair value of the equity instrument issued, whichever is more reliably measurable.  The measurement date used to determine the fair value of the equity instrument issued is the earlier of the date on which the performance is complete or the date on which it is probable that performance will occur.  If the Company is a newly formed corporation or shares of the Company are thinly traded the use of share prices established in the Company’s most recent private placement memorandum (“PPM”), or weekly or monthly price observations would generally be more appropriate than the use of daily price observations as such shares could be artificially inflated due to a larger spread between the bid and asked quotes and lack of consistent trading in the market.

The fair value of share options and similar instruments is estimated on the date of grant using a Black-Scholes option-pricing valuation model.  The ranges of assumptions for inputs are as follows:

·

Expected term of share options and similar instruments: The expected life of options and similar instruments represents the period of time the option and/or warrant are expected to be outstanding.  Pursuant to Paragraph 718-10-50-2(f)(2)(i) of the FASB Accounting Standards Codification the expected term of share options and similar instruments represents the period of time the options and similar instruments are expected to be outstanding taking into consideration of the contractual term of the instruments and employees’ expected exercise and post-vesting employment termination behavior into the fair value (or calculated value) of the instruments.  Pursuant to paragraph 718-10-S99-1, it may be appropriate to use the simplified method, i.e., expected term = ((vesting term + original contractual term) / 2), if (i) A company does not have sufficient historical exercise data to provide a reasonable basis upon which to estimate expected term due to the limited period of time its equity shares have been publicly traded; (ii) A company significantly changes the terms of its share option grants or the types of employees that receive share option grants such that its historical exercise data may no longer provide a reasonable basis upon which to estimate expected term; or (iii) A company has or expects to have significant structural changes in its business such that its historical exercise data may no longer provide a reasonable basis upon which to estimate expected term. The Company uses the simplified method to calculate expected term of share options and similar instruments as the company does not have sufficient historical exercise data to provide a reasonable basis upon which to estimate expected term.

·

Expected volatility of the entity’s shares and the method used to estimate it.  Pursuant to ASC Paragraph 718-10-50-2(f)(2)(ii) a thinly-traded or nonpublic entity that uses the calculated value method shall disclose the reasons why it is not practicable for the Company to estimate the expected volatility of its share price, the appropriate industry sector index that it has selected, the reasons for selecting that particular index, and how it has calculated historical volatility using that index.  The Company uses the average historical volatility of the comparable companies over the expected contractual life of the share options or similar instruments as its expected volatility.  If shares of a company are thinly traded the use of weekly or monthly price observations would generally be more appropriate than the use of daily price observations as the volatility calculation using daily observations for such shares could be artificially inflated due to a larger spread between the bid and asked quotes and lack of consistent trading in the market.

·

Expected annual rate of quarterly dividends.  An entity that uses a method that employs different dividend rates during the contractual term shall disclose the range of expected dividends used and the weighted-average expected dividends.  The expected dividend yield is based on the Company’s current dividend yield as the best estimate of projected dividend yield for periods within the expected term of the share options and similar instruments.

·	Risk-free rate(s). An entity that uses a method that employs different risk-free rates shall disclose the range of risk-free rates used.  The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant for periods within the expected term of the share options and similar instruments.

The Company’s policy is to recognize compensation cost for awards with only service conditions and a graded vesting schedule on a straight-line basis over the requisite service period for the entire award.

Equity Instruments Issued to Parties Other Than Employees for Acquiring Goods or Services

The Company accounts for equity instruments issued to parties other than employees for acquiring goods or services under guidance of Sub-topic 505-50 of the FASB Accounting Standards Codification (“Sub-topic 505-50”).

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Pursuant to ASC Section 505-50-30, all transactions in which goods or services are the consideration received for the issuance of equity instruments are accounted for based on the fair value of the consideration received or the fair value of the equity instrument issued, whichever is more reliably measurable.  The measurement date used to determine the fair value of the equity instrument issued is the earlier of the date on which the performance is complete or the date on which it is probable that performance will occur.  If the Company is a newly formed corporation or shares of the Company are thinly traded the use of share prices established in the Company’s most recent private placement memorandum (“PPM”), or weekly or monthly price observations would generally be more appropriate than the use of daily price observations as such shares could be artificially inflated due to a larger spread between the bid and asked quotes and lack of consistent trading in the market.

The fair value of share options and similar instruments is estimated on the date of grant using a Black-Scholes option-pricing valuation model.  The ranges of assumptions for inputs are as follows:

·

Expected term of share options and similar instruments: Pursuant to Paragraph 718-10-50-2(f)(2)(i) of the FASB Accounting Standards Codification the expected term of share options and similar instruments represents the period of time the options and similar instruments are expected to be outstanding taking into consideration of the contractual term of the instruments and holder’s expected exercise behavior into the fair value (or calculated value) of the instruments.  The Company uses historical data to estimate holder’s expected exercise behavior.  If the Company is a newly formed corporation or shares of the Company are thinly traded the contractual term of the share options and similar instruments is used as the expected term of share options and similar instruments as the Company does not have sufficient historical exercise data to provide a reasonable basis upon which to estimate expected term.

·

Expected volatility of the entity’s shares and the method used to estimate it.  Pursuant to ASC Paragraph 718-10-50-2(f)(2)(ii) a thinly-traded or nonpublic entity that uses the calculated value method shall disclose the reasons why it is not practicable for the Company to estimate the expected volatility of its share price, the appropriate industry sector index that it has selected, the reasons for selecting that particular index, and how it has calculated historical volatility using that index.  The Company uses the average historical volatility of the comparable companies over the expected contractual life of the share options or similar instruments as its expected volatility.  If shares of a company are thinly traded the use of weekly or monthly price observations would generally be more appropriate than the use of daily price observations as the volatility calculation using daily observations for such shares could be artificially inflated due to a larger spread between the bid and asked quotes and lack of consistent trading in the market.

·

Expected annual rate of quarterly dividends.  An entity that uses a method that employs different dividend rates during the contractual term shall disclose the range of expected dividends used and the weighted-average expected dividends.  The expected dividend yield is based on the Company’s current dividend yield as the best estimate of projected dividend yield for periods within the expected term of the share options and similar instruments.

·	Risk-free rate(s). An entity that uses a method that employs different risk-free rates shall disclose the range of risk-free rates used.  The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant for periods within the expected term of the share options and similar instruments.

Pursuant to ASC paragraph 505-50-25-7, if fully vested, non-forfeitable equity instruments are issued at the date the grantor and grantee enter into an agreement for goods or services (no specific performance is required by the grantee to retain those equity instruments), then, because of the elimination of any obligation on the part of the counterparty to earn the equity instruments, a measurement date has been reached. A grantor shall recognize the equity instruments when they are issued (in most cases, when the agreement is entered into). Whether the corresponding cost is an immediate expense or a prepaid asset (or whether the debit should be characterized as contra-equity under the requirements of paragraph 505-50-45-1) depends on the specific facts and circumstances. Pursuant to ASC paragraph 505-50-45-1, a grantor may conclude that an asset (other than a note or a receivable) has been received in return for fully vested, non-forfeitable equity instruments that are issued at the date the grantor and grantee enter into an agreement for goods or services (and no specific performance is required by the grantee in order to retain those equity instruments). Such an asset shall not be displayed as contra-equity by the grantor of the equity instruments. The transferability (or lack thereof) of the equity instruments shall not affect the balance sheet display of the asset. This guidance is limited to transactions in which equity instruments are transferred to other than employees in exchange for goods or services. Section 505-50-30 provides guidance on the determination of the measurement date for transactions that are within the scope of this Subtopic.

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Pursuant to Paragraphs 505-50-25-8 and 505-50-25-9, an entity may grant fully vested, non-forfeitable equity instruments that are exercisable by the grantee only after a specified period of time if the terms of the agreement provide for earlier exercisability if the grantee achieves specified performance conditions. Any measured cost of the transaction shall be recognized in the same period(s) and in the same manner as if the entity had paid cash for the goods or services or used cash rebates as a sales discount instead of paying with, or using, the equity instruments. A recognized asset, expense, or sales discount shall not be reversed if a share option and similar instrument that the counterparty has the right to exercise expires unexercised.

Pursuant to ASC paragraph 505-50-30-S99-1, if the Company receives a right to receive future services in exchange for unvested, forfeitable equity instruments, those equity instruments are treated as unissued for accounting purposes until the future services are received (that is, the instruments are not considered issued until they vest). Consequently, there would be no recognition at the measurement date and no entry should be recorded.

Software Development Costs

The Company has adopted paragraph 985-20-05-01 of the FASB Accounting Standards Codification (“Paragraph 985-20-05-01”) for the costs of computer software to be sold or licensed.  Paragraph 985-20-05-01 requires research and development costs incurred in the process of software development before establishment of technological feasibility being expensed as incurred and capitalization of software development costs incurred subsequent to establishment of technological feasibility and prior to the availability of the product for general release to customers.  Systematic amortization of capitalized costs begins when a product is available for general release to customers and is computed on a product-by-product basis at a rate not less than straight-line basis over the product’s remaining estimated economic life. To date, all costs have been accounted for as research and development costs and no software development cost has been capitalized.

Income Tax Provision

The Company accounts for income taxes under Section 740-10-30 of the FASB Accounting Standards Codification, which requires recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements or tax returns.  Under this method, deferred tax assets and liabilities are based on the differences between the financial statement and tax bases of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse.  Deferred tax assets are reduced by a valuation allowance to the extent management concludes it is more likely than not that the assets will not be realized.  Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled.  The effect on deferred tax assets and liabilities of a change in tax rates is recognized in the Consolidated Statements of Income and Comprehensive Income in the period that includes the enactment date.

The Company adopted section 740-10-25 of the FASB Accounting Standards Codification (“Section 740-10-25”). Section 740-10-25 addresses the determination of whether tax benefits claimed or expected to be claimed on a tax return should be recorded in the financial statements.  Under Section 740-10-25, the Company may recognize the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position.  The tax benefits recognized in the financial statements from such a position should be measured based on the largest benefit that has a greater than fifty (50) percent likelihood of being realized upon ultimate settlement.  Section 740-10-25 also provides guidance on de-recognition, classification, interest and penalties on income taxes, accounting in interim periods and requires increased disclosures.

The estimated future tax effects of temporary differences between the tax basis of assets and liabilities are reported in the accompanying consolidated balance sheets, as well as tax credit carry-backs and carry-forwards. The Company periodically reviews the recoverability of deferred tax assets recorded on its consolidated balance sheets and provides valuation allowances as management deems necessary.

Management makes judgments as to the interpretation of the tax laws that might be challenged upon an audit and cause changes to previous estimates of tax liability. In addition, the Company operates within multiple taxing jurisdictions and is subject to audit in these jurisdictions. In management’s opinion, adequate provisions for income taxes have been made for all years. If actual taxable income by tax jurisdiction varies from estimates, additional allowances or reversals of reserves may be necessary.

Uncertain Tax Positions

The Company did not take any uncertain tax positions and had no adjustments to its income tax liabilities or benefits pursuant to the provisions of Section 740-10-25 for the for the reporting period ended March 31, 2014 or 2013.

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Net Income (Loss) per Common Share

Net income (loss) per common share is computed pursuant to section 260-10-45 of the FASB Accounting Standards Codification.   Basic net income (loss) per common share is computed by dividing net income (loss) by the weighted average number of shares of common stock outstanding during the period.  Diluted net income (loss) per common share is computed by dividing net income (loss) by the weighted average number of shares of common stock and potentially outstanding shares of common stock during the period to reflect the potential dilution that could occur from common shares issuable through contingent share arrangements, stock options and warrants.

The following table shows the potentially outstanding dilutive common shares excluded from the diluted net income (loss) per common share calculation as they were anti-dilutive, as adjusted by the Company’s 1:1,500 reverse stock split adopted on March 6, 2014:

		Potentially Outstanding Dilutive Common Shares
		For the Interim Period Ended March 31, 2014						For the Interim Period Ended March 31, 2013
Conversion Feature Shares
Common shares issuable under the conversion feature of convertible notes payable			5,808,748							93,888
Sub-total: Conversion feature shares			5,808,748							93,888
Stock Option Shares
Options issued from May 20, 2003 through April 21, 2011 to employees to purchase common shares with exercise prices ranging from $3.75 to $15,000 per share expiring three (3) years to ten (10) years from the date of issuance			89,257							89,285
Options issued from December 2, 2004 through January 30, 2013 to parties other than employees to purchase common shares with exercise prices ranging from $3.00 to $13,500 per share expiring five (5) years to ten (10) years from the date of issuance			8,000							8,000
Options issued on January 3, 2013 from the 2012 Stock Incentive Plan to employees to purchase common shares with an exercise price of $3.45 per share expiring ten (10) years from the date of issuance			3,333							3,333
Sub-total: Stock option shares			100,590							100,618
Warrant Shares
Warrants issued in connection with debentures			61,780							1,849
Warrants sold for cash			121,669							148,233
Warrants issued for services			14,017							5,550
Warrants issued in connection with the sale of common stock			18,778							19,704
Sub-total: Warrant shares			216,244							175,336
Total potentially outstanding dilutive common shares			6,125,582							369,842

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Cash Flows Reporting

The Company adopted paragraph 230-10-45-24 of the FASB Accounting Standards Codification for cash flows reporting, classifies cash receipts and payments according to whether they stem from operating, investing, or financing activities and provides definitions of each category, and uses the indirect or reconciliation method (“Indirect method”) as defined by paragraph 230-10-45-25 of the FASB Accounting Standards Codification to report net cash flow from operating activities by adjusting net income to reconcile it to net cash flow from operating activities by removing the effects of (a) all deferrals of past operating cash receipts and payments and all accruals of expected future operating cash receipts and payments and (b) all items that are included in net income that do not affect operating cash receipts and payments.  The Company reports the reporting currency equivalent of foreign currency cash flows, using the current exchange rate at the time of the cash flows and the effect of exchange rate changes on cash held in foreign currencies is reported as a separate item in the reconciliation of beginning and ending balances of cash and cash equivalents and separately provides information about investing and financing activities not resulting in cash receipts or payments in the period pursuant to paragraph 830-230-45-1 of the FASB Accounting Standards Codification.

Subsequent Events

The Company follows the guidance in Section 855-10-50 of the FASB Accounting Standards Codification for the disclosure of subsequent events. The Company will evaluate subsequent events through the date when the financial statements are issued.  Pursuant to ASU 2010-09 of the FASB Accounting Standards Codification, the Company as an SEC filer considers its financial statements issued when they are widely distributed to users, such as through filing them on EDGAR.

Recently Issued Accounting Pronouncements

In July 2013, the FASB issued ASU No. 2013-11, Income Tax (Topic 740): Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists. This ASU provides guidance on the financial statement presentation of an unrecognized tax benefit when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists. An unrecognized tax benefit, or a portion of an unrecognized tax benefit, should be presented in the financial statements as a reduction to a deferred tax asset for a net operating loss carryforward, a similar tax loss, or a tax credit carryforward, except as follows. To the extent a net operating loss carryforward, a similar tax loss, or a tax credit carryforward is not available at the reporting date under the tax law of the applicable jurisdiction to settle any additional income taxes that would result from the disallowance of a tax position or the tax law of the applicable jurisdiction does not require the entity to use, and the entity does not intend to use, the deferred tax asset for such purpose, the unrecognized tax benefit should be presented in the financial statements as a liability and should not be combined with deferred tax assets. The amendments in this Update are effective for fiscal years, and interim periods within those years, beginning after December 15, 2013.

In April 2014, the FASB issued ASU No. 2014-08, Presentation of Financial Statements (Topic 205) and Property, Plant, and Equipment (Topic 360): Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity. The amendments in this Update change the requirements for reporting discontinued operations in Subtopic 205-20.

Under the new guidance, a discontinued operation is defined as a disposal of a component or group of components that is disposed of or is classified as held for sale and “represents a strategic shift that has (or will have) a major effect on an entity’s operations and financial results.” The ASU states that a strategic shift could include a disposal of (i) a major geographical area of operations, (ii) a major line of business, (iii) a major equity method investment, or (iv) other major parts of an entity. Although “major” is not defined, the standard provides examples of when a disposal qualifies as a discontinued operation.

The ASU also requires additional disclosures about discontinued operations that will provide more information about the assets, liabilities, income and expenses of discontinued operations. In addition, the ASU requires disclosure of the pre-tax profit or loss attributable to a disposal of an individually significant component of an entity that does not qualify for discontinued operations presentation in the financial statements.

The ASU is effective for public business entities for annual periods beginning on or after December 15, 2014, and interim periods within those years.

Management does not believe that any other recently issued, but not yet effective accounting pronouncements, if adopted, would have a material effect on the accompanying financial statements.

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Note 3 - Going Concern

The financial statements have been prepared assuming that the Company will continue as a going concern, which contemplates continuity of operations, realization of assets, and liquidation of liabilities in the normal course of business.

As reflected in the financial statements, the Company had an accumulated deficit at March 31, 2014, a net loss and net cash used in operating activities for the interim period then ended. These factors raise substantial doubt about the Company’s ability to continue as a going concern.

Currently, management is attempting to increase revenues and improve gross margins by a revised sales strategy. The Company is redirecting its sales focus from direct sales to domestic and international channel sales, where the Company is primarily selling through a channel of Distributors, Value Added Resellers, Strategic Partners and Original Equipment Manufacturers. While the Company believes in the viability of its strategy to increase revenues and in its ability to raise additional funds, there can be no assurances to that effect.  The ability of the Company to continue as a going concern is dependent upon the Company’s ability to continually increase its customer base and realize increased revenues from recently signed contracts.

The financial statements do not include any adjustments related to the recoverability and classification of recorded asset amounts or the amounts and classification of liabilities that might be necessary should the Company be unable to continue as a going concern.

Note 4 – Patents

In November 2010, the Company received notice that the United States Patent and Trademark Office (“USPTO”) had issued an official Notice of Allowance for the patent application for the technology relating to its ProtectID® product, titled "Multi-Channel Device Utilizing a Centralized Out-of-Band Authentication System". In January 2011, the Company received notice that the USPTO issued the Company Patent No. 7,870,599.  This “Out-of-Band” Patent went through a USPTO Re-Examination process starting on August 16, 2011 and concluded on December 27, 2011, with all of the Company’s patent claims remaining intact and eight additional patent claims being added. In 2011, the Company submitted an additional continuation patent on the “Out-of-Band” Patent, with approximately forty additional Company claims now pending. The technology the Company developed and uses in its GuardedID® product is the subject of a pending patent application. As of December 31, 2011, the Company capitalized $4,329 in patent application costs as incurred with no amortization, which was amortized over its legal life of 17 years starting January 1, 2012.

In January 2013, the Company granted an option to purchase 6,667 shares of its common stock, as adjusted by the Company’s 1:1,500 reverse stock split, to NetLabs, Inc. in exchange for the assignment of the entire right, title and interest in and to the “Out-of-Band Patent” which was recorded with the USPTO.  The Options were valued at $3.00 per share, or $18,000, as adjusted by the Company’s 1:1,500 reverse stock split, which was recorded as Patent upon grant and amortized over patent’s remaining legal life of 10 years.

In February 2013 the Company executed a retainer agreement with its patent attorneys to aggressively enforce its patent rights as it believes “Out-of-Band Authentication” is becoming the standard for authenticating consumers in the financial market. In February 2013, the Company’s patent attorneys submitted a new “Out-of-Band” Patent continuation, which is now granted.

In March 2013, the Company’s patent attorneys submitted a new “Methods and Apparatus for securing user input in a mobile device” Patent, which is now patent pending. The Company’s MobileTrust® product is the invention supporting the patent pending.

In July 2013, the Company received notice that the USPTO had added 54 additional patent claims for its Out-of-Band patent the Company received in January 2011, by issuing to the Company Patent No. 8,484,698 thereby strengthening its position with clients and its current and potential lawsuits. The Company's patent attorneys also filed third and fourth “Out of Band” continuation patents that are now patent pending and assisted the Company in obtaining a second Out-of-Band Authentication patent.

In October 2013, the Company received notice that the USPTO issued to the Company Patent No. 8,566,608 “Methods and apparatus for securing keystrokes from being intercepted between the keyboard and a browser.” This protects the Company's GuardedID® product and the keystroke encryption portion of its MobileTrust® products.

In February 2014, the Company received a Notice of Allowance from the USPTO for its third patent relating to the Company's “Methods and apparatus for securing keystrokes from being intercepted between the keyboard and a browser”, Patent No. 7,870,599. Upon receipt of this patent the Company filed another continuation patent for Patent No. 8,566,608.

In March 2014, the Company received Notice of Allowance from the USPTO for its second patent and first continuation of the Company's Keystroke Encryption patent, which only furthers its protection for all mobile devices when utilizing any keyboard for data entry. Upon receipt of this Notice, the Company also filed another continuation patent for Patent No. 8,566,608.

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In April 2014, the Company was granted its third patent relating to its “Multi-Channel Device Utilizing a Centralized Out-of-Band Authentication System”, Patent No. 8,713,701.

Patents, stated at cost, less accumulated amortization, consisted of the following:

		March 31, 2014				December 31, 2013
Patents			22,329				22,329
Accumulated amortization			(2,823)				(2,310)
		$	19,506			$	20,019

(i)

Amortization Expense

Amortization expense for the interim period ended March 31, 2014 and 2013 was $514 and $64, respectively.

(ii)

Impairment

The Company completed the annual impairment test of patents and determined that there was no impairment as the fair value of patents, exceeded their carrying values at December 31, 2013.

Note 5 - Convertible Notes Payable

Convertible notes payable consisted of the following:

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At March 31, 2014 and December 31, 2013, accrued interest due for the convertible notes was $827,545 and $794,395, respectively, and is included in accrued expenses in the balance sheets. Interest expense for the convertible notes payable for the interim period ended March 31, 2014 and 2013 was $33,150 and $30,794, respectively.

The long term portion of convertible notes is due as follows: 2015-$40,000; 2016-$150,000.

Note 6 - Convertible Notes Payable – Related Parties

Convertible notes payable - related party consisted of the following:

		March 31, 2014						December 31, 2013
Convertible note with the VP of Technology bearing interest at the prime rate plus 2% per annum with a conversion price of $15,000 per share, as adjusted by the Company’s 1:1,500 reverse stock split, originally matured on September 30, 2010. The Company issued 1 warrant with an exercise price of $15,000 per share, as adjusted by the Company’s 1:1,500 reverse stock split. In January 2014, the note was extended to December 31, 2014.		$	50,000						$	50,000
Convertible note with the VP of Technology bearing interest at the prime rate plus 4% per annum with a conversion price of $15,000 per share, as adjusted by the Company’s 1:1,500 reverse stock split, originally matured on September 30, 2010. In January 2014, the note was extended to December 31, 2014.			7,500							7,500
Convertible notes with the CEO bearing interest at 8% per annum with a conversion price of $15,000 per share, as adjusted by the Company’s 1:1,500 reverse stock split, originally scheduled to mature on April 30, 2011. The Company issued 2 warrants with an exercise price of $15,000 per share, as adjusted by the Company’s 1:1,500 reverse stock split, which expired February 4, 2014, September 7, 2014 and August 16, 2015, respectively. In January 2014, the notes were extended to December 31, 2014.			230,000							230,000
Convertible notes with an employee bearing interest at 8% per annum with a conversion price of $15,000 per share, originally matured on June 30, 2010, as adjusted by the Company’s 1:1,500 reverse stock split. The Company issued 1 warrant with an exercise price of $15,000 per share, as adjusted by the Company’s 1:1,500 reverse stock split, and expiration dates of August 26, 2015 and September 29, 2015. In January 2014, the notes were extended to December 31, 2014.			15,000							15,000

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Convertible note with an employee bearing interest at 8% per annum with a conversion price of $15,000 per share, originally matured on June 30, 2010, as adjusted by the Company’s 1:1,500 reverse stock split. The Company issued 1 warrant with an exercise price of $15,000 per share, as adjusted by the Company’s 1:1,500 reverse stock split, and an expiration date of December 6, 2015. In April 2007, the interest calculation was amended from simple to compound effective April 1, 2007. In January 2014, the note was extended to December 31, 2014.			10,000				10,000
Convertible notes with the CEO bearing compound interest at 8% per annum with a conversion price of $15,000 per share, originally matured on April 30, 2011, as adjusted by the Company’s 1:1,500 reverse stock split. The Company issued 1 warrant with an exercise price of $15,000 per share, as adjusted by the Company’s 1:1,500 reverse stock split, expiring January 18, 2016 and February 28, 2016, respectively. In January 2014, the notes were extended to December 31, 2014.			38,000				38,000
Convertible note with an employee bearing compound interest at 8% per annum with a conversion price of $11.250 per share, originally matured on June 30, 2010, as adjusted by the Company’s 1:1,500 reverse stock split. The Company issued 1 warrant with an exercise price of $15,000 per share, as adjusted by the Company’s 1:1,500 reverse stock split, expiring March 6, 2016. In January 2014, the note was extended to December 31, 2014.			5,000				5,000
		$	355,500			$	355,500

At March 31, 2014 and December 31, 2013, accrued interest due for the convertible notes – related parties was $303,791 and $292,449, respectively, and is included in accrued expenses in the accompanying balance sheets. Interest expense for convertible notes payable – related parties for the interim period ended March 31, 2014 and 2013 was $11,342 and $10,499, respectively.

Note 7 - Notes Payable

Notes payable consisted of the following:

		March 31, 2014						December 31, 2013
Seventy (70) units, with each unit consisting of a 10% promissory note of $25,000, matured from January 22, 2011 through December 18, 2011 with a 10% discount rate, and 55 non-dilutable (for one (1) year) restricted shares of the Company’s common stock, as adjusted by the Company’s 1:1,500 reverse stock split, and at market price. Pursuant to the terms and condition of a debt purchase agreement among certain note holders, the Company and the Consultant formalized in September 2011, the certain note holders transferred certain notes with the principal amount of $50,000 and $25,000, including accrued interest, in July 2011 and August 2011, respectively, to the consultant. Pursuant to the terms and conditions of a settlement agreement that the Company executed with the estate of a deceased note holder in November 2011, the Company settled a $25,000 note for restricted shares of its common stock, in December 2011, issued to  two (2) beneficiaries of the estate (see Notes 5 and 11). Pursuant to the terms and conditions of debt purchase agreements formalized among the Company, the note holder and two unrelated parties in September 2013, October 2013 and December 2013, the Company settled and transferred $100,000 of the note balance to the unrelated parties in the form of four (4) convertible notes for $25,000 each. Pursuant to the terms and conditions of debt purchase agreements formalized among the Company, the note holder and an unrelated party in January 2014 and March 2014, the Company settled and transferred $25,000 of the note balance and $25,000 of accrued interest to the unrelated party in the form of two (2) convertible notes for $25,000 each. The Company is currently pursuing extensions on the remaining notes.		$	1,525,000						$	1,550,000

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Promissory notes of $225,000 bearing interest at 10% per annum, matured on January 23, 2012, with a total of 492 shares of common stock, as adjusted by the Company’s 1:1,500 reverse stock split Pursuant to the terms and conditions of debt purchase agreements formalized among the Company, the note holder and an unrelated party in July 2013 and October 2013, the Company transferred $60,000 and $70,000, respectively, of the note balance to the unrelated party in the form of a convertible notes for $60,000  and $70,000 (see Notes 5 and 11). The Company is currently pursuing an extension. Promissory note of $50,000, bearing interest at 8% per annum, maturing on July 22, 2015.			145,000				95,000
Two (2) units with each unit consisting of a 10% promissory note of $25,000, matured on April 20, 2012, and 34 restricted shares of the Company’s common stock, as adjusted by the Company’s 1:1,500 reverse stock split, and at market price. The 67 shares, as adjusted by the Company’s 1:1,500 reverse stock split, were issued in June 2009. The Company is currently pursuing extensions.			50,000				50,000
One (1) unit consisting of a 10% promissory note of $25,000, matured on June 8, 2012, and 34 restricted shares of the Company’s common stock, as adjusted by the Company’s 1:1,500 reverse stock split, and at market price. The shares were issued in June 2009. The Company is currently pursuing an extension.			25,000				25,000
Three (3) units with each unit consisting of a 10% promissory note of $25,000, matured on June 25, 2012, and 34 restricted shares of the Company’s common stock, as adjusted by the Company’s 1:1,500 reverse stock split, and at market price, for a total of 100 shares of common stock, as adjusted by the Company’s 1:1,500 reverse stock split. The shares were issued in August 2009. The Company is currently pursuing extensions.			75,000				75,000
1.4 units with each unit consisting of a 10% promissory note of $25,000, matured on July 14, 2012 and 34 restricted shares of the Company’s common stock as adjusted by the Company’s 1:1,500 reverse stock split, and at market price, for a total of 47 shares of common stock, as adjusted by the Company’s 1:1,500 reverse stock split.  The shares were issued in August 2009. The Company is currently pursuing an extension.			35,000				35,000
One (1) unit consisting of a 10% promissory note of $25,000, matured on August 18, 2012 and 50 restricted shares of the Company’s common stock, as adjusted by the Company’s 1:1,500 reverse stock split, and at market price. The Company is currently pursuing an extension.			25,000				25,000
Promissory notes executed in July 2011 bearing interest at 10% per annum, matured on December 31, 2011. The Company issued 667 warrants with an exercise price of $750 per share, as adjusted by the Company’s 1:1,500 reverse stock split, expiring July 15, 2014. The fair value of the warrants issued was $26,200, all of which was expensed in 2011 as interest expense. The Company is currently pursuing extensions.			87,500				87,500
A promissory note executed in August 2011 bearing interest at 10% per annum, matured on December 31, 2011. The Company is currently pursuing an extension.			50,000				50,000
			2,017,500				1,992,500
Long-term portion			(50,000)				(-)
			1,967,500				1,992,500
Discount on convertible notes payable			(-)				(-)
Current maturities, net of discount		$	1,967,500			$	1,992,500

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At March 31, 2014 and December 31, 2013, accrued interest due for the notes was $1,379,159 and $1,329,835, respectively, and is included in accrued expenses in the accompanying balance sheets. Interest expense for notes payable for the interim period ended March 31, 2014 and 2013  was $49,324 and $58,103, respectively.

The long term portion of promissory notes is due as follows: 2015-$50,000

Note 8 - Notes Payable – Related Parties

Notes payable - related party consisted of the following:

		March 31, 2014						December 31, 2013
Promissory notes executed with the CEO bearing interest at an amended rate of 8% per annum originally matured on April 30, 2011. In January 2014, the notes were extended to December 31, 2014.		$	504,000						$	504,000
A promissory note executed with the CEO bearing interest at 9% per annum originally matured on April 30, 2011.  The Company issued 14 warrants with an exercise price of $1,950 per share, as adjusted by the Company’s 1:1,500 reverse stock split, originally matured on May 25, 2011. The fair value of the warrants issued was $24,300. In January 2014, the note was extended to December 31, 2014.			100,000							100,000
A promissory note with the CEO bearing interest at 8% per annum originally matured on April 30, 2011. The Company issued 6 warrants with an exercise price of $750 per share, as adjusted by the Company’s 1:1,500 reverse stock split, which originally matured on February 21, 2012. The fair value of the warrants issued was $3,758. In January 2014, the note was extended to December 31, 2014.			22,000							22,000
Two (2) 10% promissory notes, with the CEO, of $25,000 and 34 restricted shares of the Company’s common stock, as adjusted by the Company’s 1:1,500 reverse stock split, and at market price, for a total of 67 shares, as adjusted by the Company’s 1:1,500 reverse stock split, originally matured on April 30, 2011. In January 2014, the note was extended to December 31, 2014.			50,000							50,000
Promissory notes with the CEO, non-interest bearing, originally matured on April 30, 2011. Partial payments of $6,580 were made towards the notes in August and September 2010 and $2,700 in February 2011. In January 2014, the notes were extended to December 31, 2014.			31,420							31,420
In October 2010, the Company assigned the proceeds of six (6) open accounts receivable invoices, totaling $20,761, to its CEO. The assignment was non-interest bearing and fee free with a due date of November 20, 2010. Partial repayments were made in October 2010 for $4,218 and November 2010 for $4,125. In January 2014, the note was extended to December 31, 2014 (see Note 11).			12,418							12,418
A promissory note executed in March 2011 with the CEO, non-interest bearing, originally matured on April 1, 2011. In January 2014, the note was extended to December 31, 2014.			2,800							2,800
		$	722,638						$	722,638

At March 31, 2014 and December 31, 2013, accrued interest due for the notes – related parties was $450,321 and $436,493, respectively, and is included in accrued expenses in the accompanying balance sheets. Interest expense for notes payable - related parties for the interim period ended March 31, 2014 and 2013 was $13,828 and $13,828, respectively.

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Note 9 - Convertible Secured Notes Payable

Convertible secured notes payable consisted of the following:

		March 31, 2014						December 31, 2013
DART Limited (custodian for Citco Global and as assigned from YA Global/Highgate) (“DART”)		$	542,588						$	542,588
Current maturities, net of discount		$	542,588						$	542,588

At March 31, 2014, the Company's outstanding convertible secured notes payable are secured through the note holder's claim on the Company's intellectual property.

The DART secured convertible debentures are matured. The Company has been in contact with the note holder who has indicated that it has no present intention of exercising its right to convert the debentures into restricted shares of the Company's common stock.

Conversions to Common Stock

For the interim period ended March 31, 2014 and 2013, DART and Citco Global had no conversions.

Note 10 – Derivative Financial Instruments

As of March 31, 2014, the Company’s derivative financial instruments are embedded derivatives associated with the Company’s secured and certain unsecured convertible notes, certain warrant agreements and Series B preferred shares.

The Company’s secured convertible debentures issued to YA Global and Highgate in 2005, further assigned to Citco Global (“Citco Global Notes”), and unsecured convertible debentures issued to ten (10) unrelated investors firms: International Capital Group (“ICG”), Asher Enterprises, Inc. (“Asher”), Auctus Private Equity Fund (“Auctus”), Herbert Klei (“Klei”), Iconic Holdings, LLC (“Iconic”), Southridge Partners II, LP ("Southridge"), Tonaquint, Inc. ("Tonaquint"), WHC Capital, LLC ("WHC"), James Solakian ("Solakian"), Tarpon Bay Partners ("Tarpon"), LG Capital Funding, LLC ("LG Capital"), JMJ Financial and Adar Bays, LLC ("Adar Bays") are hybrid instruments, which individually warrant separate accounting as a derivative instrument. In July 2012, the Company was notified by Citco Global that the custodian for the Citco Global Notes is D.A.R.T. Limited (“DART”). The Citco Global Notes are hereinafter referred to as the “DART Notes” (see Notes 5 and 9).

In October 2013, the Company entered into a purchase agreement with Tonaquint which included five year warrants for 61,111 shares of the Company's common stock, as adjusted by the Company's 1:1,500 reverse stock split, at an exercise price of $0.40, subject to adjustments (see Note 12). The terms of the warrants are as follows:

·

The warrants have an expiration date five years from issuance on October 13, 2018;

·

The exercise price resets to a floor which may be adjusted in the initial six months after issuance;

·

As of March 31, 2014, no warrants have been exercised.

Because the warrants have reset features (full reset feature and certain anti-dilution rights) based upon the issuance of equity securities by the Company in the future (the exercise price reset floor is adjusted in the initial 6 months from issuance), they are subject to derivative liability treatment.

For the interim period ended March 31, 2014, the Company sold subscriptions to three individuals for the purchase of shares of its Series B preferred stock at $1.50 per share. The Company sold a total of 42,002 shares, for $63,000, that are convertible into shares of its common stock at a 40% discount to current market value, defined as the average of the immediately prior five trading day's closing prices upon receipt of a conversion notice, and with a minimum price level set by the Company's Board of Directors at $0.005. The Series B preferred shares can be converted at any time after six months from the subscription agreements, but only once every 30 days (see Note 12). Because of the conversion feature of the Series B preferred shares, they are subject to derivative liability treatment.

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The embedded derivative feature has been bifurcated from the debt host contract, referred to as the "Compound Embedded Derivative Liability", which resulted in a reduction of the initial carrying amount (as unamortized discount) of the notes. The unamortized discount is amortized to interest expense using the effective interest method over the life of the notes, or 12 months. The embedded derivative feature includes the conversion feature within the notes and an early redemption option.  The compound embedded derivatives within the convertible notes have been recorded at fair value at the date of issuance; and are marked-to-market each reporting period with changes in fair value recorded to the Company’s statement of operations as Change in fair value of derivative liabilities.

Valuation of Derivative Financial Instruments

(1)

Valuation Methodology

The Company has utilized a third party valuation consultant to assist the Company to fair value the compound embedded derivatives using a multinomial lattice models that values the derivative liabilities within the convertible notes based on a probability weighted discount cash flow model.

(2)

Valuation Assumptions - Change in Fair Value of Derivative Liability Related to DART Notes

The following assumptions were used for the valuation of the derivative liability related to the Notes at March 31, 2014:

·

The principal balance of the DART Notes of $532,395;

·

The stock price of $0.000095 based on market data;

·

An event of default (in default as of 3/31/14) would occur 50% of the time, increasing 0.10% per month to a maximum of 95% with the Company most likely to negotiate an extension;

·

Alternative financing would be initially available to redeem the note 10% of the time and increase monthly by 0.1% to a maximum of 20%:

·

The monthly trading volume would average $564,345 over a year and would increase at 1% per period;

·

The projected volatility curve for each valuation period was based on the Company’s historical volatility:

1 year

 

12/31/13

299%

 

3/31/14

381%

·

The Holder would automatically convert the notes at a stock price of the higher of $0.13 (2 times the conversion price or 1.5 times the stock price) if the registration was effective and the company was not in default.

As of March 31, 2014, the estimated fair value of derivative liabilities on secured convertible notes of DART was $36,369.

(3)

Valuation Assumptions - Change in Fair Value of Derivative Liabilities Related to ICG, Asher, Auctus, Klei, Iconic, Southridge, Tonaquint, WHC, Solakian, Tarpon, LG Capital, JMJ Financial and Adar Bays Notes and the Series B preferred stock.

The following assumptions were used for the valuation of the derivative liability related to the ICG, Asher, Auctus, Klei, Iconic, Southridge, Tonaquint, WHC, Solakian, Tarpon, LG Capital, JMJ Financial and Adar Bays Notes at issuance, conversion and period ended March 31, 2014:

·

The notes convert with an initial conversion price of 40%-60% of the average or low of the 1-3 lowest bid out of the 10-20

previous days (the effective rates are typically lower);

·

The projected volatility curve for each valuation period was based on the historical volatility of the company in the range of 210%  to 299%;

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·

An event of default would occur 1% of the time, increasing 1.00% per month to a maximum of 10%;

·

The company would redeem the notes (at 130% on average in the first 90 days and 145% on average from 91 to 180 days or 150%) projected initially at 0% of the time and increase monthly by 2.0% to a maximum of 10.0% (from alternative financing being available for a redemption event to occur); and

·

The Holder would automatically convert the note at the maximum of 2 times the conversion price if the company was not in default. With the target exercise price dropping as maturity approaches.

As of March 31, 2014, the estimated fair value of derivative liabilities on the unsecured convertible notes from ICG, Asher, Auctus, Klei, Iconic, Southridge, Tonaquint, WHC, Solakian, Tarpon, LG Capital, JMJ Financial and Adar Bays was $661,931.

As of March 31, 2014, the estimated fair value of derivative liabilities related to the Tonaquint warrants was $1,591.

Summary of the Changes in Fair Value of Level 3 Financial Liabilities

The table below provides a summary of the changes in the fair value of the derivative financial instruments and the changes in the fair value of the derivative financial instruments, including net transfers in and/or out, of all financial assets and liabilities measured at fair value on a recurring basis using significant unobservable inputs (Level 3):

						Fair Value Measurement Using Level 3 Inputs
											Derivative warrants Assets (Liability)									Total
Balance, December 31, 2012												$	(375,634)								$	(375,634)
Purchases, issuances and settlements													(456,794)									(456,794)
Transfers in and/or out of Level 3													-									-
Total gains or losses (realized/unrealized) included in:
Net income (loss)													312,995									312,995
Other comprehensive income (loss)													-									-
Balance, December 31, 2013												$	(519,433)								$	(519,433)
Purchases, issuances and settlements													(111,698)									(111,698)
Transfers in and/or out of Level 3													-									-
Total gains or losses (realized/unrealized) included in:
Net income (loss)													(68,760)									(68,760)
Other comprehensive income (loss)													-									-
Balance, March 31, 2014												$	(699,891)								$	(699,891)

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Note 11 - Commitments and Contingencies

Payroll Taxes

At March 31, 2014, the Company recorded $53,901 of payroll taxes, of which approximately $45,000 were delinquent from the year ended December 31, 2003. The Company had also recorded $32,462 of related estimated penalties and interest on the delinquent payroll taxes. In March 2014, the Company determined to re-examine the nature and amounts of this accrued liability.

Section 105 HRA Plan

In September 2011, the Company enacted a Section 105 HRA Plan, effective with the 2011, with an outside plan administrator. Pursuant to the terms and conditions of the plan, the Company will contribute plan dollars of $1,500 per plan year for employees with single health plan coverage and $3,000 per plan year for employees with family health plan coverage into the plan. The plan dollars will be reimbursed to the employees to offset the cost of health care expenses.

Lease Agreement

The Company operates from a leased office in New Jersey. Per the terms of the lease agreement with the landlord, the Company pays a monthly base rent of $3,807 commencing on July 1, 2009 through the lease termination date of January 31, 2016. The landlord holds the sum of $8,684 as the Company’s security deposit.

Future minimum payments required under this non-cancelable operating lease were as follows:

Year ending December 31:
2014 (remainder)			34,263
2015			45,684
2016			3,807
		$	83,754

Consulting Agreements

In December 2009, the Company entered into a retainer agreement with an attorney, whereby the attorney will act as in-house counsel for the Company with respect to all general corporate matters.  The agreement is at will and required a payment of 67 shares of common stock, valued at $75 per share, as adjusted by the Company’s 1:1,500 reverse stock split, upon execution. Commencing on January 1, 2010, the fee structure also includes a monthly cash fee of $1,000 and the monthly issuance of 2,500 shares of common stock, valued at market (see Note 12).  The common shares to be issued are not affected by the Company's 1:1,500 reverse stock split.

In January 2012, the Company entered into a consulting agreement with a firm whereby the consultant will assist the Company in obtaining clients and investors. The consultant will receive a fee of $5,000 per month and warrants to purchase 100 shares of the Company’s common stock, exercisable at $45 per share as adjusted by the Company’s 1:1,500 reverse stock split. The consultant also received warrants to purchase 100 shares of the Company’s common stock, exercisable at $45 per share, as adjusted by the Company’s 1:1,500 reverse stock split, upon execution of the agreement. The warrants have a three year term. The term of the agreement was one month. The agreement was amended and extended for February, March, April, July, August and September 2012. The February 2012 amendment reduced the exercise price of the warrants to $30 per share, as adjusted by the Company’s 1:1,500 reverse stock split. In July 2012, the agreement was amended for an additional one month extension and the monthly fee was increased to $5,500 and the issuance of warrants to purchase 110 shares of the Company’s common stock, exercisable at $30 per share, as adjusted by the Company’s 1:1,500 reverse stock split, expiring three (3) year from the date of issuance. In May 2013, the agreement was amended to provide for a two-week fee of $2,500 and the issuance of warrants to purchase 50 shares of the Company’s common stock, exercisable at $6.00 per share, as adjusted by the Company’s 1:1,500 reverse stock split, expiring three (3) year from the date of issuance.

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In January 2012, the Company entered into a consulting agreement with a firm whereby the consultant will assist the Company in obtaining investors. The consultant will receive a commission of 5% of all financing raised as a result of the consultant’s efforts. The consultant will also receive, as a commission, 10% of all financing raised as a result of the consultant’s efforts in the form of warrants to purchase shares of the Company’s common stock, exercisable at $30 per share expiring, as adjusted by the Company’s 1:1,500 reverse stock split, three (3) years from the date of issuance (see Note 12). The term of the agreement was two (2) years. As of March 31, 2014, no financing was raised relating to the agreement.

In February 2012, the Company entered into a consulting agreement with a firm whereby the consultant will assist the Company in obtaining clients. The consultant will receive a commission of 50% of all contracted revenues and the first renewal of all contracted revenues for new clients and 25% of all contracted revenues for existing clients, recorded as a result of the consultant’s efforts. In March 2012, the agreement was amended to increase the 25% commission rate for existing clients to 35%. The parties may elect to remit commissions in the form of restricted shares of the Company’s common stock, with a maximum amount of shares issued in one (1) year not to exceed 3,333 shares, as adjusted by the Company’s 1:1,500 reverse stock split,. The agreement also includes performance incentives whereby the consultant will receive bonus restricted shares of the Company’s common stock at the end of the agreement term as follows: one million shares if contracted revenues exceed $1,000,000, two million shares if contracted revenues exceed $2,000,000, three million shares if contracted revenues exceed $3,000,000 and four million shares if contracted revenues exceed $4,000,000. At the end of the first year of the agreement, the consultant will also have the option to purchase restricted shares of the Company’s common stock directly from the Company at a 25% discount of the then current market price on the last day of the contract, up to a maximum of 3,333 shares, as adjusted by the Company’s 1:1,500 reverse stock split. The term of the agreement is one (1) year with automatic renewals. In July 2012, the parties extended the term of the agreement to October 31, 2013. As of March 31, 2014, no revenues were recorded relating to the agreement.

In April 2012, the Company entered into a consulting agreement with a firm whereby the consultant will provide public relations services to the Company. The consultant will receive a fee of $7,000 per month and $500 per month in the form of restricted shares of the Company's common stock valued on the closing market price of the first day of each month that the agreement is in effect. The agreement term was from May 1, 2012 to October 31, 2012 and may be renewed upon mutual agreement. In October 2012, the agreement was extended to April 30, 2013. In April 2013, a new agreement was executed with the consultant with the same terms and conditions with an expiration date of October 31, 2013 (see Note 12).

In January 2013, the Company entered into a consulting agreement with a firm whereby the consultant will assist the Company in obtaining investors. The consultant will receive a commission of 10% cash plus 10% warrant coverage, to be negotiated per deal, of all financing raised as a result of the consultant’s efforts. The warrants to purchase shares of the Company’s common stock, exercisable at a per share price of the dollars invested divided by the strike price of the investment, with a 20% exercise price premium, expiring four (4) years from the date of issuance and vesting over six (6) months. The term of the agreement was one (1) year. As of March 31, 2014, no financing was raised relating to the agreement.

In February 2013 the Company executed a retainer agreement with its patent attorneys to enforce its patent rights as “Out-of-Band Authentication” is becoming the standard for authenticating consumers in the financial market.

In May 2013, the Company entered into a consulting agreement with a firm whereby the consultant will provide advertising and public relations services to the Company. The consultant will receive a fee of $1,000 per month. The term of the agreement was three (3) months.

In June 2013, the Company entered into a consulting agreement with a firm whereby the consultant will assist the Company in obtaining clients. The consultant will receive a commission of 10% of all directly contracted revenues and 5% of revenues contracted through a third party, recorded as a result of the consultant’s efforts. The parties may elect to remit commissions in the form cash or restricted shares of the Company’s common stock (at a share price to be determined), or a combination of both. The term of the agreement is one (1) year with automatic renewals. As of March 31, 2014, no revenues were recorded relating to the agreement.

In June 2013, the Company entered into a consulting agreement with a firm whereby the consultant will assist the Company in obtaining investors. The consultant will receive a commission of $5,000, per deal, of all financing raised as a result of the consultant’s efforts. The term of the agreement was six (6) months. In 2013, the consultant received $5,000 as a result of financing raised relating to the agreement.

In July 2013, the Company entered into a consulting agreement with a firm whereby the consultant will assist the Company in obtaining lending sources. The consultant will receive a commission of 10%, per deal, of net funding received by the Company as a result of the consultant’s efforts. The term of the agreement is twelve (12) months. As of March 31, 2014, no lending has resulted from the agreement.

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In August 2013 the Company executed a retainer agreement with its an attorney to enforce its patent rights, in the State of Washington, as “Out-of-Band Authentication” is becoming the standard for authenticating consumers in the financial market.

In December 2013, the Company entered into a revenue share agreement with a firm whereby the consultant will assist the Company is obtaining new clients. The consultant will receive a commission of 5% on any revenues resulting from new clients obtained relating to the agreement. Either party may terminate the agreement by notifying the other party in writing.  As of March 31, 2014, no revenues were recorded as a result the consultant's efforts relating to the agreement.  In December 2013, the Company executed an advertising contract with the consultant for various marketing services to be provided from December 2013 to March 2014, at a cost of $975 per month. In March 2014, the Company executed an extension to the advertising contract with the consultant for various marketing services to be provided from April 2014 to July 2014, at a cost of $875 per month.

In December 2013, the Company entered into a consulting agreement with a firm whereby the firm will serve as a testifying expert as the Company enforces its patent rights through litigation. The Company shall compensate the consultant at a rate of $650 per hour for consultant services and $750 per hour for services relating to court testimony. As of March 31, 2014, no fees have been remitted to the consultant relating to this agreement.

In March 2014, the Company entered into a consulting agreement with a firm whereby the consultant will assist the Company in obtaining investors. The consultant will receive a commission of 10% cash per deal, plus warrants to purchase shares of the Company's common stock, to be negotiated per deal, of all financing raised as a result of the consultant’s efforts. In March 2014, the consultant received cash commissions of $28,500 as a result of financing raised relating to the agreement. In March 2014, the Company issued warrants to purchase 4,000 shares of its common stock, exercisable at $0.21 per share price for 3,000 shares and $0.32 per share for 1,000 shares to the consultant per the terms of the agreement. The warrant shares have a 50% exercise price premium and expire three (3) years from the date of issuance. The warrants were not be affected by the Company's reverse stock split. The term of the agreement is per deal.

In March 2014, the Company executed a retainer agreement, for $5,000, with an attorney to assist the Company in responding to a February 2014 Depository Trust and Clearing Corporation ("DTCC") inquiry, including the issuance of a legal opinion letter. The DTCC inquiry was resolved in April 2014.

Term Sheets

In November 2011, the Company executed a term sheet with an investor firm whereby the firm would invest in the Company up to $450,000, in tranches of $75,000 per month, for six (6) months, in the form of convertible promissory notes bearing interest at 4% per annum maturing 12 months from the date of issuance (see Note 5). A broker fee of 12% was deducted from each tranche and the notes will include a 15% prepayment penalty. The investor firm may process conversions after six months from the date of each closing. Conversions will include a 40% discount to the lower of (i) the average closing bid price of the Company’s common stock for the previous ten (10) days of a conversion notice or (ii) the closing bid price on the date of the conversion notice. In December 2011, the Company received the first tranche of $66,000, net of $9,000 broker fee, and executed a convertible promissory note and securities purchase agreement per the term sheet (see Note 5).  Additional closings, for the same amounts, were held in January (two closings) and March (one closing) 2012. The debentures contain an embedded derivative feature (see Note 10). In March 2012, the investor firm notified the Company that it terminated the term sheet.

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In March 2012, the Company executed a term sheet with an investor firm whereby the firm would invest in the Company $53,000 in the form of a convertible promissory note, bearing interest at 8% per annum maturing nine (9) months from the date of issuance. A closing fee of $3,000 would be deducted from the tranche and the note would include a tiered prepayment penalty. The investor firm may process conversions after six months from the date of the closing. Conversions would include a 42% discount to the average closing bid price of the Company’s common stock for the previous ten (10) days of a conversion notice, using the average of the three (3) lowest trading prices. In April 2012, the Company received the tranche of $50,000, net of $3,000 closing fee, and executed a convertible promissory note and securities purchase agreement per the terms of the term sheet. In May 2012, the investor firm invested an additional $32,500 in the Company governed by the term sheet and in the form of a convertible promissory note for $32,500. The Company received the second tranche of $30,000, net of a $2,500 closing fee, in May 2012. In July 2012, the investor firm invested an additional $42,500 in the Company governed by the terms of a July 2012 term sheet and in the form of a convertible promissory note for $42,500. The Company received the third tranche of $40,000, net of a $2,500 closing fee, in July 2012. In November 2012, the Company executed a new term sheet with the investor firm and received $30,000, net of a $2,500 closing fee, and executed a convertible promissory note and securities purchase agreement per the term sheet. In December 2012, the Company executed a new term sheet with the investor firm and received $40,000, net of a $2,500 closing fee, and executed a convertible promissory note and securities purchase agreement per the term sheet. In February 2013, the Company executed a new term sheet with the investor firm and received $40,000, net of a $2,500 closing fee, and executed a convertible promissory note and securities purchase agreement per the term sheet. In April 2013, the Company executed a new term sheet with the investor firm and received $40,000, net of a $2,500 legal fee, and executed a convertible promissory note and securities purchase agreement per the term sheet. In June 2013, the Company executed a new term sheet with the investor firm and received $40,000, net of a $2,500 legal fee, and executed a convertible promissory note and securities purchase agreement per the term sheet. In July 2013, the Company executed a new term sheet with the investor firm and received $37,500, net of a $2,500 closing fee, and executed a convertible promissory note and securities purchase agreement per the term sheet. In August 2013, the Company executed a new term sheet with the investor firm and received $37,500, net of a $2,500 closing fee, and executed a convertible promissory note and securities purchase agreement per the term sheet (see Note 5). The Company recorded all of the closing fees of $13,000 in 2012 and $2,500, from the February 2013 term sheet, for the year ended December 31, 2013, as deferred financing costs. The fees of $10,000, from the April, June, July and August 2013 term sheets, were expensed as legal fees for the year ended December 31, 2013. In February 2014, the Company executed a new term sheet with the investor firm and, in March 2014, received $50,000, net of a $3,000 legal fee, and executed a convertible promissory note and securities purchase agreement per the term sheet (see Note 5). The debentures contain an embedded derivative feature (see Note 10). For the interim period ended March 31, 2014 and 2013, the Company expensed $0 and $366, respectively, of financing expenses related to the deferred financing costs.

In November 2012, the Company executed a term sheet with an investor firm whereby the firm would invest in the Company $27,750 in the form of a convertible promissory note, bearing interest at 8% per annum maturing nine (9) months from the date of issuance. A legal fee of $2,750 would be deducted from the tranche and the note would include a tiered prepayment penalty. Conversions would include a 40% discount to the average closing bid price of the Company’s common stock for the previous ten (10) days of a conversion notice, using the average of the two (2) lowest trading prices. In December 2012, the Company received the tranche of $25,000, net of the $2,750 legal fee, and executed a convertible promissory note and securities purchase agreement per the term sheet. In February 2013, the Company executed a new term sheet with the investor firm and received $25,000, net of $2,750 in legal fees, and executed a convertible promissory note and securities purchase agreement per the term sheet. In May 2013, the Company executed a new term sheet with the investor firm and received $30,000, net of $2,750 in legal fees, and executed a convertible promissory note and securities purchase agreement per the term sheet. In October 2013, the Company executed a new term sheet with the investor firm and received $29,980, net of $2,770 in legal fees, and executed a convertible promissory note and securities purchase agreement per the term sheet (see Note 5). The debentures contain an embedded derivative feature (see Note 10).

Debt Purchase Agreements

In June 2013, pursuant to the terms and conditions of a debt purchase agreement formalized among the Company, a convertible note holder and an unrelated party, the Company settled and transferred $33,255 of the note balance, plus accrued interest of $36,920, to the unrelated party in the form of a convertible note for $50,000. Accrued interest of $21,175 was forgiven (see Notes 5 and 7). The new debenture contains an embedded derivative feature (see Note 10).

In June 2013, pursuant to the terms and conditions of a debt purchase agreement formalized among the Company, a promissory note holder and an unrelated party, the Company transferred $31,814 of the note balance, plus accrued interest of $18,526, to the unrelated party in the form of a convertible note for $50,340 (see Notes 5 and 7). The new debenture contains an embedded derivative feature (see Note 10).

In June 2013, pursuant to the terms and conditions of a debt purchase agreement formalized among the Company, a promissory note holder and an unrelated party, the Company settled and transferred the $50,000 note balance, plus accrued interest of $15,152, to the unrelated party in the form of a convertible note for $55,152. Accrued interest of $10,000 was forgiven (see Notes 5 and 7). The new debenture contains an embedded derivative feature (see Note 10).

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In July 2013, pursuant to the terms and conditions of a debt purchase agreement formalized among the Company, a promissory note holder and an unrelated party, the Company transferred $50,000 of the note balance to the unrelated party in the form of a convertible note for $50,000 (see Notes 5 and 7). The new debenture contains an embedded derivative feature (see Note 10).

In July 2013, pursuant to the terms and conditions of a debt purchase agreement formalized among the Company, a promissory note holder and an unrelated party, the Company transferred $60,000 of the note balance to the unrelated party in the form of a convertible note for $60,000 (see Notes 5 and 7). The new debenture contains an embedded derivative feature (see Note 10).

In September 2013, pursuant to the terms and conditions of a debt purchase agreement formalized among the Company, a convertible note holder and an unrelated party, the Company transferred $50,000 of the note balance to the unrelated party in the form of a convertible note for $50,000 (see Notes 5 and 7). The new debenture contains an embedded derivative feature (see Note 10).

In September 2013, pursuant to the terms and conditions of a debt purchase agreement formalized among the Company, a promissory note holder and an unrelated party, the Company transferred $25,000 of the note balance to the unrelated party in the form of a convertible note for $25,000 (see Notes 5 and 7). The new debenture contains an embedded derivative feature (see Note 10).

In October 2013, pursuant to the terms and conditions of a debt purchase agreement formalized among the Company, a promissory note holder and an unrelated party, the Company transferred $70,000 of the note balance to the unrelated party in the form of a convertible note for $70,000 (see Notes 5 and 7). The new debenture contains an embedded derivative feature (see Note 10).

In October 2013, pursuant to the terms and conditions of a debt purchase agreement formalized among the Company, a promissory note holder and an unrelated party, the Company transferred $25,000 of the note balance to the unrelated party in the form of a convertible note for $25,000 (see Notes 5 and 7). The new debenture contains an embedded derivative feature (see Note 10).

In October 2013, pursuant to the terms and conditions of a debt purchase agreement formalized among the Company, a promissory note holder and an unrelated party, the Company transferred $25,000 of the note balance to the unrelated party in the form of a convertible note for $25,000 (see Notes 5 and 7). The new debenture contains an embedded derivative feature (see Note 10).

In November 2013, pursuant to the terms and conditions of a debt purchase agreement formalized among the Company, a convertible promissory note holder and an unrelated party, the Company transferred $70,000 of the note balance to the unrelated party in the form of a convertible note for $70,000 (see Notes 5 and 7). The new debenture contains an embedded derivative feature (see Note 10).

In December 2013, pursuant to the terms and conditions of a debt purchase agreement formalized among the Company, a promissory note holder and an unrelated party, the Company transferred $25,000 of the note balance to the unrelated party in the form of a convertible note for $25,000 (see Notes 5 and 7). The new debenture contains an embedded derivative feature (see Note 10).

In January 2014, pursuant to the terms and conditions of a debt purchase agreement formalized among the Company, a promissory note holder and an unrelated party, the Company transferred $25,000 of the note balance to the unrelated party in the form of a convertible note for $25,000 (see Notes 5 and 7). The new debenture contains an embedded derivative feature (see Note 10).

In March 2014, pursuant to the terms and conditions of a debt purchase agreement formalized among the Company, a promissory note holder and an unrelated party, the Company transferred $25,000 of the accrued interest balance to the unrelated party in the form of a convertible note for $25,000 (see Notes 5 and 7). The new debenture contains an embedded derivative feature (see Note 10).

Loan Repayment Agreement

In April 2009, the Company signed an agreement whereby two promissory notes executed with a distributor of its products were to be repaid from the proceeds of sales of the Company’s products sold by the distributor for the Company. In September 2009, the Company executed an additional promissory note with the distributor that is included in the loan repayment agreement. In May 2010, the Company executed an additional promissory note with the distributor that is included in the loan repayment agreement. In September 2012, the Company and the distributor executed an amendment to the March and April 2009 promissory notes whereby the Company would remit the accrued interest due on the notes, in the amount of $10,388, to the distributor by November 1, 2012. The payment was made in October 2012. For the year ended December 31, 2013 and 2012, sales proceeds of $1,275 and $12,426, respectively, were applied to the balance of the notes. In June 2013, pursuant to the terms and conditions of debt purchase agreements formalized among the Company, the note holder and two unrelated parties, the Company settled and transferred the note balances, plus accrued interest, to the unrelated parties in the form of two convertible notes (see Notes 5 and 7).

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Forbearance Agreement

In December 2012, the Company executed a forbearance agreement with a note holder whereby the Company agreed to pay down an October 2009 promissory note in the amount of $18,750 plus accrued interest of $5,650, for a total amount of $24,400. The Company made the initial payment of $12,200 to the note holder in December 2012. The remaining payments of $6,100 and $450 each were made in January and February 2013 (see Note 7).

Assignment

In October 2010, the Company assigned the proceeds of six of the Company’s open receivables invoices, in the total amount of $20,761, to its CEO. The assignment was non-interest bearing and fee free with a due date for repayment of November 20, 2010. Partial repayments of the assignment were made in October 2010 for $4,218 and November 2010 for $4,125. The due date of the assignment has been extended to December 31, 2014 (see Note 8).

Due to Factor

In March 2007, the Company entered into a sale and subordination agreement with a factoring firm whereby the Company sold its rights to two invoices, from February 2007 and March 2007, totaling $470,200 to the factor.  Upon signing the agreement and providing the required disclosures, the factor remitted 65%, or $144,440, of the February 2007 invoice and a certain percentage of $53,010 of the March 2007 invoice to the Company.  The Company paid a $500 credit review fee to the factor relating to the agreement.  Per the terms of the agreement, once the Company’s client remits the invoice amount to the factor, the factor deducts a discount fee from the remaining balance of the factored invoices and forwards the net proceeds to the Company.  The discount fee is computed as a percentage of the face amount of the invoice as follows: 2.25% fee for invoices paid within 30 days of the down payment date with an additional 1.125% for each 15 day period thereafter. In September 2007, the February 2007 factored invoice was deemed uncollectible and was written off as bad debt expense. In December 2007, the March 2007 factored invoice was deemed uncollectible and was written off as bad debt expense. In February 2008, the Company and the factor agreed to a total settlement amount of $75,000, which was scheduled to be paid by the Company to the factor in September 2008 unless both parties mutually agreed to extend the due date. In September 2008, the Company and the factor reached a verbal agreement to extend the due date to December 31, 2008. The Company is pursuing a further extension. As of March 31, 2014, the balance due to the factor by the Company was $209,192 including interest.

Litigation

On March 25, 2013, the Company filed a complaint In The United States District Court For The District Of New Jersey (case no: 13-cv-01895 (SRC)(CLW)) vs. WhiteSky, Inc (an existing channel partner). The Company filed claims that WhiteSky effectuated multiple contract breaches, misappropriation of trade secrets, breach of Intellectual Property, and disclosure of confidential information in commencing attempts to replace the Company's “GuardedID® Customized Desktop Product” with a third party's product since November 2012, even though the contractual agreement expires in May 2014. In July 2013, the Company filed an amended complaint based on the Court’s rulings on the motions, which required some minor adjustments and strengthening based on what it learned through early admissible discovery. The Company is aggressively litigating this matter and anticipates a successful outcome.  To date, all of WhiteSky’s arguments against the Company's complaints have been denied by the Court. As of mid-November 2013 the case is in Discovery, which is actively progressing and limited to a certain number of months. If the Company is unsuccessful, the costs and results associated with these legal proceedings could be significant and could negatively affect the results of future operations. As of early 2014 settlement discussions are in progress, with no certainty they will succeed. However, the Company has already executed agreements which present new opportunities that could minimally replace the potential loss of revenues (or award) resulting from these proceedings in 2014.

Note 12 - Stockholders’ Deficit

Preferred Stock

On October 21, 2010, the Company amended its Articles of Incorporation in New Jersey to authorize 10,000,000 shares of preferred stock, par value $0.10. The designations, rights, and preferences of such preferred stock are to be determined by the Board of Directors. On November 15, 2010, the Company changed its domicile from the State of New Jersey to the State of Wyoming.

In addition to the 10,000,000 shares of preferred stock authorized on October 21, 2010, on January 10, 2011, 100 shares of preferred stock were designated as Series A Preferred Stock and 100,000,000 shares were designated as Series B Preferred Stock. The bylaws under the Wyoming Incorporation were amended to reflect the rights and preferences of each additional new designation.

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The Series A Preferred Stock collectively has voting rights equal to eighty percent of the total current issued and outstanding shares of common stock. If at least one share of Series A Preferred Stock is outstanding, the aggregate shares of Series A Preferred Stock shall have voting rights equal to the number of shares of common stock equal to four times the sum of the total number of shares of common stock issued and outstanding, plus the number of shares of Series B Preferred Stock (or other designated preferred stock) which are issued and outstanding.

The Series B Preferred Stock shall have preferential liquidation rights in the event of any liquidation, dissolution or winding up of the Company, such liquidation rights to be paid from the assets of the Company not delegated to parties with greater priority at $1.00 per share or, in the event an aggregate subscription by a single subscriber of the Series B Preferred Stock is greater than $100,000,000, $0.997 per share. The Series B Preferred Stock shall be convertible to a number of shares of common stock equal to the price of the Series B Preferred Stock divided by the par value of the Series B Preferred Stock. The option to convert the shares of Series B Preferred Stock may not be exercised until three months following the issuance of the Series B Preferred Stock to the recipient shareholder. The Series B Preferred Stock shall have ten votes on matters presented to the shareholders of the Company for one share of Series B Preferred Stock held. The initial price of the Series B Preferred Stock shall be $2.50, (subject to adjustment by the Company’s Board of Directors) until such time, if ever, the Series B Preferred Stock are listed on a secondary and/or public exchange.  As of December 31, 2013, no shares of Series B Preferred Stock have been issued.

In February 2014, the Company's Board of Directors amended the initial price for the Series B Preferred Stock from $2.50 to $1.50 per share. The Company's Board of Directors also amended the conversion feature of the Series B Preferred Stock, to be convertible to common shares $0.0001 par value, at a 40% discount to current market value (“current market value“) at the time the Company receives a conversion request. Current Market Value is defined as the average of the immediately prior five trading day's closing prices. Additionally, when Series B Preferred Stock shares convert to the Company's common stock, the minimum price discount floor level is set at $0.005, as decided by the Company's Board of Directors.

Issuance of Series A Preferred Stock

In February 2011, the Company issued three (3) shares of non-convertible Series A preferred stock valued at $329,000 per share, or $987,000 in aggregate, for voting purposes only, to the three members of the management team at one share each. The issued and outstanding shares of the Series A preferred stock have voting rights equal to eighty percent of the total issued and outstanding shares of the Company's common stock. This effectively provided them, upon retention of their Series A Preferred Stock, voting control on matters presented to the shareholders of the Company. They have each irrevocably waived their conversion rights relating to the Series A preferred shares issued. The Company expensed $987,000 in stock based compensation expense related to the issuance of the shares in 2011.

Sales of Shares of Series B Preferred Stock

In February 2014, the Company sold subscriptions to three individuals for the purchase of shares of its Series B preferred stock at $1.50 per share. The Company sold a total of 25,335 shares, for $38,000, that are convertible into shares of its common stock at a 40% discount to current market value, defined as the average of the immediately prior five trading day's closing prices upon receipt of a conversion notice, and with a minimum price level set by the Company's Board of Directors at $0.005. The Series B preferred shares can be converted at any time after six months from the subscription agreements, but only once every 30 days. The conversion feature of the subscription agreement contains an embedded derivative (see Note 10).

In March 2014, the Company sold subscriptions to one individual for the purchase of shares of its Series B preferred stock at $1.50 per share. The Company sold a total of 16,667 shares, for $25,000, that are convertible into shares of its common stock at a 40% discount to current market value, defined as the average of the immediately prior five trading day's closing prices upon receipt of a conversion notice, and with a minimum price level set by the Company's Board of Directors at $0.005. The Series B preferred shares can be converted at any time after six months from the subscription agreements, but only once every 30 days. The conversion feature of the subscription agreement contains an embedded derivative (see Note 10).

Common Stock

In December 2012, an  increase of the authorized shares of the Company’s common stock from five hundred million (500,000,000) to seven hundred fifty million (750,000,000), $0.0001 par value, was ratified, effective upon the filing of an amendment to the Company’s Certificate of Incorporation with the Wyoming Secretary of State. The amendment was adopted in February 2013.

In May 2013, an  increase of the authorized shares of the Company’s common stock from seven hundred fifty million (750,000,000) to one billion, five hundred million (1,500,000,000), $0.0001 par value, was ratified, effective upon the filing of an amendment to the Company’s Certificate of Incorporation with the Wyoming Secretary of State. The amendment was adopted in May 2013.

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In July 2013, an  increase of the authorized shares of the Company’s common stock from one billion, five hundred million (1,500,000,000) to three billion (3,000,000,000), $0.0001 par value, was ratified, effective upon the filing of an amendment to the Company’s Certificate of Incorporation with the Wyoming Secretary of State. The amendment was adopted in July 2013.

In August 2013, an  increase of the authorized shares of the Company’s common stock from three billion (3,000,000,000) to five billion (5,000,000,000), $0.0001 par value, was ratified, effective upon the filing of an amendment to the Company’s Certificate of Incorporation with the Wyoming Secretary of State. The amendment was adopted in September 2013.

In December 2013, an increase of the authorized shares of the Company's common stock from five billion (5,000,000,000) to six billion seven hundred fifty million (6,750,000,000), $0.0001 par value, was ratified, effective upon the filing of an amendment to the Company's Certificate of Incorporation with the Wyoming Secretary of State. The amendment was adopted in January 2014.

In February 2014, a 1:1,500 reverse stock split of the Company's issued and outstanding shares of common stock was ratified, effective upon the filing of an amendment to the Company's Certificate of Incorporation with the Wyoming Secretary of State. The amendment was adopted in March 2014.

All shares and per share amounts in the financial statements have been adjusted to give retroactive effect to the 1:1500 Reverse Stock Split.

In February 2014, a decrease of the authorized shares of the Company's common stock from six billion seven hundred fifty million (6,750,000,000) to one billion, five hundred million (1,500,000,000), $0.0001 par value, was ratified, effective upon the filing of an amendment to the Company's Certificate of Incorporation with the Wyoming Secretary of State. The amendment was adopted in March 2014.

In March 2014, the Company's transfer agent issued 1,633 shares of the Company's common stock, valued at $302, as rounding shares relating to the Company's 1:1,500 reverse stock split of the Company's issued and outstanding shares of common stock that was adopted in March 2014.

Issuance of Common Stock for Services

In December 2009, the Company entered into a retainer agreement with an attorney, whereas the attorney acts as house counsel for the Company with respect to all general corporate matters.  The agreement is at will and required a payment of 67 shares of common stock, valued at $75 per share, as adjusted by the Company’s 1:1,500 reverse stock split, due upon execution. Commencing on January 1, 2010, the fee structure also includes a monthly cash fee of $1,000 and the monthly issuance of 2,500 shares of common stock, valued at market, and the total of which remains 2,500 shares post to the Company's reverse stock split. In December 2012, the Company recorded $19 in legal fees related to the agreement, as common stock to be issued. The 5 shares of restricted common stock, as adjusted by the Company’s 1:1,500 reverse stock split, were issued in February 2013. For the interim period ended March 31, 2014 and 2013, the Company issued a total of 15,000 shares of restricted common stock, 7,500 shares were from 2013, valued at $2,655 and 5 shares of restricted common stock, as adjusted by the Company’s 1:1,500 reverse stock split, valued at $71, respectively, all of which have been expensed as legal fees, related to the agreement.

In May 2012, the Company entered into a consulting agreement with a firm whereby the consultant will provide public relations services to the Company. The consultant will receive a fee of $7,000 per month and $500 per month in the form of restricted shares of the Company's common stock valued on the closing market price of the first day of each month that the agreement is in effect. In May 2012, the consultant received 23 shares of the Company’s common stock, as adjusted by the Company’s 1:1,500 reverse stock split, valued at $500. In June 2012, the consultant received 38 shares of the Company’s common stock, as adjusted by the Company’s 1:1,500 reverse stock split, valued at $500. In July 2012, the consultant received 42 shares of the Company’s common stock, as adjusted by the Company’s 1:1,500 reverse stock split, valued at $500. In August 2012, the consultant received 39 shares of the Company’s common stock, as adjusted by the Company’s 1:1,500 reverse stock split, valued at $500. In September 2012, the consultant received 36 shares of the Company’s common stock, as adjusted by the Company’s 1:1,500 reverse stock split, valued at $500. In October 2012, the consultant received 36 shares of the Company’s common stock, as adjusted by the Company’s 1:1,500 reverse stock split, valued at $500. In December 2012, the consultant received 58 shares of the Company’s common stock, as adjusted by the Company’s 1:1,500 reverse stock split, valued at $500. In March 2013, the consultant received 369 shares of the Company's common stock, as adjusted by the Company’s 1:1,500 reverse stock split, valued at $1,500, for payment of three months of services. In June 2013, the consultant received 159 shares of the Company's common stock, as adjusted by the Company’s 1:1,500 reverse stock split, valued at $1,500, for payment of three months of services. In October 2013, the consultant received 389 shares of the Company's common stock, as adjusted by the Company’s 1:1,500 reverse stock split, valued at $750, for payment of one and one-half months of services. The value of all of the shares issued has been expensed as consulting fees (see Note 11).

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Issuance of Common Stock for Financing

In March 2010, the Company executed a promissory note for $50,000 with its CEO, bearing interest at 10% per annum, maturing on April 30, 2011. Per the terms of the promissory note, the note holder purchased two units with each unit consisting of a 10% promissory note of $25,000 and 34 restricted shares of the Company’s common stock, valued at $37.50 per share and expensed in 2010, for a total of 68 shares of common stock, as adjusted by the Company’s 1:1,500 reverse stock split. In January 2014, the note was extended to December 31, 2014 (see Note 8).

In April 2010, the Company executed a promissory note for $80,000, bearing interest at 10% per annum, maturing on July 23, 2010. As consideration for executing the note, the Company issued 334 shares of restricted common stock, valued at $31.50 per share, as adjusted by the Company’s 1:1,500 reverse stock split, and expensed in 2010, to the note holder. On May 2, 2011, the Company repaid $10,000 of the note balance to the note holder. Per the terms of a settlement agreement that the Company executed with the note holder in January 2012, the Company issued 3,373 restricted shares of its common stock, valued at $24.75 per share, as adjusted by the Company’s 1:1,500 reverse stock split, to the note holder as settlement of the remaining note balance of $70,000 plus accrued interest (see Note 7).

In May 2010, the Company executed a promissory note for $50,000, bearing interest at 10% per annum, maturing on May 21, 2013. As consideration for executing the note, the Company issued 134 shares of restricted common stock, valued at $13.50 per share, as adjusted by the Company’s 1:1,500 reverse stock split, to the note holder. For the interim period ended March 31, 2014 and 2013, the Company expensed $0 and $150, respectively, of financing expenses related to the shares (see Note 7).

Conversions to Common Stock

For the interim period ended March 31, 2014, the Company received conversion notices from Asher to convert $95,100 of notes dated June 4, 2013 and July 17, 2013, and $4,700 of accrued interest, into 1,029,483 unrestricted shares of our common stock, at conversion prices ranging from $0.09 per share to $0.1112 per share, as adjusted by our 1:1,500 reverse stock split (see Note 5).

For the interim period ended March 31, 2014, the Company received conversion notices from Auctus to convert $17,000 of a note dated May 28, 2013, and accrued interest of $1,579, into 206,438 unrestricted shares of the Company's common stock, at a conversion price of $0.09 per share, as adjusted by the Company’s 1:1,500 reverse stock split (see Note 5).

For the interim period ended March 31, 2014, the Company received conversion notices from Iconic to convert $45,002 of notes dated June 4, 2013 and July 23, 2013, and accrued interest of $4,852, into 553,937 unrestricted shares of the Company's common stock, at a conversion price of $0.09 per share, as adjusted by the Company’s 1:1,500 reverse stock split (see Note 5).

For the interim period ended March 31, 2014, the Company received conversion notices from WHC to convert $24,553 of a note  originally issued to a non-related third party on June 6, 2006, and sold to the investor firm with no additional consideration to the Company, into 282,223 unrestricted shares of the Company's common stock, at a conversion price of $0.087 per share, as adjusted by the Company’s 1:1,500 reverse stock split (see Note 5).

For the interim period ended March 31, 2014, the Company received conversion notices from Tarpon to convert $33,250 of a note originally issued to a non-related third party on February 29, 2008, and sold to the investor firm with no additional consideration to the Company, and $15,000 of accrued interest, into 574,073 unrestricted shares of the Company's common stock, at conversion prices ranging from $0.077056 to $0.10175 per share, as adjusted by the Company’s 1:1,500 reverse stock split (see Note 5). A total of 97,333 of the shares, at a conversion price of $0.077056, were issued in April 2014.

For the interim period ended March 31, 2013, the Company received conversion notices from Asher to convert the balance of the note due on February 8, 2013 of $8,500, and accrued interest of $1,300, and the balance of the note due on April 30, 2013 of $42,500, and accrued interest of $1,700, into 34,852 unrestricted shares of the Company's common stock, at conversion prices from $1.425 to $2.10 per share, as adjusted by the Company’s 1:1,500 reverse stock split (see Note 5).

For the interim period ended March 31, 2013, the Company received a conversion notice from ICG to convert $11,280 of the January 3, 2012 note into 6,667 unrestricted shares of the Company's common stock, as adjusted by the Company’s 1:1,500 reverse stock split. The conversion was processed on January 24, 2013 at a conversion price of $1.692 per share, as adjusted by the Company’s 1:1,500 reverse stock split (see Note 5).

For the interim period ended March 31, 2013, Auctus had no conversions.

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Issuance of Warrants and Options for Financing and Acquiring Services

In connection with consulting agreements, the Company issued warrants for 14,044 shares to consultants, as adjusted by the Company’s 1:1,500 reverse stock split, all of which were deemed earned upon issuance, as of March 31, 2014 (see Note 11). The fair value of these warrants granted, estimated on the date of grant using the Black-Scholes option-pricing model, was $1,005,321, which has been recorded as consulting expenses.

In October 2013, the Company entered into a purchase agreement with Tonaquint which included five year warrants for 61,111 shares of the Company's common stock, as adjusted by the Company's 1:1,500 reverse stock split, at an exercise price of $0.40, subject to adjustments. The terms of the warrants are as follows:

·

The warrants have an expiration date five years from issuance on October 13, 2018;

·

The exercise price resets to a floor which may be adjusted in the initial six months after issuance;

·

As of March 31, 2014, no warrants have been exercised.

The Tonaquint warrants contain an embedded derivative (see Note 10).

The table below summarizes the Company’s non-derivative warrant activities through March 31, 2014, as adjusted by the Company’s 1:1,500 reverse stock split:

		Number of Warrant Shares				Exercise Price Range Per Share					Weighted Average Exercise Price					Fair Value at Date of Issuance				Aggregate Intrinsic Value
Balance, December 31, 2012			175,336				$	2.25-15,000.00				$	73.50			$	1,525,791				$	-
Granted			61,162					6.00-600.00					600.00				61,636					-
Canceled for cashless exercise			(-)					-					-				-					-
Exercised (Cashless)			(-)					-					-				-					-
Exercised			(-)					-					-				-					-
Expired			(24,253)					22.50-15,000.00					49.50				(482,177)					-
Balance, December 31, 2013			212,245				$	2.25-15,000.00				$	238.50			$	1,105,250				$	-
Granted			4,000					0.21-0.32					0.238				918					-
Canceled for cashless exercise			(-)					-					-				-					-
Exercised (Cashless)			(-)					-					-				-					-
Exercised			(-)					-					-				-					-
Expired			(1)					15,000.00					15,000.00				(1,709)					-
Balance, March 31, 2014			216,244				$	2.25-15,000.00				$	234.01			$	1,104,459				$	-
Vested and exercisable, March 31, 2014			216,244				$	2.25-15,000.00				$	234.01			$	1,104,459				$	-
Unvested, March 31, 2014			-				$	-				$	-			$	-				$	-

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The following table summarizes information concerning outstanding and exercisable warrants as of March 31, 2014, as adjusted by the Company’s 1:1,500 reverse stock split:

		Warrants Outstanding									Warrants Exercisable
Range of Exercise Prices		Number Outstanding			Average Remaining Contractual Life  (in years)			Weighted Average Exercise Price			Number Exercisable			Average Remaining Contractual Life  (in years)			Weighted Average Exercise Price
$15,000.00			2			0.46		$	15,000.00			2			0.46		$	15,000.00
$22.50-1,200.00			216,242			1.05		$	75.00			216,242			1.05		$	75.00
$22.50 - $15,000.00			216,244			1.05		$	75.14			216,244			1.05		$	75.14

Issuance of Stock Options to Parties Other Than Employees for Acquiring Goods or Services

In January 2013, the Company granted an option to purchase 6,667 shares of its common stock, as adjusted by the Company’s 1:1,500 reverse stock split, to NetLabs, Inc. in exchange for the assignment of the entire right, title and interest in and to the “Out-of-Band Patent”.  The Options were valued at $2.7 per share, as adjusted by the Company’s 1:1,500 reverse stock split, or $18,000, which was recorded as Patent.

The Company estimated the fair value of the options on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions:

					January 30, 2013
Expected life (year)						10.00
Expected volatility						142.00	%
Risk-free interest rate						2.03	%
Expected annual rate of quarterly dividends						0.00	%

As of March 31, 2014, options to purchase an aggregate of 8,000 shares of its common stock, as adjusted by the Company’s 1:1,500 reverse stock split, for non-employees were outstanding. The exercise price of the options to purchase 1,333 and 6,667 shares its common stock is $9.00 and $2.7, respectively, yielding a weighted average exercise price of $4.50, as adjusted by the Company’s 1:1,500 reverse stock split. In January 2013, options to purchase an aggregate of 507 of the Company's common stock at $5,400 per share, as adjusted by the Company’s 1:1,500 reverse stock split, were cancelled per an agreement executed with NetLabs, Inc. Also in January 2013, options to purchase an aggregate of 2 shares of the Company's common stock, at $13,500 per share, as adjusted by the Company’s 1:1,500 reverse stock split, expired.

Note 13 - Stock Based Compensation

2004 Equity Incentive Plan

In September 2004, the stockholders approved the Equity Incentive Plan for the Company’s employees (“Incentive Plan”), effective April 1, 2004. The number of shares authorized for issuance under the Incentive Plan was increased to 6,667 in September 2006, 10,000 in March 2007, 13,333 in June 2007, 66,667 in December 2007 and 133,333 in April 2011, as adjusted by the Company’s 1:1,500 reverse stock split,by unanimous consent of the Board of Directors prior to 2011 and by majority consent of the Board of Directors in 2011.

2012 Stock Option Plan

In November 2012, the stockholders approved the 2012 Stock Option Plan (“2012 Stock Incentive Plan”) for the Company’s employees, effective January 3, 2013. The number of shares authorized for issuance under the plan is 66,667, as adjusted by the Company’s 1:1,500 reverse stock split.

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Options granted in January 2013

On January 3, 2013, the Company granted options to purchase 3,333 shares of its common stock to the Company’s management team and employees with an exercise price at $3.45 per share, as adjusted by the Company’s 1:1,500 reverse stock split, expiring ten (10) years from the date of grant vesting over an eight month period.

The Company estimated the fair value of 2013 options on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions:

					January 3, 2013
Expected life (year)						10.00
Expected volatility						154.00	%
Risk-free interest rate						1.92	%
Expected annual rate of quarterly dividends						0.00	%

The table below summarizes the Company’s 2004 Incentive Plan and 2012 Stock Incentive Plan activities through March 31, 2014, as adjusted by the Company’s 1:1,500 reverse stock split: