10-Q/A 1 t80757_10qa.htm FORM 10-Q (AMENDMENT NO. 1)



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
 

FORM 10-Q/A 
 
Amendment No. 1 

   
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended: June 30, 2014
 
or
   
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934
   
  For the transition period from ___________________ to_______________________ 
 
COMMISSION FILE NUMBER 000-52836
 
DR. TATTOFF, INC.
(Exact name of registrant as specified in its charter)
     
Florida
 
20-0594204
(State or Other Jurisdiction
 
(I.R.S. Employer
of Incorporation or
Organization)
 
Identification No.)
 
8500 Wilshire Blvd, Suite 105
Beverly Hills, California 90211
(Address of principal executive office)
 
(310) 659-5101
(Registrant’s telephone number, including area code)
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 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 o
 
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 during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
       
Large accelerated filer o Accelerated filer o Non-accelerated filer o Smaller reporting company x
       
    (Do not check if a smaller reporting company)  
                                                                             
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes o  No x
 
The number of shares of the registrant’s common stock, $0.0001 par value, outstanding as of July 31, 2014 was 19,783,230.
 
 
 

 

 

EXPLANATORY NOTE

 

We are filing this Amendment No. 1 to our Quarterly Report on Form 10-Q for the quarter ended June 30, 2014, originally filed with the Securities and Exchange Commission on August 14, 2014 for the sole purpose of adding missing required language to our Section 302 certifications. No other changes have been made to the Form 10-Q. The amendment speaks as of the original filing date of the Form 10-Q and does not reflect events that may have occurred subsequent to the original filing date and does not modify or update in any way disclosures made in the original Form 10-Q except as described above. Accordingly, this Form 10-Q/A should be read in conjunction with our other filings with the Securities and Exchange Commission subsequent to the filing of the original Form 10-Q, including any amendments.

 

 
 

 


DR. TATTOFF, INC.
 
Quarterly Report on Form 10-Q
 
June 30, 2014
 
Table of Contents
 
2
 

 

 


DR. TATTOFF, INC.
CONSOLIDATED BALANCE SHEETS
             
   
June 30,
2014
(Unaudited)
   
December
31, 2013
(Audited)
 
ASSETS
               
CURRENT ASSETS
               
Cash and cash equivalents
 
$
28,949
   
$
197,523
 
Prepaid expenses and other current assets
   
115,028
     
397,115
 
Total current assets
   
143,977
     
594,638
 
                 
Property and equipment, net
   
2,214,883
     
2,050,287
 
Other assets
   
183,002
     
251,270
 
Total assets
 
$
2,541,862
   
$
2,896,195
 
                 
LIABILITIES AND SHAREHOLDERS’ DEFICIT
               
CURRENT LIABILITIES
               
Accounts payable
 
$
1,053,492
   
$
869,313
 
Related party payables
   
192,553
     
23,622
 
Accrued expenses and other liabilities
   
518,523
     
496,053
 
Warrant liabilities
   
71,276
     
116,690
 
Deferred revenue
   
1,481,254
     
1,113,883
 
Accrued compensation
   
611,182
     
543,251
 
Accrued interest     429,417       91,545  
Revolving line of credit
   
982,035
     
1,100,954
 
Notes payable, current portion (net of unamortized discount)
   
1,811,407
     
716,531
 
Convertible promissory notes, current portion (net of unamortized discount)
   
966,742
     
947,987
 
Capital lease obligations, current portion (related party)
   
10,792
     
10,286
 
Total current liabilities
   
8,128,673
     
6,030,115
 
                 
LONG-TERM LIABILITIES
               
Notes payable, net of current portion and unamortized discount
   
225,746
     
255,456
 
Convertible promissory notes, net of current portion and unamortized discount
   
324,260
     
328,388
 
Capital lease obligations, net of current portion (related party)
   
38,105
     
43,630
 
Deferred rent
   
237,069
     
251,597
 
Total liabilities
   
8,953,853
     
6,909,186
 
                 
COMMITMENTS AND CONTINGENCIES
               
SHAREHOLDERS’ DEFICIT
               
                 
Preferred stock, 2,857,143 shares authorized, none issued or outstanding at June 30, 2014 and December 31, 2013
   
-
     
-
 
Common stock, $.0001 par value, 75,000,000 authorized, 19,783,230 and 19,308,230 issued and outstanding at June 30, 2014 and December 31, 2013, respectively
   
1,979
     
1,931
 
Additional paid-in capital
   
8,390,751
     
7,692,978
 
Accumulated deficit
   
(14,804,721
)
   
(11,707,900
)
Total shareholders’ deficit
   
(6,411,991
)
   
(4,012,991
)
Total liabilities and shareholders’ deficit
 
$
2,541,862
   
$
2,896,195
 
 
The accompanying notes are an integral part of these consolidated financial statements.
 
3
 

 

 
DR. TATTOFF, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
             
   
Three Months Ended June 30,
   
Six Months Ended June 30,
 
   
2014
   
2013
   
2014
   
2013
 
                         
Revenues from related party
  $ 695,286     $ 771,408     $ 1,401,162     $ 1,464,143  
Owned clinic revenues
    426,458       296,320       795,107       513,723  
      1,121,744       1,067,728       2,196,269       1,977,866  
Operating costs and expenses
                               
Clinic operating expenses
    945,210       874,025       1,966,641       1,683,754  
General and administrative expenses
    651,242       662,146       1,396,729       1,667,694  
Marketing and advertising
    244,945       340,282       385,460       520,036  
Depreciation and amortization
    140,767       96,193       273,931       183,802  
 
Loss from operations
    (860,420 )     (904,918 )     (1,826,492 )     (2,077,420 )
 
Interest expense
    858,678       116,388       1,348,411       198,019  
 
Other income (expense)
    75,709       (4,300 )     82,217       (2,700 )
 
Loss from operations before provisions for income taxes
    (1,643,389 )     (1,025,606 )     (3,092,686 )     (2,278,139 )
 
Provision for income taxes
    4,135       -       4,135       800  
 
Net loss
  $ (1,647,524 )   $ (1,025,606 )   $ (3,096,821 )   $ (2,278,939 )
 
Basic and diluted net loss per share applicable to  common stock
  $ (.08 )   $ (.05 )   $ (.16 )   $ (.12 )
Weighted average common shares outstanding – basic and diluted
    19,425,999       19,020,058       19,375,766       18,643,537  
 
The accompanying notes are an integral part of these consolidated financial statements.
 
4
 

 

 
DR. TATTOFF, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ DEFICIT
                                         
                    Additional Paid-in             Total Shareholders’  
   
Common Stock
    Capital    
Accumulated
    Equity  
   
Shares
   
Par Value
   
(Deficit)
   
Deficit
    (Deficit)  
                                         
BALANCE – December 31, 2013
    19,308,230     $ 1,931     $ 7,692,978     $ (11,707,900 )   $ (4,012,991 )
                                         
Fair value of warrants issued on debt extension
    -       -       413,701       -       413,701  
Common stock issued
    475,000       48       232,702       -       232,750  
Stock compensation expense
    -       -       51,370       -       51,370  
Net loss
    -       -       -       (3,096,821 )     (3,096,821 )
                                         
BALANCE – June 30, 2014 (unaudited)
    19,783,230     $ 1,979     $ 8,390,751     $ (14,804,721 )   $ (6,411,991 )
 
The accompanying notes are an integral part of these consolidated financial statements.
 
5
 

 

 
DR. TATTOFF, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
       
   
Six Months Ended June 30,
 
   
2014
   
2013
 
CASH FLOWS FROM OPERATING ACTIVITIES
           
Net loss
  $ (3,096,821 )   $ (2,278,939 )
Adjustments to reconcile net loss to net cash used in operating activities:
               
Depreciation and amortization
    273,931       183,802  
Amortization of debt discount to interest
    598,825       77,138  
Stock compensation expense
    51,370       91,007  
Services paid for in stock and warrants
    232,750       315,084  
Change in fair value of warrant liability
    (59,026 )     2,700  
Impairment charge
    39,886       -  
Loss on sale of equipment
    39,140       -  
Changes in operating assets and liabilities:
               
Management fee due from related party
    -       (44,152 )
Prepaid expenses and other current assets
    428,102       1,115  
Other assets
    64,215       (36,630 )
Accounts payable
    184,182       178,271  
Accrued expenses and other liabilities
    107,840       85,071  
Deferred revenue
    367,371       462,359  
Related party payable
    168,931       -  
Accrued compensation
    67,931       264,941  
Deferred rent
    (14,528 )     (60,413 )
Net cash used in operating activities
    (545,901 )     (758,646 )
                 
CASH FLOWS FROM INVESTING ACTIVITIES
               
Purchases of property and equipment
    (386,374 )     (264,660 )
Sale of property and equipment
    87,500       -  
Net cash used in investing activities
    (298,874 )     (264,660 )
                 
CASH FLOWS FROM FINANCING ACTIVITIES
               
Principal payments on capital lease obligations
    (5,019 )     (44,934 )
Principal payments on notes payable
    (349,861 )     (125,119 )
Proceeds from sale of common stock
    -       125,001  
Proceeds from exercise of stock option
    -       17,493  
Proceeds from issuance of convertible notes
    100,000       750,000  
Proceeds from issuance of short-term notes
    1,050,000       200,000  
Proceeds from revolving line of credit
    2,372,642       -  
Repayments on revolving line of credit
    (2,491,561 )     -  
                 
Net cash provided by financing activities
    676,201       922,441  
                 
Net decrease in cash and cash equivalents
    (168,574 )     (100,865 )
Cash and cash equivalents – beginning of period
    197,523       318,394  
Cash and cash equivalents  – end of period
  $ 28,949     $ 217,529  
                 
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
               
Interest paid
  $ 59,073     $ 60,435  
Taxes
  $ 4,943     $ 800  
                 
SUPPLEMENTAL DISCLOSURE OF NONCASH  INVESTING AND FINANCING ACTIVITIES
               
Acquisition of property and equipment through issuance of notes payable
  $ 214,625     $ 145,222  
Financing of insurance premiums
  $ 146,015     $ 131,859  
Common stock and warrants issued
  $ 646,451     $ 315,084  
 
The accompanying notes are an integral part of these consolidated financial statements.
 
6
 

 

 
DR. TATTOFF, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
 
NOTE 1.          ORGANIZATION AND NATURE OF OPERATIONS
 
Organization
 
Dr. Tattoff, Inc., a Florida corporation formed in 2004, directly and through its wholly-owned subsidiaries, DRTHC I, LLC and DRTHC II, LLC, Delaware limited liability companies (collectively with Dr. Tattoff, Inc., the “Company”), operates clinics and provides marketing and practice management services to licensed physicians who primarily perform laser tattoo removal services. The Company currently operates clinics in Dallas and Houston, Texas; Phoenix, Arizona; and Atlanta, Georgia, and provides services under a management services agreement with a contracting physician at four Southern California locations whereby the Company provides management, administrative, marketing and support services, insurance, and equipment at the clinical sites. The contracting physician’s medical personnel provide laser tattoo and hair removal services.
 
In February 2008, the Company completed a reverse merger with Lifesciences Opportunities Incorporated, a “public shell” company, and became a Securities and Exchange Commission (“SEC”) registrant (the “Merger”). The Company filed Form 10-Q for the quarters ended March 31, 2008 and June 30, 2008, but failed to file any Forms 10-Q or 10-K subsequently. On March 16, 2010, the Company filed a Form 15 with the SEC to terminate its registration under Section 12(g) of the Securities Exchanges Act of 1934, as amended, (the “Exchange Act”). Upon the filing of the Form 15, the Company’s obligation to file periodic and other reports with the SEC was immediately suspended. On December 7, 2011 the Company filed a registration statement on Form 10 with the SEC to register its common stock pursuant to Section 12(g) of the Exchange Act, which was subsequently amended on December 23, 2011 and January 20, 2012. The amended registration statement became effective on February 6, 2012.
 
Increase in Authorized Shares and Reverse Stock Split
 
In February 2011, the Company amended its Articles of Incorporation to increase the number of authorized shares to 28,571,429, consisting of 25,714,286 shares of common stock, par value $.0001 per share and 2,857,143 shares of preferred stock. Series of preferred stock may be created and issued from time to time, with such designations, preferences, rights and restrictions as shall be stated in resolutions adopted by the Board of Directors.
 
In February 2012, the Company amended its Articles of Incorporation to effect a 7-for-1 reverse stock split. Earnings per share amounts, weighted average common shares outstanding, shares issued and outstanding, exercise prices, and fair value per share amounts for all periods have been adjusted to reflect the Company’s 7-for-1 reverse stock split. Par value per share was unchanged with the difference between the originally calculated par value of issued and outstanding shares and the adjusted amounts reclassified to additional paid-in capital for all periods.
 
In June 2012, the Company amended its Articles of Incorporation to increase the number of shares of the Company’s common stock authorized for issuance from 25,714,286 shares to 75,000,000 shares.
 
Going Concern
 
The accompanying consolidated financial statements have been prepared on the basis that the Company will continue as a going concern, which assumes the realization of assets and the satisfaction of liabilities in the ordinary course of business. At June 30, 2014, the Company has accumulated losses approximating $14,805,000, current liabilities that exceeded its current assets by approximately $7,985,000, shareholders’ deficit of approximately $6,412,000, and has not yet produced operating income or positive cash flows from operations. The Company’s ability to continue as a going concern is predicated on its ability to raise additional capital, increase sales and margins, and ultimately achieve sustained profitable operations. The uncertainty related to these conditions raises substantial doubt about the Company’s ability to continue as a going concern. The accompanying consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.
 
Management believes that the Company will need to continue to raise additional outside capital to expand the number of clinics in operation and to address its losses and ability to continue to operate. The Company intends to raise additional capital and continue opening additional clinics to achieve this goal.
 
In addition, the Company expanded its Board of Directors in 2010 to include individuals with substantial experience in raising capital and numerous relationships that may assist the Company in achieving its goals. In the event that the Company is unsuccessful in raising adequate equity capital, management will attempt to reduce losses and preserve as much liquidity as possible. Steps management would likely take would include limiting capital expenditures, reducing expenses and leveraging the relatively few assets that it owns without encumbrance. A reduction in expenses would likely include personnel costs, professional fees, and marketing expenses. While management would attempt to achieve break-even or profitable operations through these steps, there can be no assurance that it will be successful.
 
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Consolidation Policy
 
The Company has various contractual relationships with William Kirby, D.O., Inc. including a management services agreement, medical director’s agreement, equipment subleases, and guarantees. The Company evaluated the various relationships between the parties to determine if it should consolidate William Kirby, D.O., Inc. as a variable interest entity pursuant to ASC 810, Consolidation. The Company determined that it was not the primary beneficiary of the interest due to the following: William Kirby, D.O., Inc. has the ability to control the activities that have the most significant impact on its economic performance; the Company does not have an obligation to absorb losses of William Kirby, D.O., Inc.; the Company is not guaranteed a return; and there are no interests that are subordinate to the equity interest at risk. The Company conclusion followed an analysis of both the contractual arrangements and California state law restrictions on relationships between licensed professionals and businesses. Among the restrictions of California law the Company considered most relevant in its analysis were those that prohibit a lay corporation from providing medical services, including laser tattoo and laser hair removal, employing medical personnel, and making key decisions about equipment and marketing initiatives. Therefore, the results of William Kirby, D.O., Inc. are not consolidated into the results of the Company.
 
The carrying amount and classification of assets and liabilities in the accompanying balance sheets relating to the Company’s relationship with William Kirby, D.O., Inc. are summarized as follows:
             
   
June 30, 2014
(Unaudited)
   
December 31, 2013
(Audited)
 
Current Liabilities
           
Related party payables
  $ 192,553     $ 23,622  
Capital lease obligations, current portion
    10,792       10,286  
Long-Term Liabilities
               
Capital lease obligations, net of current portion
    38,105       43,630  
 
The Company may be exposed to losses under its relationship with William Kirby, D.O., Inc. The Company’s most significant exposure to loss in the relationship is under the management services agreement. Losses could occur if the management fees are inadequate to cover the Company’s costs of providing the management services. The Company is unable to estimate its maximum exposure to such losses.
 
The Company’s relationship and agreements with William Kirby, D.O., Inc. and Dr. Kirby are further described in Note 7, “Capital Lease Obligations (Related Party)”; Note 8, “Related Party Transactions” and Note 10, “Commitments and Contingencies.”
 
Dr. Tattoff, Inc. formed two wholly owned subsidiaries, DRTHC I, LLC and DRTHC II, LLC, that are responsible for the operations of some of the clinics that the Company has established. The consolidated financial statements include the accounts of DRTHC I, LLC and DRTHC II, LLC.
 
NOTE 2.          SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 
Basis of Presentation
 
The accompanying unaudited consolidated financial statements of Dr. Tattoff, Inc. and subsidiaries have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) for interim financial information and in accordance with the instructions to Form 10-Q and Article 8 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. The accompanying unaudited consolidated financial statements reflect all adjustments that, in the opinion of the management of the Company, are considered necessary for a fair presentation of the financial position, results of operations and cash flows for the periods presented. The results of operations for such periods are not necessarily indicative of the results expected for the full fiscal year or for any future period. The accompanying consolidated financial statements should be read in conjunction with the audited consolidated financial statements of the Company included in the Company’s Form 10-K for the year ended December 31, 2013. The balance sheet as of December 31, 2013 has been derived from the audited financial statements as of that date but omits certain information and footnotes required for complete financial statements.
 
Cash and Cash Equivalents
 
The Company considers all highly liquid short-term investments with original maturity of three months or less to be cash equivalents.
 
Fair Value of Financial Instruments
 
The Company adopted the fair value measurement and disclosure requirements of ASC 820, Fair Value Measurements and Disclosure for financial assets and liabilities measured on a recurring basis. ASC 820 defines fair value, establishes a framework for measuring fair value under GAAP and expands disclosures about fair value measurements. This standard applies in situations where other accounting pronouncements either permit or require fair value measurements. ASC 820 does not require any new fair value measurements.
 
Fair value is defined in ASC 820 as the price that would be received upon sale of an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. ASC 820 also establishes a fair value hierarchy, which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.
 
8
 

 

 
The standard describes three levels of inputs that may be used to measure fair value:
 
Level 1:
Quoted prices in active markets for identical or similar assets and liabilities.
 
Level 2:
Quoted prices for identical or similar assets and liabilities in markets that are not active or observable inputs other than quoted prices in active markets for identical or similar assets and liabilities.
 
Level 3:
Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.
 
The Company’s financial instruments include cash and cash equivalents, prepaid expenses and other current assets, other assets, accounts payable, related party payable, accrued expenses and other liabilities, deferred revenue, accrued compensation, capital lease obligations, convertible promissory notes, notes payable, and warrant liabilities. The carrying amounts of prepaid expenses and other current assets, other assets, accounts payable, related party payable, accrued expenses and other liabilities, deferred revenue and accrued compensation approximate their fair values due to the short maturity of these instruments. The carrying amounts of capital leases, convertible promissory notes, and notes payable approximates their fair value as these instruments earn or are charged interest based on prevailing rates. The fair value of warrants is measured using level 3 inputs.
 
Long-lived Assets
 
Long-lived assets are reviewed for impairment in accordance with ASC No. 360, “Property, Plant and Equipment” which requires impairment losses to be recorded on long-lived assets when events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. For purposes of the impairment review, assets are reviewed on an asset-by-asset basis. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of each asset to future net cash flows on an undiscounted basis expected to be generated by such asset. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount which the carrying amount of the assets on an undiscounted basis exceeds the fair value of the assets.
 
The major long-lived assets of the Company are the lasers and Intense Pulse Light, or IPL, devices. While the Company has sustained losses, the clinics where the lasers and IPL devices are located are or are expected to be profitable. As a result, recoverability of assets to be held and used is measured by a comparison of the carrying amount of each asset to future net cash flows on an undiscounted basis expected to be generated by such asset in each clinic. There were no impairments of long-lived assets at December 31, 2013. In February 2014, the Company decided to close its Sugar Land, Texas (a suburb of Houston) clinic due to poor financial performance. The Company is working with the landlord to find a subtenant for the location; however, it concluded that the capitalized tenant improvements were impaired and recorded an impairment charge of approximately $40,000 related to the closure. The impairment charge is included in clinic operating expense in the accompanying consolidated statements of operations. The Company moved the laser and other capital assets located there to other clinics.
 
Property and Equipment
 
Property and equipment is recorded at cost, less accumulated depreciation. Depreciation is recorded using the straight-line method over the estimated useful lives of the related assets. The Company uses the following estimated useful lives for computing depreciation expense: furniture and fixtures, 7 years; medical equipment, 7 years; other equipment, 3 to 5 years. Amortization of leasehold improvements is recorded using the straight-line method based on the lesser of the useful life of the improvement or the lease term, which is typically five years or less.
 
Debt and Other Financial Instruments
 
Debt/Equity Instruments Issued with Warrants
 
The Company estimates the relative fair values of the debt and warrants, and allocates the proceeds pro-rata based on these values. The allocation of proceeds to the warrants results in the debt instrument being recorded at a discount from the face amount of the debt and the value allocated to the warrant is recorded to additional paid-in capital.
 
The Company reviews the terms of convertible financial instruments it issues to determine whether there are embedded derivative instruments, including the conversion option that may be required to be bifurcated and accounted for separately as a derivative financial instrument. In circumstances where the convertible instrument contains more than one embedded derivative, including the conversion option that is required to be bifurcated, the bifurcated derivative instruments are accounted for as a single, compound derivative instrument.
 
When the convertible debt or equity instruments contain embedded derivative instruments that are to be bifurcated and accounted for as liabilities, the total proceeds from the convertible host instruments are first allocated to the bifurcated derivative instruments. The remaining proceeds, if any, are then allocated to the convertible instruments themselves, resulting in those instruments being recorded at a discount from their face value.
 
Derivative Financial Instruments
 
Derivative instruments are initially recorded at estimated fair value and are then revalued at each reporting date with changes in the estimated fair value reported as charges or credits to income.
 
9
 

 

 
Revenue Recognition
 
Currently, the majority of the Company’s revenues are derived from management services provided to William Kirby D.O., Inc., a related party, for our non-owned clinics. The Company provides nonmedical services and facilities based on contractual prices established in advance that extend continuously over a set time for a fixed percentage of the contracting physician’s gross revenues (as defined in the Management Services Agreement - See Note 8, “Related Party Transactions”) with no upfront fees paid by William Kirby D.O., Inc. The management services agreement with William Kirby D.O., Inc. covers all of the Company’s California locations.
 
Under the management service agreement with William Kirby D.O., Inc., there is no right to refund or rejection of services. The Company recognizes revenue when the following criteria of revenue recognition are met: (1) persuasive evidence that an arrangement exists; (2) delivery has occurred or services rendered; (3) the fee is fixed or determinable; and (4) collectability is reasonably assured. Management services fees are paid by the contracting physician to the Company on a bi-weekly basis as earned, which is when the Company has substantially performed management services pursuant to the terms of the management services agreement with William Kirby D.O., Inc.
 
The Company operates the Dallas, Houston, Atlanta and Phoenix locations directly, not pursuant to a management services agreement with a physician. Accordingly, patients contract with the Company and pay for the services they receive directly to the Company. The Company recognizes revenue when the following criteria of revenue recognition are met: (1) persuasive evidence that an arrangement exists; (2) delivery has occurred or services rendered; (3) the fee is fixed or determinable; and (4) collectability is reasonably assured. The Company requires payment at the time of the patient visit or in advance of the visit by those patients purchasing packages of treatments. Payments by patients made in advance of service delivery are recorded as “deferred revenue” on the accompanying consolidated balance sheets and amounted to approximately $1,481,000 at June 30, 2014 and $1,114,000 at December 31, 2013.
 
Patients who purchase a package of tattoo removal services at clinics the Company operates directly are eligible to participate in the Company’s tattoo removal guarantee program. Pursuant to the guarantee program, if the tattoo is not fully removed within the recommended number of treatments, the Company will continue to provide additional treatments, consistent with the Company’s medical protocols, for a period of up to one year following the date of the last paid treatment. The Company estimates the cost of the guarantee program based on historical usage and the average cost of treatments. The cost of the program is accrued on a per visit basis as visits occur and is included in clinic operating expense on the accompanying consolidated statements of operations. The Company recognized accrued expense of approximately $96,000 and $77,000 as of June 30, 2014 and December 31, 2013, respectively, related to the guarantee program, and this is included in the accrued expenses and other liabilities in the accompanying consolidated balance sheets. Patients who purchase a package of services and experience complete removal prior to completion of the package are eligible for a refund for the unused portion of the package. The Company recognizes refunds, which have been immaterial in amount, as a reduction in revenue as incurred. Patients who receive services in clinics operated under the management services agreement with William Kirby, D.O., Inc. are eligible for similar programs, which may reduce the management fee that the Company receives.
 
Advertising Costs
 
Advertising costs are expensed as incurred. Advertising expense was approximately $205,000 and $168,000 for the three months ended June 30, 2014 and 2013, respectively, and $315,000 and $348,000 for the six months ended June 30, 2014 and 2013, respectively.
 
Income Taxes
 
The Company accounts for income taxes in accordance with the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 740 “Income taxes.” Under ASC 740, deferred income taxes are recognized to reflect the tax consequences in future years for the differences between the amounts of assets and liabilities recognized for financial reporting purposes and such amounts recognized for income tax reporting purposes using enacted tax rates in effect for the year in which the differences are expected to reverse. A valuation allowance is provided to reduce net deferred tax assets to amounts that are more likely than not to be realized.
 
The Company has incurred tax net operating losses since inception and, accordingly, has a deferred tax asset related to such tax net operating loss carryforwards. The Company has provided a 100% valuation allowance on such deferred tax asset at June 30, 2014 and December 31, 2013.
 
The Company accounts for uncertainty in income taxes in accordance with ASC 740-10, which prescribes a recognition threshold and measurement attribute for financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. ASC 740-10 also provides guidance on the measurement, derecognition, classification and disclosure of tax positions, as well as the accounting for related interest and penalties. The Company’s policy is to recognize interest and penalties that would be assessed in relation to the settlement value of unrecognized tax benefits as a component of income tax expense. The Company has recognized no tax related interest or penalties since the adoption of ASC 740-10. As of June 30, 2014, the open tax years of the Company were 2009 to 2013.
 
Earnings Per Share
 
Basic earnings (loss) per share is computed by dividing net income (loss) available to common stockholders by the weighted average number of common shares outstanding during the period. Diluted earnings per share reflects the potential dilution, using the treasury stock method, that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the Company. In computing diluted earnings per share, the treasury stock method assumes that outstanding options are exercised and the proceeds are used to purchase common stock at the average market price during the period. Options will have a dilutive effect under the treasury stock method only when the Company reports net income and the average market price of the common stock during the period exceeds the exercise price of the options. Options, warrants and conversions of convertible debt instruments were not included in computing diluted earnings per share for the three or six months ended June 30, 2014 and 2013, respectively, because their effects were antidilutive.
 
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The following table illustrates the computation of basic and diluted earnings per share:
             
   
Three Months Ended June 30,
   
Six Months Ended June 30,
 
   
2014
   
2013
   
2014
   
2013
 
Net loss available to common stockholders (numerator)
  $ (1,647,524 )   $ (1,025,606 )   $ (3,096,821 )   $ (2,278,939 )
Weighted average shares outstanding (denominator)
    19,425,999       19,020,058       19,375,766       18,643,537  
Basic and diluted EPS
  $ (.08 )   $ (.05 )   $ (.16 )   $ (.12 )
 
Basic and diluted EPS are the same for all periods presented as the impact of all potentially dilutive securities were anti-dilutive.
 
The following potentially dilutive securities were not included in the computation of diluted EPS because to do so would have been anti-dilutive for the periods presented.
     
 
June 30,
 
 
2014
   
2013
 
Warrants
    8,332,862       4,241,810  
Common stock options
    1,594,947       1,508,772  
Convertible promissory notes
    2,541,358       2,179,808  
      12,469,167       7,930,390  
 
Accounting for Common Stock Options
 
The Company measures stock-based compensation expense at the grant date, based on the fair value of the award, and recognizes the expense over the employee’s requisite service (vesting) period using the straight-line method. The measurement of stock-based compensation expense is based on several criteria including, but not limited to, the valuation model used and associated input factors, such as expected term of the award, stock price volatility, risk free interest rate and forfeiture rate. Certain of these inputs are subjective to some degree and are determined based in part on management’s judgment. The Company recognizes the compensation expense on a straight-line basis for its graded vesting awards. Forfeitures are estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. However, the cumulative compensation expense recognized at any point in time must at least equal the portion of the grant-date fair value of the award that is vested at that date. As used in this context, the term “forfeitures” is distinct from “cancellations” or “expirations”, and refers only to the unvested portion of the surrendered equity awards.
 
Deferred Rent
 
The Company currently leases all of its locations under leases classified as operating leases. Minimum base rent for these operating leases, which generally have escalating rentals over the term of the lease is recorded on a straight-line basis over the lease term. As such, an equal amount of rent expense is attributed to each period during the term of the lease regardless of when actual payments occur. Lease terms begin on the inception date and include option periods only where such renewals are imminent and assured. The difference between rent expense and actual cash payments is classified as “deferred rent” in the accompanying consolidated balance sheets and approximated $237,000 and $252,000 at June 30, 2014 and December 31, 2013, respectively.
 
Use of Estimates
 
The preparation of financial statements in conformity with GAAP 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 of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from those estimates. Significant estimates include those related to the realization of long-lived assets, deferred income tax asset valuation allowances, and the valuation of equity instruments issued.
 
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Concentrations
 
Financial instruments that subject the Company to credit risk consist primarily of cash and revenues. The Company’s cash is maintained at financial institutions in the United States. These accounts are insured by the Federal Deposit Insurance Corporation (“FDIC”). At times, such balances may be in excess of the amounts insured by the FDIC. The Company has not experienced any losses on such accounts and believes it is not exposed to any significant credit risks on cash.
 
A substantial portion of the Company’s revenues for the three and six months ended June 30, 2014 and 2013 were derived from a management services agreement with William Kirby, D.O., Inc. relating to the Company’s California clinics. If the Company’s management services agreement is terminated for any reason or William Kirby, D.O., Inc. defaults on its obligations thereunder, the Company’s operating results, cash flows and financial performance may be adversely affected and the Company may need to negotiate and enter into a new agreement with a qualified physician. Although the Company’s management services agreement provides the Company with the right to approve a replacement contracting physician upon termination or default, the Company can give no assurance that it will be able to expeditiously identify and contract with a qualified replacement physician on commercially reasonable terms or at all. The termination of the Company’s management services agreement could have a material adverse effect on the Company’s financial condition, cash flows and results of operations.
 
Recent Accounting Pronouncements
 
In April 2014, the FASB issued Accounting Standards Update No. 2014-08, Presentation of Financial Statements (Topic 205) and Property, Plant, and Equipment (Topic 360) (“ASU 2014-08”), which changes the requirements for reporting discontinued operations. ASU 2014-08 raises the threshold for a disposal to qualify as a discontinued operation and requires new disclosures of both discontinued operations and certain other disposals that do not meet the definition of a discontinued operation. Under the revised standard, a disposal that represents a strategic shift or will have a major effect on an entity’s operations and financial results will be reported as discontinued operations while smaller disposals will not. ASU 2014-08 is effective in 2015 and interim periods within that year for calendar year companies. Early adoption is permitted and the Company has adopted the new guidance in the first quarter of 2014. The Company does not expect that this new guidance will have a significant impact on the Company’s consolidated financial position, results of operations or cash flows.
 
In May 2014, FASB issued ASU 2014-09, Revenue from Contracts with Customers (“ASU 2014-09”) that updates the principles for recognizing revenue. The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. ASU 2014-09 also amends the required disclosures of the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. ASU 2014-09 is effective for annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period. The Company is evaluating the potential impacts of the new standard on its existing revenue recognition policies and procedures.
 
Other recent accounting pronouncements issued by the FASB (including its Emerging Issues Task Force), the American Institute of Certified Public Accountants (“AICPA”), and the SEC did not or are not believed by management to have a material impact on the Company’s present or future financial statements.
 
NOTE 3.          PROPERTY AND EQUIPMENT
 
Property and equipment consists of the following:
             
   
June 30, 2014
(Unaudited)
   
December 31, 2013
(Audited)
 
             
Equipment
  $ 1,888,631     $ 1,824,871  
Furniture and fixtures
    143,893       136,426  
Leasehold improvements
    1,452,144       1,217,223  
      3,484,668       3,178,520  
Less accumulated depreciation and amortization
    (1,269,785 )     (1,128,233 )
    $ 2,214,883     $ 2,050,287  
 
Depreciation and amortization expense was approximately $141,000 and $96,000 for the three months ended June 30, 2014 and 2013, respectively, and $274,000 and $184,000 for the six months ended June 30, 2014 and 2013, respectively. The Company disposed of assets of approximately $245,000 (gross) and $128,000 (net) and recognized an impairment charge of approximately $40,000 during the six months ended June 30, 2014.
 
Assets under capital leases (gross) were approximately $159,000 at June 30, 2014 and December 31, 2013. Amortization expense recorded for the assets under capital leases amounted to approximately $0 and $2,000 for the three months ended June 30, 2014 and 2013, respectively, and $0 and $6,000 for the six months ended June 30, 2014 and 2013, respectively. Accumulated amortization of assets under capital leases was approximately $159,000 at June 30, 2014 and December 31, 2013.
 
NOTE 4.
REVOLVING LINE OF CREDIT
 
In December 2013, the Company entered into a revolving line of credit with a lender with an initial commitment of $1,300,000 and a maximum revolving commitment of $7,000,000. Increase in the commitment above $1,300,000 is at the sole and absolute discretion of the lender. The term of the revolving loan is for six months subject to two automatic six month extensions as long as the Company is not in default on the credit agreement. In June 2014, the Company entered the first automatic six month extension. The line of credit is secured by a second lien on all encumbered equipment of the Company and a first lien on all other assets of the Company.
 
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The credit agreement requires that all receipts of the Company, except receipts received from investors and receipts from landlords for tenant improvement allowances, be deposited in a lockbox account controlled by the lender. Provided the Company is not in default, it can draw from the lockbox an amount equal to all of the funds deposited in the lockbox less fees and expenses due the lender and a mandatory principal repayment equal to 2% of the funds deposited in the lockbox. The Company deposited $130,000 in the lockbox account as a mandatory principal payment at the time that the loan closed. At June 30, 2014, these funds remain in the lockbox and are unavailable to the Company to draw upon. As a result, the Company recorded a $130,000 reduction in the loan balance. At June 30, 2014, the Company had deposits in the lockbox account of approximately $132,000 available for draw under the revolving line of credit. Cash deposited in the lockbox by the Company in excess of fees and expenses due the lender and the mandatory 2% principal payment are recorded as a further reduction in the loan balance.
 
The outstanding principal balance of the loan, which is reduced by funds in the lockbox account, bears interest at 10% per annum and requires a surcharge in the form of a receipts collection fee such that the aggregate interest and receipts collection fee do not exceed 1.5% of the outstanding principal per month. In addition, the Company is obligated to pay an asset monitoring fee of $1,500 per quarter and certain other expenses of the lender. In connection with the initial closing of the revolving line of credit, the Company paid the lender fees for transaction advisory services, due diligence, legal review and related expenses and finder’s fees totaling $136,850 in cash. Additionally, the Company paid a financial advisory firm $26,000 in cash for services in connection with the loan.
 
In addition to the cash consideration, the Company issued 125,000 shares of its common stock to the lender. The common stock is subject to a make whole provision such that the value of the common stock issued to the lender is not less than nor can ever be more than $125,000. The Company also issued fully vested three-year, callable warrants to three organizations affiliated to the financial advisory firm to purchase up to an aggregate of 39,000 shares of its common stock at an exercise price of $.78 per share in connection with the loan. Loan costs were included in prepaid expenses and were amortized to interest expense over the initial six month term of the loan.
 
So long as the revolving note is outstanding, but only upon the occurrence and during the continuance of an event of default, and subject to certain limitations, the lender may convert all or any portion of the amounts due it into common stock of the Company. Beginning with the first quarter of 2014 the Company is subject to a financial covenant which requires that its sales revenue be not less than 75% of its sales revenue for the corresponding quarter of the prior year. The Company was in compliance with the financial covenant as of June 30, 2014.
 
NOTE 5.          NOTES PAYABLE
 
Notes payable consist of the following:
             
   
June 30, 2014
(Unaudited)
   
December 31, 2013
(Audited)
 
             
Financed insurance premiums
  $ 66,028     $ -  
Equipment promissory notes
    619,225       674,474  
Tenant improvement secured loans
    100,000       100,000  
Unsecured promissory notes
    1,350,000       300,000  
      2,135,253       1,074,474  
Less unamortized discount
    (98,100 )     (102,487 )
Less current portion (net of unamortized discounts)
    (1,811,407 )     (716,531 )
    $ 225,746     $ 255,456  
 
Financed Insurance Premiums
 
In January 2014, the Company entered into a financing agreement with an unrelated third party to finance the Company’s medical malpractice, property and casualty, and employment liability insurance over a period of nine months. The note, in the principal amount of $99,265, bears interest at approximately 6.25% per annum, and is repayable in one installment of $8,674 and eight installments of $11,642. The note matures in September 2014. The balance outstanding on the note was $34,564 and $0 at June 30, 2014 and December 31, 2013, respectively.
 
In March 2014, the Company entered into a financing agreement with an unrelated third party to finance the Company’s directors and officer liability insurance over a period of nine months. The note, in the principal amount of $46,750, bears interest at approximately 7.68% per annum, and is repayable in nine monthly installments of $5,362. The note matures in December 2014. The balance outstanding on the note was $31,464 and $0 at June 30, 2014 and December 31, 2013, respectively.
 
Equipment Promissory Notes
 
In November 2010, the Company entered into a financing agreement with an unrelated third party to finance computer and telephone equipment to upgrade existing systems and equip its clinic location in Montclair, California. The note, in the principal amount of $64,157, bears interest at approximately 6% per annum, and is repayable in 60 monthly payments of $1,241. The note matures in October 2015 and is secured by a first priority purchase money security interest in the equipment. The balance outstanding on the note was $21,308 and $27,994 at June 30, 2014 and December 31, 2013, respectively.
 
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In February 2011, the Company entered into a financing agreement with an unrelated third party manufacturer to finance the purchase of a laser for the location in Montclair, California. The note, in the principal amount of $118,495, bore interest at approximately 7% per annum, and was repayable in 36 monthly installments of $3,700. The note matured in January 2014 and was secured by a first priority purchase money security interest in the equipment. The balance outstanding on the note was $0 and $43,020 at June 30, 2014 and December 31, 2013, respectively. This note was paid off in April 2014.
 
In May 2011, the Company entered into a financing agreement with an unrelated third party to finance computer and telephone equipment for its Dallas, Texas clinic and its call center in Irvine, California. The note, in the principal amount of $17,515, bore interest at approximately 7% per annum, and was repayable in 36 monthly payments of $539. The note matured in June 2014 and has been paid in full. The balance outstanding on the note was $0 and $3,171 at June 30, 2014 and December 31, 2013, respectively.
 
In June 2011, the Company entered into a financing agreement with an unrelated third party manufacturer to finance the purchase of a laser for the location in Dallas, Texas. The note, in the principal amount of $118,495, bore interest at approximately 7% per annum, and was repayable in 36 monthly installments of $3,700. The note was set to mature in June 2014 and was paid off in April 2014. The balance outstanding on the note was $0 and $49,390 at June 30, 2014 and December 31, 2013, respectively.
 
In June 2012, the Company entered into a financing agreement with an unrelated third party to finance computer and telephone equipment for its Houston, Texas clinic and its clinic planned for Phoenix, Arizona. The note, in the principal amount of $37,870, bears interest at approximately 6% per annum, and is repayable in 36 monthly payments of $1,148. The note matures in May 2015 and is secured by a first priority purchase money security interest in the equipment. The balance outstanding on the note was $12,271 and $18,697 at June 30, 2014 and December 31, 2013, respectively.
 
In June 2012, DRTHC I, LLC, a wholly-owned subsidiary of the Company, entered into a financing agreement with an unrelated third party manufacturer to finance the purchase of a laser for the location in Houston, Texas. The note, in the principal amount of $59,920, bore interest at approximately 7% per annum, and was repayable in 24 monthly installments of $2,683. The note matured in June 2014 and has been paid in full. The balance outstanding on the note was $0 and $15,773 at June 30, 2014 and December 31, 2013, respectively.
 
In November 2012, DRTHC I, LLC, a wholly-owned subsidiary of the Company, entered into a financing agreement with an unrelated third party manufacturer to finance the purchase of a laser for the location in Phoenix, Arizona. The note, in the principal amount of $67,996, bears interest at approximately 7% per annum, and is repayable in 24 monthly installments of $3,044. The note matures in November 2014 and is secured by a first priority purchase money security interest in the equipment. The balance outstanding on the note was $14,959 and $32,345 at June 30, 2014 and December 31, 2013, respectively.
 
In March 2013, the Company entered into a financing agreement with an unrelated third party to finance telephone equipment for its Sugar Land, Texas clinic (which was subsequently moved to Frisco, Texas) and clinics planned for Fort Worth, Texas and Atlanta, Georgia. The note, in the principal amount of $34,563 bears interest at approximately 9% per annum, and is repayable in 36 monthly payments of $1,037. The note matures in February 2016 and is secured by a first priority purchase money security interest in the equipment. The balance outstanding on the note was $20,162 and $22,538 at June 30, 2014 and December 31, 2013, respectively.
 
In March 2013, the Company entered into a financing agreement with an unrelated third party to finance computer equipment for its Sugar Land, Texas clinic which was subsequently moved to Frisco, Texas (a suburb of Dallas) and clinics planned for Fort Worth, Texas and Atlanta, Georgia. The note, in the principal amount of $37,524, bears interest at approximately 11% per annum, and is repayable in 36 monthly payments of $1,199. The note matures in February 2016 and is secured by a first priority purchase money security interest in the equipment. The balance outstanding on the note was $22,829 and $28,590 at June 30, 2014 and December 31, 2013, respectively.
 
In March 2013, DRTHC I, LLC, a wholly-owned subsidiary of the Company, entered into a financing agreement with an unrelated third party manufacturer to finance the purchase of a laser for the Sugar Land, Texas clinic (which was subsequently moved to Frisco, Texas). The note, in the principal amount of $75,920, bears interest at approximately 7% per annum, and is repayable in 24 monthly installments of $3,399. The note matures in March 2015 and is secured by a first priority purchase money security interest in the equipment. The balance outstanding on the note was $29,641 and $48,485 at June 30, 2014 and December 31, 2013, respectively.
 
In October 2013, DRTHC II, LLC, a wholly-owned subsidiary of the Company, entered into a financing agreement with an unrelated third party manufacturer to finance the purchase of lasers for the Atlanta, Georgia clinic. The note, in the principal amount of $114,000, bears interest at approximately 7% per annum, and is repayable in 24 monthly installments of $5,104. The note matures in November 2015 and is secured by a first priority purchase money security interest in the equipment. The balance outstanding on the note was $82,377 and $109,561 at June 30, 2014 and December 31, 2013, respectively.
 
In October 2013, DRTHC I, LLC, a wholly-owned subsidiary of the Company, entered into a financing agreement with an unrelated third party manufacturer to finance the purchase of a hair removal device for the Houston, Texas clinic. The note, in the principal amount of $28,000, bears interest at approximately 7% per annum, and is repayable in 24 monthly installments of $1,254. The note matures in November 2015 and is secured by a first priority purchase money security interest in the equipment. The balance outstanding on the note was $20,233 and $26,910 at June 30, 2014 and December 31, 2013, respectively.
 
In December 2013, the Company, entered into a financing agreement with an unrelated third party manufacturer to finance the purchase of three laser devices for its clinics in Southern California. The note, in the principal amount of $248,000, bears interest at approximately 7% per annum, and is repayable in 24 monthly installments of $11,104. The note matures in December 2015 and is secured by a first priority purchase money security interest in the equipment. The balance outstanding on the note was $189,207 and $248,000 at June 30, 2014 and December 31, 2013, respectively.
 
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In May 2014, the Company, entered into a financing agreement with an unrelated third party manufacturer to finance computer equipment for its Fort Worth, Texas clinic. The note, in the principal amount of $4,625, bears interest at approximately 13.8% per annum, and is repayable in 36 monthly installments of $157. The note matures in April 2017 and is secured by a first priority purchase money security interest in the equipment. The balance outstanding on the note was $4,415 and $0 at June 30, 2014 and December 31, 2013, respectively.
 
In June 2014, the Company, entered into a financing agreement with an unrelated third party manufacturer to finance the purchase of a hair removal devices for the San Fernando Valley and Inland Empire, California clinics. The note, in the principal amount of $210,000, bears interest at approximately 7% per annum, and is repayable in 24 monthly installments of $9,402. The note matures in May 2016 and is secured by a first priority purchase money security interest in the equipment.
 
All of the equipment promissory notes require the Company to maintain and insure the equipment secured by the note and pay personal property taxes thereon. The balance outstanding on the note was $201,823 and $0 at June 30, 2014 and December 31, 2013, respectively.
 
Tenant Improvement Secured Loan
 
In February 2013, the Company issued $200,000 in notes, secured by the reimbursements due from landlords with respect to tenant improvements made or to be made by the Company in connection with the development of clinics. The notes bear interest at 15% and were initially due on August 15, 2013. As additional consideration for the investors purchasing the notes, the Company issued the note holders fully vested five-year warrants to purchase an aggregate of 218,750 shares of the Company’s common stock at an exercise price of $.60 per share. The fair values of the warrants at the time of issuance, determined by management to be $49,454 in the aggregate, were recorded as a debt discount and were amortized to interest expense over the initial term of the notes. The Company estimated the fair value of the warrants issued based upon the application of the Black-Scholes option pricing model using the following assumptions: value of common share of $.49, strike price $.60, expected life of five years; risk free interest rate of .08%; volatility of 72% and expected dividend yield of zero.
 
In July 2013, in exchange for their agreement to extend the original due date from August 15, 2013 to December 31, 2013, the Company issued five-year fully vested warrants to purchase 220,000 shares of Company common stock at an exercise price of $.60 per share to the note holders. The fair values of the warrants at the time of issuance, determined by management to be $52,500 in the aggregate, were recorded as a debt discount and were amortized to interest expense over the extended term of the notes.
 
In December 2013, the Company repaid $100,000 principal amount of its tenant improvement secured loans together with interest due thereon of approximately $15,238 to three note holders, one of whom is an officer of the Company, and entered into extension agreements with respect to the remaining outstanding balance of $100,000. In exchange for an extension of the due date of the notes through March 31, 2014, the Company issued the note holders fully vested five-year warrants to purchase an aggregate of 115,240 shares of the Company’s common stock at an exercise price of $.60 per share. The fair value of the warrants at the time of issuance, determined by management to be $27,700 in the aggregate, was recorded as additional debt discount and amortized to interest expense over the term of the extension. On April 1, 2014, the Company entered into further extension agreements with respect to the loans. In exchange for an extension of the due date of the notes through September 30, 2014, the Company issued the note holders fully vested five-year warrants to purchase an aggregate of 239,353 shares of the Company’s common stock at an exercise price of $.60 per share. The fair value of the warrants at the time of issuance, determined by management to be $53,200 in the aggregate, was recorded as additional debt discount and will be amortized to interest expense over the term of the extension. The outstanding balance of the tenant improvement secured loans was $100,000 at June 30, 2014 and December 31, 2013.
 
Amortization of the debt discount related to the tenant improvement secured loan was $54,316 for the six months ended June 30, 2014 and $101,954 for the year ended December 31, 2013.
 
Unsecured Promissory Notes
 
In August 2013, the Company issued $120,000 in unsecured promissory notes to three members of its Board of Directors, their families, associates or associated entities. The notes bear interest at 15% and were initially due on December 31, 2013. As additional consideration for the investors purchasing the notes, the Company issued the note holders fully vested five-year warrants to purchase an aggregate of 120,000 shares of the Company’s common stock at an exercise price of $.60 per share. The fair values of the warrants at the time of issuance, determined by management to be $22,800 in the aggregate, were recorded as a debt discount and were amortized to interest expense over the initial term of the notes.
 
In October 2013, the Company issued $200,000 in unsecured promissory notes to a 5% shareholder. The note bears interest at 15% and was initially due on December 31, 2013. As additional consideration for the investor purchasing the note, the Company issued the note holder fully vested five-year warrants to purchase an aggregate of 200,000 shares of the Company’s common stock at an exercise price of $.60 per share. The fair values of the warrants at the time of issuance, determined by management to be $38,000 in the aggregate, were recorded as a debt discount and were amortized to interest expense over the initial term of the notes.
 
In December 2013, the Company repaid $20,000 principal amount of its unsecured promissory notes together with interest due thereon of approximately $1,159 to one note holder, an officer of the Company, and entered into extension agreements with respect to the remaining outstanding balance of unsecured promissory notes of $300,000. In exchange for an extension of the due date of the notes through March 31, 2014, the Company issued the note holders fully vested five-year warrants to purchase an aggregate of 310,893 shares of the Company’s common stock at an exercise price of $.60 per share. The fair value of the warrants at the time of issuance, determined by management to be $74,771 in the aggregate, was recorded as additional debt discount and was amortized to interest expense over the term of the extension. In exchange for a further extension of the due date of the notes through September 30, 2014, the Company issued the note holders fully vested five-year warrants to purchase an aggregate of 643,973 shares of the Company’s common stock at an exercise price of $.60 per share. The fair value of the warrants at the time of issuance, determined by management to be $143,000 in the aggregate, was recorded as additional debt discount and will be amortized to interest expense over the term of the extension. Amortization of the debt discount related to the 2013 unsecured promissory notes and their extensions was $146,271 for the six months ended June 30, 2014 and $60,800 for the year ended December 31, 2013.
 
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In February, March, and April, 2014 the Company issued $950,000 of short-term unsecured promissory notes. The short-term unsecured promissory notes were issued to Board members and their affiliates, and certain parties who are already lenders or investors in the Company. The purpose of the offering was to provide immediate funds to support the opening of new clinics in Frisco and Ft. Worth, Texas and additional marketing while the Company works to complete a convertible debt offering. The notes matured on April 30, 2014, and bear interest at 15% per annum, and are planned to be repaid from the proceeds of a $2 million convertible debt offering. As additional consideration for the lenders, the Company will issue equity to the lenders depending upon the date of repayment of the loan. Initially, the lenders will receive one fully vested warrant to purchase common stock at an exercise price of $.65. If the short-term unsecured promissory notes are repaid on or after May 31, 2014, in lieu of a warrant the investors will receive 0.5 shares of common stock. In the event that the short-term unsecured promissory note remains unpaid after July 31, 2014, the number of shares of common stock that the lender will receive increases as follows: if paid on or after July 31, 2014 one share, if paid on or after September 30, 2014 two shares, and if paid on or after December 31, 2014 four shares. In addition, each lender is entitled to a repayment premium as a percentage of the unpaid balance as follows: if the loan is repaid between April 30, 2014 and May 31, 2014, 10%; if the loan is repaid between June 1, 2014 and July 31, 2014, 25%; if the loan is repaid between August 1, 2014 and September 30, 2014, 50%; and 100% if the loan is repaid thereafter. In June 2014, the Company issued an additional $100,000 of the short-term unsecured promissory notes under similar terms, with the maturity and other target dates adjusted to reflect the later date of issuance. The short-term unsecured promissory notes remain unpaid as of the date hereof.
 
The following table sets forth the future maturities of the Company’s outstanding notes payable, net of unamortized discount:
             
Year ended December 31,
 
June 30, 2014
(Unaudited)
   
December 31, 2013
(Audited)
 
  2014
  $ 1,624,487     $ 716,531  
  2015
    357,753       250,016  
  2016
    54,301       5,440  
  2017
    612       -  
  Total
  $ 2,037,153     $ 971,987  
 
NOTE 6.          CONVERTIBLE PROMISSORY NOTES
 
Convertible promissory notes payable consist of the following:
             
   
June 30, 2014
(Unaudited)
   
December 31, 2013
(Audited)
 
             
Secured senior subordinated convertible promissory notes
  $ 892,500     $ 892,500  
Senior subordinated convertible promissory notes
    685,000       585,000  
      1,577,500       1,477,500  
Less unamortized discount
    (286,498 )     (201,125 )
Less current portion (net of unamortized discounts)
    (966,742 )     (947,987 )
    $ 324,260     $ 328,388  
 
Secured Senior Subordinated Convertible Promissory Notes
 
Between May 2012 and January 2013, the Company issued $892,500 of secured senior subordinated convertible promissory notes, respectively to two members of the Company’s Board of Directors, their associates or associated entities, and others. The notes are convertible at the option of the holder at any time during the term of the note into common stock of the Company at an initial conversion price of $.60 per share, subject to adjustment for stock splits or subdivisions. The notes bear interest at 12% per annum, which interest is payable quarterly, and are due at maturity. The notes matured in May 2014 or mature December 2015 (with respect to the $300,000 of notes issued in January 2013) and are secured by a first priority lien on the ownership interest of the Company in its wholly-owned subsidiary DRTHC I, LLC or DRTHC II, LLC (with respect to the notes issued in January 2013). The balance outstanding on the notes was $892,500 at June 30, 2014 and December 31, 2013. As additional consideration for the investors purchasing the notes, the Company issued the note holders five-year warrants to purchase an aggregate of 1,115,625 shares of the Company’s common stock at an exercise price of $.75 per share. The fair values of the warrants at the time of issuance, determined by management to be $217,225 in the aggregate, were recorded as a debt discount and will be amortized to interest expense over the term of the notes. The notes also contained a beneficial conversion feature determined by management to be $45,066 in the aggregate which was recorded as a debt discount which will be amortized to interest expense over the term of the notes. In May 2014, the Company entered into agreements with holders of $492,500 of the notes to extend the term to December 31, 2014. The Company issued the extending holders five year fully vested warrants to purchase 985,000 shares of common stock at a purchase price of $.60 per share. The fair value of the warrants at the time of issuance, determined by management to be $217,500 in the aggregate, was recorded as a debt discount and will be amortized to interest expense over the term of the extension. Amortization of the debt discount was $83,010 for the six months ended June 30, 2014 and $129,282 for the year ended December 31, 2013.
 
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Senior Subordinated Convertible Promissory Notes
 
Between May 2013 and July 2013, the Company issued $485,000 of senior subordinated convertible promissory notes to two members of the Company’s Board of Directors, two 5% shareholders, and others. The notes are convertible at the option of the holder at any time during the term of the note into common stock of the Company at an initial conversion price of $.65 per share, subject to adjustment for stock splits or subdivisions. The notes are mandatorily convertible in the event of a Qualified Transaction (as defined in the notes) and the conversion price is adjustable to the lower of 75% of the price of a share of common stock sold in the Qualified Transaction or $.65. The notes bear interest at 7% per annum, are payable upon conversion or at maturity. The notes mature November 1, 2014 and are unsecured. As additional consideration for the investors purchasing the notes, the Company issued the note holders fully vested three-year warrants to purchase an aggregate of 746,157 shares of the Company’s common stock at an exercise price equal to the lower of 120% of the conversion price or $.78 per share. The balance outstanding on the notes was $485,000 at June 30, 2014 and December 31, 2013. The fair values of the warrants at the time of issuance, determined by management to be $92,283 in the aggregate, were recorded as a debt discount and will be amortized to interest expense over the term of the notes. Amortization of the debt discount was $54,163 for the six month ended June 30, 2014 and $875 for the year ended December 31, 2013.
 
Between September 2013 and January 2014, the Company issued $125,000 of senior subordinated convertible promissory notes to investors. The notes are convertible at the option of the holder at any time during the term of the note into common stock of the Company at an initial conversion price of $.65 per share, subject to adjustment for stock splits or subdivisions. The notes are mandatorily convertible in the event of a Qualified Transaction (as defined in the notes) and the conversion price is adjustable to the lower of 75% of the price of a share of common stock sold in the Qualified Transaction or $.65. The notes bear interest at 7% per annum, payable upon conversion or at maturity. The notes mature in March 2015 and are unsecured. As additional consideration for the investor purchasing the notes, the Company issued the note holders fully vested three-year warrants to purchase an aggregate of 192,308 shares of the Company’s common stock at an exercise price equal to the lower of 120% of the conversion price or $.78 per share. The balance outstanding on the notes was $125,000 at June 30, 2014 and $100,000 at December 31, 2013, respectively. The fair values of the warrants at the time of issuance, determined by management to be approximately $22,000 in the aggregate, were recorded as a debt discount and will be amortized to interest expense over the term of the notes. Amortization of the debt discount was $8,204 for the six months ended June 30, 2014 and $1,721 for the year ended December 31, 2013.
 
In June 2014, the Company issued $75,000 of senior subordinated convertible promissory notes. The notes are convertible at the option of the holder at any time during the term of the note into common stock of the Company at an initial conversion price of $.65 per share, subject to adjustment for stock splits or subdivisions. The notes are mandatorily convertible in the event of a Qualified Transaction (as defined in the notes) and the conversion price is adjustable to the lower of 75% of the price of a share of common stock sold in the Qualified Transaction or $.65. The notes bear interest at 7% per annum, payable upon conversion or at maturity. The notes mature in November 2015 and are unsecured. As additional consideration for the investor purchasing the notes, the Company issued the note holders fully vested three-year warrants to purchase an aggregate of 115,386 shares of the Company’s common stock at an exercise price equal to the lower of 120% of the conversion price or $.78 per share. The balance outstanding on the notes was $75,000 at June 30, 2014 and $0 at December 31, 2013. The fair values of the warrants at the time of issuance, determined by management to be approximately $9,600 in the aggregate, were recorded as a debt discount and will be amortized to interest expense over the term of the notes. Amortization of the debt discount was $360 for the six months ended June 30, 2014 and $0 for the year ended December 31, 2013.
 
The following table sets forth the future maturities of the Company’s convertible promissory notes net of unamortized discount:
             
Year ended December 31,
 
June 30, 2014
(Unaudited)
   
December 31, 2013
(Audited)
 
2014
  $ 966,742     $ 947,987  
2015
    324,260       328,388  
Total
  $ 1,291,002     $ 1,276,375  
 
NOTE 7.          CAPITAL LEASE OBLIGATIONS (RELATED PARTY)
 
Capital lease obligations (related party) consisted of the following:
             
   
June 30, 2014
(Unaudited)
   
December 31, 2013
(Audited)
 
$199,610 capital lease obligation on equipment. The lease bears interest at 9.65% per annum, is payable monthly in principal and interest installments of $2,704 and matures in May 2018.
  $ 48,897     $ 53,916  
                 
Total minimum lease payments
    48,897       53,916  
Less current maturities
    (10,792 )     (10,286 )
Long-term portion
  $ 38,105     $ 43,630  
 
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The future minimum capital lease payments are as follows:
 
   
June 30, 2014
(Unaudited)
   
December 31, 2013
(Audited)
 
2014
  $ 7,521     $ 15,041  
2015
    15,041       15,041  
2016
    15,041       15,041  
2017
    15,041       15,041  
2018
    6,267       6,267  
Total minimum lease payments
    58,911       66,431  
Less amount representing interest
    (10,014 )     (12,515 )
Present value of minimum lease payments
    48,897       53,916  
Less current maturities
    (10,792 )     (10,286 )
Long-term portion
  $ 38,105     $ 43,630  
 
NOTE 8.          RELATED PARTY TRANSACTIONS
 
Management Services Agreement
 
The Company and William Kirby D.O., Inc. operate under a management agreement entered into effective January 1, 2010, whereby the Company provides technical, management, administrative, marketing, support services and equipment to the sites where William Kirby D.O., Inc. provides or supervises tattoo removal services. The agreement covers four clinics in southern California operated by the Company.
 
Pursuant to the Management Services Agreement, the Company provides certain non-medical management, administrative, marketing and support services to the clinics where William Kirby, D.O., Inc. provides or supervises laser tattoo and hair removal services, which such services include employment of all non-licensed administrative personnel including an on-site manager and receptionist for each site and all support personnel such as accounting, information technology, human resources, purchasing and maintenance. The Company also provides certain supplies, furniture and equipment used at the clinics. The Company is also responsible for identifying and leasing the clinic locations and paying all rent, utilities and maintenance costs related thereto. Under the Management Services Agreement, the Company also arranges third party marketing and advertising for the clinics.
 
Medical Director Agreement
 
Effective January 1, 2010, the Company entered into a Medical Director Agreement with William Kirby, D.O., Inc. and Dr. Kirby, under which the Company receives administrative, consultative and strategic services from William Kirby, D.O. The initial term of the agreement is for five years, to be followed by automatic renewal terms of five years each. The agreement provides for an annual payment of $250,000 to William Kirby, D.O. for these services. The Company’s unpaid current obligation under the Medical Director Agreement was $20,833 and $20,833 at June 30, 2014 and December 31, 2013, respectively. The unpaid amounts are included in related party payables in the accompanying consolidated balance sheets.
 
Lease Guarantees
 
The IPL device currently used in one of the Company’s clinics is owned by William Kirby, D.O., Inc. pursuant to a financing agreement with a third party financing source. In addition, under the Management Services Agreement, the Company has the right, at any time, to purchase the equipment from William Kirby, D.O., Inc. at a purchase price of the amount outstanding, if any, under the applicable financing agreement. The Company has accounted for this as a capital lease based on the agreement terms.
 
Shareholders Agreement:
 
Effective January 1, 2010, the Company entered into a Shareholders Agreement with William Kirby, D.O., Inc. and Dr. Kirby, pursuant to which, upon the occurrence of certain triggering events described below, Dr. Kirby is required to transfer his interest in William Kirby, D.O., Inc. to another licensed person or entity approved by the Company. Such triggering events include but are not limited to (i) the death or incapacity of Dr. Kirby, (ii) the loss of Dr. Kirby’s medical license, (iii) a breach of the obligations of William Kirby, D.O., Inc. and/or Dr. Kirby under the Amended and Restated Management Services Agreement or the Medical Director Agreement, (iv) the voluntary or involuntary transfer of Dr. Kirby’s interest in William Kirby, D.O., Inc., or (v) termination of the Amended and Restated Management Services Agreement in certain circumstances.
 
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NOTE 9.          EQUITY
 
Common Stock
 
In January 2013, the Company issued 35,700 shares of common stock to an employee pursuant to the exercise of a non-qualified stock option. The Company received gross proceeds of approximately $17,500 in connection with the option exercise. In March 2013, the Company sold 136,365 shares of common stock in a private placement for aggregate gross proceeds of approximately $75,000 and issued 423,061 shares of common stock valued at $.49 per share in exchange for services provided to the Company including an aggregate of 270,000 shares of common stock issued to the Company’s three independent directors as compensation for serving in such capacity and 153,061 shares issued to a consultant in connection with brand development.
 
In April 2013, the Company sold 90,910 shares of common stock in a private placement for aggregate gross proceeds of approximately $50,000. In May 2013, the Company issued 145,455 shares of common stock valued at $.49 per share in exchange for consulting services provided to the Company.
 
In December 2013, the Company issued 13,636 shares of common stock valued at $.49 per share in exchange for consulting services provided to the Company and issued 125,000 shares of common stock to a lender in connection with a line of credit. Also in December 2013, the Company issued 5,300 shares of its common stock to non-executive employees as additional compensation.
 

In June 2014, the Company issued 475,000 shares of common stock to the holders of the Company’s short-term unsecured promissory notes.

 
Stock Options
 
In April 2011, the Company’s board of directors adopted the Dr. Tattoff, Inc. Long-Term Incentive Plan for the purpose of granting incentive awards, including equity awards such as stock options or restricted stock, to certain officers, employees, directors, consultants and other service providers of our Company, to provide such recipients with additional incentives to enhance the value of our Company and encourage stock ownership. Under the Long-Term Incentive Plan, we can grant incentive and nonqualified options to purchase shares of our common stock, stock appreciation rights, other stock-based awards, which are settled in either cash or shares of our common stock and are determined by reference to shares of our stock (such as grants of restricted common stock, grants of rights to receive stock in the future or dividend equivalent rights) and cash performance awards, which are settled in cash and are not determined by reference to shares of our common stock.
 
In January 2013, the Company granted 61,225 incentive stock options to an executive officer as part of his compensation package, vesting over twelve months with an exercise price of $.49. As determined by management using the Black-Scholes option-pricing model, the estimated fair value of the aforementioned stock option approximated $17,300 on its issuance date. Such estimate was based on the following assumptions: value of one common share of $0.49; strike price of $0.49; expected life of five years; risk-free interest rate of 0.67%; volatility of 73%; and expected dividend yield of zero.
 
In March 2013, the Company granted 24,041 incentive options to executive officers, 13,264 incentive options to other employees of the Company and 6,517 non-qualified options to employees of William Kirby, D.O., Inc., vesting immediately with an exercise price of $.49 as consideration for their agreement to defer compensation. As determined by management using the Black-Scholes option-pricing model, the estimated fair value of the aforementioned stock options approximated $14,000 on their issuance date. Also in March 2013, the Company granted 20,000 non-qualified options to each of the three independent members of its Board of Directors, vesting immediately and 45,000 options to each of the three independent members of its Board of Directors vesting 50% immediately and 25% on each the first and second anniversary of the grant date, with an exercise price of $.49 per share as compensation for serving on the Company’s Board of Directors. As determined by management using the Black-Scholes option-pricing model, the estimated fair value of the aforementioned stock options approximated $52,000 on their issuance date. Also in March 2013, the Company granted 10,000 non-qualified options to each of five members of its medical advisory board, with 25% vesting immediately and 25% vesting on each of the first, second and third anniversary of the grant date with an exercise price of $.49 per share. As determined by management using the Black-Scholes option-pricing model, the estimated fair value of the aforementioned stock options approximated $13,400 on their issuance date. Also in March 2013, the Company granted 10,000 non-qualified options to each of five members of its medical advisory board, vesting 25% on each of the first through fourth anniversary of the grant date with an exercise price of $.55 per share. As determined by management using the Black-Scholes option-pricing model, the estimated fair value of the aforementioned stock options approximated $13,400 on their issuance date. All of the estimates of the values of the options granted during March 2013 were based on the following assumptions: value of one common share of $0.49; strike price of $0.49; expected life of five years; risk-free interest rate of 0.63%; volatility of 73%; and expected dividend yield of zero.
 
In June 2013, the Company granted 212,413 incentive stock options to an employee as part of his compensation package, vesting over a four year period with an exercise price of $.55. As determined by management using the Black-Scholes option-pricing model, the estimated fair value of the aforementioned stock option approximated $53,200 on its issuance date. Also, in June 2013, the Company granted 10,000 non-qualified options to a new member of its medical advisory board, vesting 25% on each of the first through fourth anniversary of the grant date with an exercise price of $.55 per share. As determined by management using the Black-Scholes option-pricing model, the estimated fair value of the aforementioned stock options approximated $2,503 on their issuance date. All of the estimates of the values of the options granted during June 2013 were based on the following assumptions: value of one common share of $0.49; strike price of $0.55, expected life of five years; risk-free interest rate of 1.07%; volatility of 64%; and expected dividend yield of zero.
 
In July 2013, the Company granted 112,727 incentive options to two executive officer as part of their compensation packages, vesting over a four year period with an exercise price of $.55. As determined by management using the Black-Scholes option-pricing model, the estimated fair value of the aforementioned stock options approximated $28,100 on the issuance date. Such estimate was based on the following assumptions: value of one common share of $0.49; strike price of $0.55, expected life of five years; risk-free interest rate of 1.42%; volatility of 63%; and expected dividend yield of zero.
 
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In October 2013, the Company granted 7,327 incentive options to executive officers, 2,513 incentive options to other employees of the Company and 6,088 non-qualified options to William Kirby, D.O., vesting immediately with an exercise price of $.55 as consideration for their agreement to defer compensation. As determined by management using the Black-Scholes option-pricing model, the estimated fair value of the aforementioned stock options approximated $3,900 on their issuance date. Such estimate was based on the following assumptions: value of one common share of $0.49; strike price of $0.55; expected life of five years; risk-free interest rate of 1.41%; volatility of 63%; and expected dividend yield of zero. 
 
In February 2014, the Company granted 54,545 incentive stock options to an executive officer as part of his compensation package vesting over twelve months with an exercise price of $.55. As determined by management using the Black-Scholes option-pricing model, the estimated fair value of the aforementioned stock option approximated $13,200 on its issuance date. Such estimate was based on the following assumptions: value of one common share of $0.49; strike price of $0.55; expected life of five years; risk-free interest rate of 1.57%; volatility of 61%; and expected dividend yield of zero.
 
The Company recognized compensation expense of approximately $51,000 in the six months ended June 30, 2014 and $136,000 for the year ended December 31, 2013 related to the options and grants, which is included in general and administrative expenses in the accompanying consolidated statements of operations.
 
The following table summarizes the Company’s stock option activity for the six months ended June 30, 2014:
 
   
Number of Options
   
Weighted
Average Exercise
Price per Share
   
Weighted Average
Grant-Date Fair
Value per Share
 
Outstanding at December 31, 2013 (audited)
    1,540,402     $ .45     $ .44  
Granted (unaudited)
    54,545       .55       .49  
Exercised (unaudited)
    -       -       -  
Forfeited or Expired (unaudited)
    -       -       -  
Outstanding at June 30, 2014 (unaudited)
    1,594,947     $ .45     $ .44  
                         
Exercisable at June 30, 2014 (unaudited)
    1,120,808     $ .44     $ .43  
Vested and expected to vest at June 30, 2014 (unaudited)
    1,594,947     $ .45     $ .44  
 
The aggregate intrinsic value of options exercised during the three months ended June 30, 2014 was $0. The aggregate intrinsic value of options outstanding at June 30, 2014 was approximately $86,000.
 
Warrants
 
The Company issued a number of warrants in 2013 and 2014 related to various transactions. In each case, the Company estimated the fair value of the warrants issued based upon the application of the Black-Scholes option pricing model. During 2013, the Company used the following assumptions: value of common share of $.49, expected life of three or five years depending on the term of the warrant; risk free interest rate of between .58% and 1.73%; volatility of 63-72% and expected dividend yield of zero. During 2014, the Company used the following assumptions: value of common share of $.49, expected life of three or five years depending on the term of the warrant; risk free interest rate of between .86% and 1.73%; volatility between 46% and 61% and expected dividend yield of zero. Unless indicated otherwise, the Company has analyzed these warrants and determined them to be equity instruments. Accordingly, the estimated fair value of the warrants was recognized as “additional paid-in capital” on the accompanying consolidated balance sheets.
 
In January 2013, the Company issued five-year warrants to purchase 30,613 shares of the Company’s common stock at a purchase price of $.595 per share to an employee as part of his compensation package. The warrants vested on a monthly basis through January 1, 2014. The estimated fair value at issuance of $8,200 was recognized as “compensation expense” and is included within “general and administrative” expenses on the consolidated statements of operations.
 
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In connection with issuance of the secured senior subordinated convertible notes in a private placement in January 2013, the Company issued fully vested five-year warrants to purchase 375,000 shares of the Company’s common stock at a purchase price of $.75 per share as additional consideration to the investors, including 250,000 warrant shares to two members of the Company’s Board of Directors. The net proceeds on the issuance of the convertible notes were allocated between the estimated fair value of the warrants at issuance of $89,500 and the convertible notes issued in the offering.
 
In connection with issuance and subsequent extension of the maturity date of the tenant improvement secured loan initially made in February 2013, the Company issued fully vested five-year warrants to purchase 585,240 shares of the Company’s common stock at a purchase price of $.60 per share as additional consideration to the investors, including 146,310 warrant shares to members of the Company’s Board of Directors and management. The net proceeds on the issuance of the tenant improvement secured loan were allocated between the estimated fair value of the warrants at issuance of approximately $145,900 and the notes issued in the offering.
 
In March 2013, the Company issued fully vested five-year warrants to purchase 76,530 shares of the Company’s common stock at a purchase price of $.595 per share to a service provider as additional consideration for services provided. The warrant expires on January 15, 2018. The estimated fair value at issuance of $20,500 was recognized as “consulting expense” and is included within “general and administrative” expenses on the consolidated statements of operations.
 
In connection with the sale of common stock in a private placement in March and April 2013, the Company issued fully vested five-year warrants to purchase 170,457 shares of the Company’s common stock at a purchase price of $.65 per share as additional consideration to the investors. The net proceeds on the sale of common stock were allocated between the estimated fair value of the warrants at issuance of $41,600 and the common stock sold in the offering.
 
In May 2013, the Company issued five-year warrants, vesting over one year, to purchase 34,090 shares of the Company’s common stock at a purchase price of $.65 per share to a service provider as additional consideration for services provided. The estimated fair value at issuance of approximately $7,800 was recognized as “consulting expense” and is included within “general and administrative” expenses on the consolidated statements of operations.
 
In connection with issuance of the senior subordinated convertible notes in a private placement in May, June and July 2013, the Company issued fully vested five-year warrants to purchase 186,537 shares of the Company’s common stock at a purchase price of $.78 per share as additional consideration to the investors. The warrants were exchanged in December 2013 for warrants with different terms as described below.
 
In connection with the issuance and subsequent extension of the maturity date of unsecured promissory notes originally issued in August and October 2013, the Company issued five-year warrants to purchase 630,893 shares of the Company’s common stock at a purchase price of $.60 per share as additional consideration to the note holders, including 97,174 shares issued to members of the Company’s Board of Directors and management. The net proceeds on the unsecured promissory notes were allocated between the estimated fair value of the warrants at issuance of approximately $141,500 and the notes issued.
 
In July 2013, the Company issued five-year warrants to purchase 84,545 shares of the Company’s common stock at a purchase price of $.65 per share to two employees as part of their compensation package. The warrants vest on a monthly basis through July 2014 at which time the warrant will be fully vested. The estimated fair value at issuance of $19,400 was recognized as “compensation expense” and is included within “general and administrative” expenses on the consolidated statements of operations.
 
In connection with the issuance of senior subordinated convertible notes in a private placement from September 2013 to January 2014, the Company issued fully vested three-year warrants to purchase 153,846 shares of the Company’s common stock at a purchase price of $.78 per share as additional consideration to the investors. In the event that the convertible note is converted, the number of shares issuable under the warrant will be adjusted to 100% of the number of conversion shares and the strike price adjusted to 120% of the conversion price. The net proceeds on the issuance of the convertible notes were allocated between the estimated fair value of the warrants at issuance of approximately $25,800 and the convertible notes issued in the offering. The Company has analyzed these warrants and determined them to be debt instruments. Accordingly, the estimated fair value of the warrants was recognized as “warrant liability” on the consolidated balance sheets. The Company determined the fair value of the warrant liability to be approximately $21,700 at June 30, 2014.
 
In October 2013 the Company issued fully vested five-year warrants to purchase 450,000 shares of the Company’s common stock at a purchase price of $1.00 per share in exchange for consulting services to be delivered over a twelve month period. The estimated fair value of the warrants at issuance of $80,300 was recognized as consulting expense included in general and administrative expense on the consolidated statements of operations. Of these warrants, 225,000 were cancelled in February 2014.
 
In December 2013 the Company issued fully vested three-year warrants to purchase 39,000 shares of the Company’s common stock at a purchase price of $.78 per share in exchange for services related to the Company’s new revolving loan facility. The Company has analyzed these warrants and determined them to be debt instruments. Accordingly, the estimated fair value of the warrants was recognized as “warrant liability” on the consolidated balance sheets and the expense will be amortized over the term of the revolving loan and included in interest expense. The Company determined the fair value of the warrant liability to be $4,300 at issuance and $4,900 at June 30, 2014.
 
In December 2013, the Company exchanged 186,537 warrants that had been issued in connection with the issuance of the senior subordinated convertible notes in a private placement from May to July 2013 with new warrants. The number of shares of common stock that can be purchased by the warrant holder was increased to 746,157 and the term of the warrant was decreased from five to three years. In the event that the convertible note is converted, the number of shares issuable under the warrant will be adjusted to 100% of the number of conversion shares and the strike price adjusted to 120% of the conversion price. The net proceeds on the issuance of the convertible notes were allocated between the estimated fair value of the warrants at issuance of $91,400 and the convertible notes issued in the offering. The Company has analyzed these warrants and determined them to be debt instruments. Accordingly, the estimated fair value of the warrants was recognized as “warrant liability” on the consolidated balance sheets. The Company determined the fair value of the warrant liability to be approximately $45,700 and $91,400 at June 30, 2014 and December 31, 2013, respectively.
 
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In February 2014, the Company issued five-year warrants to purchase 27,273 shares of the Company’s common stock at a purchase price of $.65 per share to an employee as part of his compensation package. The warrants vested on a monthly basis through January 1, 2015. The estimated fair value at issuance of $6,100 was recognized as “compensation expense” and is included within “general and administrative” expenses on the consolidated statements of operations.
 
In connection with the issuance of senior subordinated convertible notes in a private placement in June 2014, the Company issued fully vested three-year warrants to purchase 115,386 shares of the Company’s common stock at a purchase price of $.78 per share as additional consideration to the investors. In the event that the convertible note is converted, the number of shares issuable under the warrant will be adjusted to 100% of the number of conversion shares and the strike price adjusted to 120% of the conversion price. The net proceeds on the issuance of the convertible notes were allocated between the estimated fair value of the warrants at issuance of approximately $9,600 and the convertible notes issued in the offering. The Company has analyzed these warrants and determined them to be debt instruments. Accordingly, the estimated fair value of the warrants was recognized as “warrant liability” on the consolidated balance sheets. The Company determined the fair value of the warrant liability to be approximately $9,200 at June 30, 2014.
 
The following table summarizes the Company’s warrant activity for the six months ended June 30, 2014:
 
   
Shares
   
Weighted Average
Exercise Price
   
Weighted Average
Remaining Contractual
Life (in years)
 
Outstanding at December 31, 2013 (audited)
    6,508,415     $ .62       3.8  
Granted (unaudited)
    2,049,447       .61       4.7  
Exercised (unaudited)
    -       -       -  
Expired or cancelled (unaudited)
    (225,000 )     1.00       -  
Exercisable at June 30, 2014 (unaudited)
    8,332,862     $ .65       3.6  
 
  Warrants Outstanding and Exercisable
Number of Shares
                Under Warrants
   
Range of Exercise
Prices
   
Expiration Date
   
Weighted Average
Exercise Price
 
        128,840
    $ .37       2015     $ .37  
915,651
      .59-.78       2016       .77  
3,103,481
      .49-.78       2017       .63  
2,289,291
      .60-1.00       2018       .68  
1,895,599
      .60-.65       2019       .60  
8,332,862
    $ .37-1.00             $ .65  
 
NOTE 10.     COMMITMENTS AND CONTINGENCIES
 
Operating Leases
 
The Company leases all of its clinics from unrelated third parties, which expire through 2020. Lease agreements, in addition to base rentals, generally are subject to annual escalation provisions that range from 3% to 4% and options to renew ranging from 3 years to 5 years.
 
The aggregate minimum future payments required on the operating leases are as follows at June 30, 2014:
 
2014 (six months)
  $ 322,249  
2015
    665,921  
2016
    633,907  
2017
    519,054  
2018
    213,386  
Thereafter
    148,873  
    $ 2,503,390  
 
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Rent expense relating to related party leases for the three months ended June 30, 2014 and 2013 approximated $0 and $11,000, respectively. Rent expense for the six months ended June 30, 2014 and 2013 approximated $11,000 and $57,000, respectively. Rent expense related to third party leases for the three months ended June 30, 2014 and 2013 approximated $154,000 and $213,000, respectively. Rent expense related to third party leases for the six months ended June 30, 2014 and 2013 approximated $309,000 and $327,000, respectively.
 
NOTE 11.     SUBSEQUENT EVENTS
 
Subsequent events have been evaluated through the date on which these consolidated financial statements have been issued.
 
In July 2014, the Company issued additional short-term unsecured promissory notes in the amount of $50,000.
 
23
 

 

 
ITEM 2.     MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
Forward-looking and Cautionary Statements
 
This report contains forward-looking statements within the meaning of the Federal securities laws. Forward-looking statements express our expectations or predictions of future events or results. The statements are not guarantees and are subject to risk and uncertainty. Except as required by applicable law, including Federal securities laws, we do not intend to publicly update or revise any forward-looking statements, whether as a result of new information, future developments or otherwise.
 
In light of the significant uncertainties inherent in the forward-looking statements made in this report, the inclusion of such statements should not be regarded as a representation by us or any other person that our objectives, future results, levels of activity, performance or plans will be achieved. We caution that these statements are further qualified by important factors that could cause actual results to materially differ from those contemplated in the forward-looking statements, including, without limitation, the following:
 
 
those items discussed under “Risk Factors” in Item 1A to our annual report on Form 10-K for the year ended December 31, 2013;
 
 
our failure to generate significant revenues from operations;
 
 
the availability and cost of capital required to fund our current and future operations;
 
 
federal, state and local law and regulation, including regulation of the services provided at our clinics;
 
 
our failure to execute our business plan;
 
 
our failure to effectively execute our marketing strategies;
 
 
our failure to identify or negotiate new real property leases on reasonable terms as part of our expansion plans;
 
 
our ability to renew existing leases on reasonable terms;
 
 
the effect of competition in our industry;
 
 
our ability to protect our intellectual property;
 
 
our exposure to litigation;
 
 
our dependence on key management and other personnel, including the physicians providing services at our clinics;
 
 
a decline in the demand for services provided at our clinics;
 
 
the ability of holders of our securities to effect resales of our securities; and
 
 
the effect of adverse economic conditions generally, and on discretionary consumer spending and the availability of credit.
 
24
 

 

 
Forward-looking statements can be identified by the fact that they do not relate strictly to historical or current facts. They use words such as “anticipate,” “estimate,” “expect,” “project,” “intend,” “plan,” “believe” or words of similar meaning. They may also use words such as “would,” “should,” “could” or “may.”
 
Introduction
 
Management’s Discussion and Analysis of Financial Condition and Results of Operations, or MD&A, is provided as a supplement to the accompanying financial statements and notes to help provide an understanding of the Company’s financial condition, cash flows and results of operations. MD&A is organized as follows:
 
Overview. This section provides a brief description of the Company’s business and operating plans.
 
Results of Operations. This section provides an analysis of the Company’s results of operations for the three and six month periods ended June 30, 2014 and 2013.
 
Liquidity and Capital Resources. This section provides an analysis of the Company’s cash flows for the six months ended June 30, 2014 and 2013, as well as a discussion of the Company’s outstanding commitments as of June 30, 2014. Included in the analysis is a discussion of the amount of financial capacity available to fund the Company’s future commitments, as well as a discussion of other financing arrangements.
 
Off-Balance Sheet Arrangements. This section discloses any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on the Company’s financial condition.
 
Critical Accounting Estimates. This section identifies those accounting estimates that are considered important to the Company’s results of operations and financial condition, require significant judgment and require estimates on the part of management in application.
 
Significant Accounting Policies. This section identifies those accounting policies that are considered important to the Company’s results of operations and financial condition, require significant judgment and require estimates on the part of management in application. All of the Company’s significant accounting policies, including those considered to be critical accounting policies, are summarized in Note 2 to the financial statements included in Part I of this report.
 
Overview
 
Our clinics provide safe, minimally invasive and affordable laser tattoo and hair removal services in a relaxed environment. The services offered at our clinics are administered by licensed medical professionals in accordance with applicable state and Federal law. We currently manage four clinics located in southern California pursuant to a management services agreement with a contracting physician. This arrangement is structured to comply with a California state limitation on the corporate practice of medicine. In addition, we own and operate six clinics, in Dallas, Ft. Worth and Houston Texas, in Atlanta, Georgia and in Phoenix, Arizona. We opened a Sugar Land, Texas clinic in March 2013 (which was closed in February 2014) and the Atlanta location opened in October 2013. We opened a location in Frisco, Texas (a suburb of Dallas) in March 2014 and a location in Ft. Worth, Texas in May 2014. As we expand into other states, applicable state law will govern how we structure the provision of services in our new clinics. Within this framework, we are seeking to become the first nationally branded laser tattoo and hair removal business. 
 
Throughout this report, the terms “our clinics” and “our facilities” refer to the laser tattoo and hair removal clinics we currently manage or operate, or will manage or operate in the future, in accordance with applicable state and Federal law; and the terms “the business” and “our business” refer to the business of owning, operating and/or managing our clinics.
 
We have supported the provision of over 250,000 procedures to more than 29,000 patients during our operating history. Our first clinic opened in Beverly Hills, California in July 2004. We opened two clinics in 2011, two in 2012, two in 2013, and one each in the first and second quarter of 2014.
 
Our primary source of revenues through June 30, 2014, consisted of a management fee paid under a management services agreement with William Kirby, D.O., Inc. related to clinics operated by that entity and fees for services provided in our owned clinics. Pursuant to the management services agreement, we provide certain non-medical management, administrative, marketing and support services and equipment as an independent contractor to the practice sites where William Kirby, D.O., Inc. provides or supervises laser tattoo and hair removal services, all of which are located in southern California. The Company has responsibility for most of the operations of the business conducted at the clinics, except for the dispensing of patient care services, in accordance with California state law. As we expand into states outside of California, applicable state law will govern how we structure the provision of services in our new clinics. Effective January 1, 2010, we entered into an amended and restated management services agreement with William Kirby, D.O., Inc. Dr. William Kirby, a member of our board of directors, is the sole shareholder of William Kirby, D.O., Inc. Pursuant to the management services agreement, the percentage management fee that we receive is subject to annual adjustment and was decreased from 73.5% to 70.3%, effective January 1, 2012. Under the agreement we absorb the cost of advertising while William Kirby, D.O., Inc. absorbs the cost of credit card fees and discounts which were approximately 5% of cash collections for the three months ended June 30, 2014. Advertising costs provided under the management services agreement were approximately 14% of our management service revenue in the three months ended June 30, 2014.
 
25
 

 

 
Because the source of the majority of our revenue is through our management services agreement with William Kirby, D.O., Inc., our financial performance could be negatively impacted by unfavorable developments in that business. Fee for service receipts of William Kirby D.O., Inc., less refunds, decreased by approximately $107,000 for the three months ended June 30, 2014 when compared to the prior year. Accordingly, our management fees, which are a percentage of the fee for service receipts of William Kirby, D.O., Inc. also decreased by approximately $76,000. Dr. Kirby’s staff compensation expense also decreased for the three months ended June 30, 2014 when compared to the prior year as a result of the decreased activity. As a result, William Kirby, D.O., Inc. experienced a cash basis profit in the second quarter of 2014. In the event that William Kirby, D.O. Inc. incurs losses, it may not have adequate cash to meet its obligations to us and it may seek changes in the management services agreement that would unfavorably impact our financial results. The financial information related to William Kirby, D.O., Inc. included herein is on a cash and not accrual basis, and has not been prepared on a GAAP basis consistently applied. As a result, the foregoing financial information related to William Kirby, D.O., Inc. is not directly comparable to the financial information prepared on a GAAP basis regarding the Company that is included in this report.
 
                Funds from operations from our Dallas, Ft. Worth, Houston, Phoenix, and Atlanta clinics serve as an additional source of revenue. In connection with our Dallas, Ft. Worth, Houston, Atlanta and Phoenix clinics, we entered into consulting physician agreements with licensed physicians, pursuant to which those physicians, or other physicians engaged by those physicians provide to our clinics (i) medical director services, (ii) assistance with the creation of clinic protocols and (iii) supervisory and consulting services regarding equipment procurement and operation, in each case consistent with applicable state and Federal laws and regulations.
 
                We differentiate the services offered at our clinics from those of competitors by: 
 
 
focusing solely on tattoo and hair removal;
 
 
providing services in a relaxed environment;
 
 
optimizing the location of our clinics; and
 
 
catering to our target demographic.
 
                Our initial expansion focus is on large metropolitan markets that can support multiple clinic locations with favorable demographics, regulatory environments and competitive landscapes. We are currently evaluating potential clinic sites in Texas, Georgia, Florida and Arizona, and have identified over 40 other viable markets in the United States for expansion. We estimate our cash requirements for each new clinic to be approximately $300,000, to be applied toward various start-up costs, including leasehold improvements, marketing expenses, equipment acquisition, supplies and personnel.
 
Our laser tattoo services are performed by licensed medical professionals using Q-switched lasers and our hair removal services are similarly performed by licensed medical professionals using laser and/or Intense Pulse Light, or IPL, devices, in each case, with physician oversight in compliance with applicable state law. From time to time, our affiliated physicians and our Chief Medical Officer, William Kirby, D.O., evaluate the lasers used to perform procedures at the applicable clinic(s) and may recommend the use of new or additional technology.
 
                With respect to our clinics, the amount of revenue generated by a clinic, whether for the Company directly (with respect to our Texas, Georgia and Arizona locations) or for William Kirby, D.O., Inc. (with respect to our California locations) is primarily a function of the size and characteristics of the tattoo and the area of the body to be treated for hair reduction, less any refunds. Under our management services agreement with William Kirby, D.O., Inc., our management services fee is based on a percentage of the contracting physician’s gross revenues. The costs of operating our California clinics are predominantly fixed or have a relatively small variable component, principally supplies. As a result, the contracting physician’s procedure volume can have a significant impact on our level of profitability since we operate under a fixed percentage of gross revenues arrangement. With respect to the clinics we operate directly, the costs of operating our clinics, not only include those that are fixed or have a relatively small variable component, principally supplies, but also include the expenses related to the personnel to staff the clinics. Here too, the procedure volume can have a significant impact on our level of profitability since many of the costs are relatively fixed.
 
                Management measures volume in “encounters,” which includes a visit to the clinic whether or not a purchase is made, and telephone sales. Management believes this measurement best represents the variable resource requirements, primarily staff time, and because other measures would be difficult and expensive to implement with little added benefit.
 
                Our management service fees are affected by a number of factors, including, but not limited to, our ability to assist the contracting physician to generate patients, placement for the physician through our consumer advertising and word of mouth referrals, the availability of patient financing and the effect of competition and discounting practices in the laser tattoo and hair removal industry.
 
The majority of patients, approximately 90%, pay for services using a debit or credit card or outside financing agencies whose services both we and our contracting physician offer. Historically, the outside financing agencies we and our contracting physician use offer non-recourse programs. If the agency is unable to collect from the patient, it bears the cost thereof except in infrequent cases where there is a chargeback. In our role as manager, we evaluate alternative patient financing programs from time-to-time and may recommend other programs to our contracting physician. Both we and our contracting physician offer a refund if a tattoo is fully removed in a lesser number of treatments than the patient has purchased, and occasionally in other circumstances. Refunds were less than 1% of our contracting physician’s gross revenue in the three months ended June 30, 2014. Refunds and chargebacks result in a reduction of our management fee. Deterioration in the availability of consumer credit is likely to impact our contracting physician’s revenue and ultimately, our management service fees.
 
                William Kirby, D.O., Inc. does not provide patient financing but offers a program whereby patients can pay monthly via automatic charge. Currently, patients may cease participation in the program at any time and no interest is charged. The program was developed to meet the needs of patients who are unable to finance a purchase using a credit card or outside financing agencies. Less than 2% of William Kirby, D.O., Inc.’s patients pay in this manner.
 
                Effective marketing is an integral factor in our ability to generate patients and service fees our own clinics and for William Kirby, D.O., Inc. and ultimately affect our management service fees and revenue from our owned clinics. Our marketing efforts have traditionally focused on our website and its placement on search engines, email campaigns directed towards existing patients, and word of mouth referral. We also use outdoor and radio advertising. The purpose of our marketing is to educate prospective patients about the advantages of laser tattoo and laser/IPL hair removal compared to alternatives and to attract them to our clinics.
 
26
 

 

 
Gift certificate sales represented less than 1% of William Kirby, D.O., Inc.’s gross revenue in the three months ended June 30, 2014. The sale of gift certificates is included in William Kirby, D.O., Inc.’s gross revenue for purposes of calculating our management fee. We also offer gift certificates at our owned clinics. Sales of gift certificates at our owned clinics have not been significant to date.
 
                The fees generated by William Kirby, D.O., Inc., and therefore our management services fees, as well as the revenues from our owned clinics have historically been weak in the fourth quarter. We believe that patients are less inclined to purchase discretionary services in the months of November and December as they have atypical demands on both their time and financial resources.
 
                Our revenues have continued to increase despite relatively unfavorable economic conditions. However, we do not have sufficient history to predict what may occur if economic conditions in the United States further deteriorate. We believe that the typical customer of the services offered at our clinics is young, educated and affluent with adequate disposable income to afford the services. However, tattoo and hair removal is discretionary for most individuals and they may delay or forego removal if faced with a reduction in income or increase in non-discretionary expenses. We also believe that poor economic conditions have resulted in increased pressure on pricing and an expectation of greater value for the money by patients. Management believes that such pricing pressure is a result of a decrease in consumer confidence in economic conditions and their employment prospects together with the increased availability of competitive pricing information on the Internet. In addition, we believe that a portion of our core demographic is attracted to coupon programs such as those offered by Groupon and Living Social, particularly with respect to hair removal where we face a larger number of competitors.
 
                Our operating costs and expenses include:
 
 
●   
clinic operating expenses, including rent, utilities, parking and related costs to operate the clinics, laser equipment, maintenance costs, supplies, non-medical staff expenses for managed clinics and all staff expenses for owned locations and insurance;
     
 
marketing and advertising costs including marketing staff expense and the cost of outside advertising;
     
 
general and administrative costs, including corporate staff expense and other overhead costs; and
     
 
depreciation and amortization of equipment and leasehold improvements.
 
We opened a location in Sugar Land, Texas in March 2013 (which was closed in February 2014 after showing disappointing results), a location in Atlanta in October 2013, a location in Frisco, Texas in March 2014, and a location in Ft. Worth, Texas in May 2014, and may open additional clinics in Texas, Georgia, Florida, Arizona, and other states later in 2014 and 2015 assuming that the availability of growth capital exists, we can maintain a highly skilled management team, and our business model is shown to be successful in varying markets. To our knowledge, there is currently no nationally branded provider of laser tattoo and hair removal services and the opportunity to gain first mover advantage is the motivation behind our aggressive expansion plan. To be successful, we believe that our new locations must be in areas attractive to our demographic, that our clinic staff must be adequately trained and motivated, and that our marketing programs must be effective.
 
                We require substantial capital to fund our growth and will continue to seek substantial amounts of capital to effectuate our business plan. We have experienced significant negative cash flow from operations to date, and we expect to continue to experience negative cash flow in the near future. Our inability to generate sufficient funds from operations and external sources will have a material adverse effect on our business, results of operations and financial condition. If we are not able to raise additional funds, we will be forced to significantly curtail or cease our operations. See “Liquidity and Capital Resources” below for additional information.
 
Results of Operations
 
Comparison of the Three Months Ended June 30, 2014 and the Three Months Ended June 30, 2013
 
    The following table sets forth, for the periods indicated, selected items from our statements of operations, expressed as a percentage of revenues.
 
   
Three Months Ended 
June 30,
 
   
2014
   
2013
 
                 
Revenues
   
100
%
   
100
%
Clinic operating expenses
   
84
%
   
82
%
General and administrative expenses
   
58
%
   
62
%
Marketing and advertising
   
22
%
   
32
%
Depreciation and amortization
   
13
%
   
9
%
Loss from operations
   
(77)
%
   
(85)
%
Interest expense and other
   
(70)
%
   
(11)
%
Net loss
   
(147)
%
   
(96)
%
 
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Revenues. Revenues increased by approximately $54,000, or 5%, to approximately $1,122,000 for the three months ended June 30, 2014 compared to approximately $1,068,000 for the three months ended June 30, 2013. Encounters increased from approximately 11,483 to 12,378 or 8%. Two new clinics opened in 2014 accounted for 341 encounters and revenue of approximately $36,000. One clinic opened in 2013 accounted for an increase of approximately 511 encounters and $50,000 of the increase in revenue. Revenue from two clinics opened in 2012 accounted for an increase of approximately 481 encounters and $60,000 of the increase in revenue. Encounters at mature clinics (those opened prior to 2012) decreased by approximately 230 and revenue from these clinics decreased by approximately $92,000. The decrease in encounters at the mature clinics was primarily related to a decline in patients receiving hair removal services. Encounter volume and revenue were negatively impacted by a decrease in marketing activity.
 
We measure the average fee paid by our customers per encounter as a key indicator of management performance. Since the majority of our customers purchase a package of treatments, the average fee per encounter is much higher in the first several months following a clinic opening and then declines as packages are redeemed. Average fee per encounter decrease from approximately $147 in the three months ended June 30, 2013 to $130 in the three months ended June 30, 2014. Fee per encounter in our mature clinics decreased approximately 15% when compared to the prior year. Fee per encounter at clinics opened in 2013 and 2012 decreased approximately 1% and 29%, respectively, in the three months ended June 30, 2014 when compared to the three months ended June 30, 2013, reflecting the growth in encounters from package redemptions. Fee per encounter for clinics opened in 2014 averaged approximately $370.
 
Clinic Operating Expenses. Clinic operating expenses consist primarily of salaries, wages and benefits for the employees who work at our owned clinics and salaries, wages and benefits for the non-medical employees who work at our managed clinics, rent and utilities for all clinic premises, and supplies. We expect these expenses to increase as a percentage of revenue during periods when new clinics open as we expect revenue in the new clinics to build over time to mature levels. Clinic operating expenses increased by 8% in the aggregate and increased 2% as a percentage of revenues to approximately $945,000 for the three months ended June 30, 2014 versus approximately $874,000 for the three months ended June 30, 2013. New clinics accounted for an increase of approximately $185,000, offset by a decrease of approximately $114,000 related to a closed clinic.
 
Marketing and Advertising Expenses. Marketing and advertising expenses consist primarily of salaries, wages and benefits and the cost of outside advertising. Historically we have relied principally on internet advertising. During 2010, we began advertising using outdoor billboards in addition to our internet advertising, and we explore other advertising opportunities from time to time, such as radio and other forms of outreach. We also vary our marketing and advertising expenditures to respond to competitive activities as well as changes in our financial resources. We typically provide additional advertising support in a market when a new clinic is opening. Marketing and advertising expenses were approximately $245,000 for the three months ended June 30, 2014, compared to approximately $340,000 for the three months ended June 30, 2013, a decrease of approximately $95,000. The decrease was a result of our financial limitations as we did not have cash available to support marketing at an equivalent level.
 
General and Administrative Expenses. General and administrative expenses include the salaries, wages and benefits for the employees who support the clinics including operational, legal and medical-professional oversight, finance and accounting, payroll and personnel, information technology, and risk management. Also included in our general and administrative expenses are professional fees paid to our attorneys, accountants, medical director and other advisors. General and administrative expenses also include insurance, travel, supplies and other costs associated with our corporate functions. General and administrative expenses decreased by approximately $11,000 to approximately $651,000 for the three months ended June 30, 2014 when compared to $662,000 in the prior year. An increase of approximately $37,000 in travel expense was offset by a decrease in financial advisory and professional fees.
 
Depreciation and Amortization Expenses. Depreciation and amortization consist of depreciation and amortization of leasehold improvements, medical equipment, and the furniture, computers, telephone systems and other equipment used in our operations. Depreciation and amortization expenses increased by 47% in the aggregate to approximately $141,000 for the three months ended June 30, 2014 versus approximately $96,000 for the three months ended June 30, 2013. The depreciation and amortization related to the opening of two new clinics in 2014, a full year of operation for two clinics opened in 2013, and the replacement of three laser devices in our California locations in December 2013 were the principal factors in the increase.
 
Interest Expense. Interest expense for the three months ended June 30, 2014 was approximately $859,000, an increase of approximately $743,000 when compared to interest expense of $116,000 for the three months ended June 30, 2013. The increase in interest expense is principally a result of the issuance of approximately $685,000 in convertible notes, $1,350,000 in non-convertible debt, borrowing of $1,300,000 under a revolving line of credit during the prior year and the financing of new laser devices for a new clinics together with amortization of debt discount related to warrants issued with or upon extension of convertible notes and non-convertible debt. Amortization of debt discount to interest, a non-cash charge, was approximately $363,000 in the three months ended June 30, 2014 compared to $61,000 in the three months ended June 30, 2013.
 
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Comparison of the Six Months Ended June 30, 2014 and the Six Months Ended June 30, 2013
 
The following table sets forth, for the periods indicated, selected items from our statements of operations, expressed as a percentage of revenues.
 
   
Six Months Ended 
June 30,
 
   
2014
   
2013
 
                 
Revenues
   
100
%
   
100
%
Clinic operating expenses
   
90
%
   
85
%
General and administrative expenses
   
64
%
   
84
%
Marketing and advertising
   
18
%
   
26
%
Depreciation and amortization
   
12
%
   
9
%
Loss from operations
   
(83)
%
   
(105)
%
Interest expense and other
   
(58)
%
   
(10)
%
Net loss
   
(141)
%
   
(115)
%
 
Revenues. Revenues increased by approximately $218,000, or 11%, to approximately $2,196,000 for the six months ended June 30, 2014 compared to approximately $1,978,000 for the six months ended June 30, 2013. Encounters increased from approximately 22,922 to 23,726 or 4%. Two new clinics opened in 2014 accounted for 399 encounters and revenue of approximately $41,000. Two clinics opened in 2013 accounted for an increase of approximately 786 encounters and $102,000 of the increase in revenue. Revenue from two clinics opened in 2012 accounted for an increase of approximately 1,093 encounters and $147,000 of the increase in revenue. Encounters at mature clinics (those opened prior to 2012) decreased by approximately 1,348, and accounted for a decrease in revenue of approximately $72,000. The decrease in encounters at the mature clinics was primarily related to a decline in patients receiving hair removal services. Encounter volume and revenue were negatively impacted by a decrease in marketing activity.
 
We measure the average fee paid by our customers per encounter as a key indicator of management performance. Since the majority of our customers purchase a package of treatments, the average fee per encounter is much higher in the first several months following a clinic opening and then declines as packages are redeemed. Average fee per encounter was approximately $137 in the six months ended June 30, 2014 and in the six months ended June 30, 2013. Fee per encounter in our mature clinics decreased approximately 3% when compared to the prior year. Fee per encounter at clinics opened in 2013 increased approximately 17% while fee per encounter for clinics opened in 2012 decreased approximately 31% in the six months ended June 30, 2014 when compared to the six months ended June 30, 2013, reflecting the growth in encounters from package redemptions for clinics opened in 2012. Fee per encounter for clinics opened in 2014 averaged approximately $397.
 
Clinic Operating Expenses. Clinic operating expenses consist primarily of salaries, wages and benefits for the employees who work at our owned clinics and salaries, wages and benefits for the non-medical employees who work at our managed clinics, rent and utilities for all clinic premises, and supplies. We expect these expenses to increase as a percentage of revenue during periods when new clinics open as we expect revenue in the new clinics to build over time to mature levels. Clinic operating expenses increased by 17% in the aggregate and increased 5% as a percentage of revenues to approximately $1,967,000 for the six months ended June 30, 2014 versus approximately $1,684,000 for the six months ended June 30, 2013. Of this increase of approximately $283,000, approximately $255,000 was related to two new clinics opened in 2014 and approximately $201,000 reflects a full year of operation for one clinic opened in 2013 offset by a decrease in operating expenses in clinics open prior to 2013 of approximately $210,000. Clinic expenses include approximately $103,000 in costs related to the closure of a clinic in Sugar Land, TX, including asset impairment charges of $41,000.
 
Marketing and Advertising Expenses. Marketing and advertising expenses consist primarily of salaries, wages and benefits and the cost of outside advertising. Historically we have relied principally on internet advertising. During 2010, we began advertising using outdoor billboards in addition to our internet advertising, and we explore other advertising opportunities from time to time, such as radio and other forms of outreach. We also vary our marketing and advertising expenditures to respond to competitive activities as well as changes in our financial resources. We typically provide additional advertising support in a market when a new clinic is opening. Marketing and advertising expenses were approximately $385,000 for the six months ended June 30, 2014, compared to approximately $520,000 for the six months ended June 30, 2013, a decrease of approximately $135,000. The decrease was a result of our financial limitations as we did not have cash available to support marketing at an equivalent level.
 
General and Administrative Expenses. General and administrative expenses include the salaries, wages and benefits for the employees who support the clinics including operational, legal and medical-professional oversight, finance and accounting, payroll and personnel, information technology, and risk management. Also included in our general and administrative expenses are professional fees paid to our attorneys, accountants, medical director and other advisors. General and administrative expenses also include insurance, travel, supplies and other costs associated with our corporate functions. General and administrative expenses decreased by approximately $271,000 to approximately $1,397,000 for the six months ended June 30, 2014 when compared to $1,668,000 in the prior year. This decrease was substantially the result of two factors. Non-cash stock compensation expense decreased by approximately $172,000 reflecting a lower level of grant activity under our long-term incentive plan in 2014. During the six months ended June 30, 2013, our independent directors were awarded stock and option grants totaling approximately $132,000. In addition, during the six months ended June 30, 2013, we incurred approximately $100,000 in expense for brand development services which expense was not incurred in 2014.
 
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Depreciation and Amortization Expenses. Depreciation and amortization consist of depreciation and amortization of leasehold improvements, medical equipment, and the furniture, computers, telephone systems and other equipment used in our operations. Depreciation and amortization expenses increased by 49% in the aggregate to approximately $274,000 for the six months ended June 30, 2014 versus approximately $184,000 for the six months ended June 30, 2013. The depreciation and amortization related to the opening of two new clinics in 2014, a full year of operation for a clinic opened in 2013, and the replacement of laser devices in our California locations in December 2013 were the principal factors in the increase.
 
Interest Expense. Interest expense for the six months ended June 30, 2014 was approximately $1,348,000, an increase of approximately $1,150,000 when compared to interest expense of $198,000 for the six months ended June 30, 2013. The increase in interest expense is principally a result of the issuance of approximately $235,000 in convertible notes, $1,350,000 in non-convertible debt, borrowing of $1,300,000 under a revolving line of credit during the prior year, and the financing of new laser devices for a new clinics together with amortization of debt discount related to warrants issued with or upon extension of convertible notes and non-convertible debt. Amortization of debt discount to interest, a non-cash charge, was approximately $599,000 in the six months ended June 30, 2014 compared to $77,000 in the six months ended June 30, 2013.
 
Liquidity and Capital Resources
 
Cash and cash equivalents decreased by approximately $169,000 at June 30, 2014 as compared to December 31, 2013, principally due to cash used in operations of $546,000 and acquisition of property and equipment of $299,000, offset by cash received from the issuance of debt in private placements of $1,150,000.
 
Cash from operations, which includes the management fees we receive from William Kirby, D.O., Inc. and service fees earned directly from patient services in our owned clinics represent our primary recurring source of funds, and less expenses, reflects the net loss from operations excluding non-cash charges, and changes in operating capital. The six months ended June 30, 2014 and 2013 reflected net cash used in operating activities of approximately $546,000 and $759,000, respectively. While our clinics (both managed and owned) were able to generate aggregate positive cash flow from operations during the six months ended June 30, 2014 and 2013, they were unable to generate enough positive cash flow to cover our overhead expenses.
 
Net cash used in investing activities for the six months ended June 30, 2014 and 2013, respectively was $299,000 and $265,000, reflecting purchases of property and equipment. Our purchases of property and equipment in the first six months of 2014 are principally related to the clinic we opened in March 2014 in Frisco, Texas, the clinic we opened in Ft. Worth, Texas in May 2014, and equipment replacements in our Southern California locations. Our purchases in the six months ended June 30, 2013 were principally related to the development of our clinics in Sugar Land, Texas and Atlanta, Georgia.
 
Net cash from financing activities for the six months ended June 30, 2014 and 2013, respectively was $676,000 and $922,000. During the six months ended June 30, 2014, we received cash from the issuance of debt in private placements of $1,150,000. During the six months ended June 30, 2013 we received cash from the issuance of debt in private placements of $950,000 and from the sale of common stock of approximately $125,000.
 
The Company intends to use its available resources to open additional clinics. We have historically experienced significant negative cash flow from operations and we expect to continue to experience significant negative cash flow from operations in the near future as we open new clinics. Accordingly, we expect to raise additional capital to fund our current operations and future expansion through the sale of equity securities and/or the issuance of debt. If we are unable to raise additional equity capital or issue debt, then we will not be able to grow our revenue and eliminate our operating losses. If that were to occur, management would attempt to reduce its professional fees, salaries, advertising and other costs and reduce operating cash requirements. The Company currently intends to raise additional capital and continue opening additional clinics but there can be no assurance that it will be successful.
 
Going Concern Issues
 
At June 30, 2014, the Company has accumulated losses approximating $14,805,000, current liabilities that exceeded its current assets by approximately $7,985,000, shareholders’ deficit of approximately $6,412,000, and has not yet produced operating income or positive cash flows from operations. In the six months ended June 30, 2014, the Company had a net loss on operations of approximately $1,826,000 and the Company has not yet produced positive cash flow from operations. The Company’s ability to continue as a going concern is predicated on its ability to raise additional capital, increase sales and margins, and ultimately achieve sustained profitable operations. The uncertainty related to these conditions raises substantial doubt about the Company’s ability to continue as a going concern.
 
Management believes that the Company will need to continue to raise additional outside capital to expand the number of clinics in operation and reduce expenses to address its losses and ability to continue to operate. The Company intends to raise additional capital and continue opening additional clinics to achieve this goal. In the event that the Company is unsuccessful in raising adequate equity capital, management will attempt to reduce losses and preserve as much liquidity as possible. Steps management would likely take would include limiting capital expenditures, reducing expenses and leveraging the relatively few assets that it owns without encumbrance. A reduction in expenses would likely include personnel costs, professional fees, and marketing expenses. While management would attempt to achieve break-even or profitable operations through these steps, there can be no assurance that it will be successful.
 
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Off-Balance Sheet Arrangements
 
We do not have any off-balance sheet arrangements, financings or other relationships with entities or other persons, also known as “special purpose entities.”
 
Critical Accounting Estimates
 
The preparation of our financial statements in conformity with GAAP requires our management to make certain estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. As such, in accordance with the use of GAAP, our actual realized results may differ from management’s initial estimates as reported and such differences may be significant. Our most significant accounting estimates are those related to our consolidation policy, valuation of common stock, fair value measurements, uncertainty in income taxes and valuation allowance for deferred tax assets as set forth below.
 
Consolidation Policy. The Company has various contractual relationships with William Kirby D.O., Inc. including a management services agreement, medical director’s agreement, equipment subleases and guarantees. The Company evaluated the various relationships between the parties to determine whether to consolidate William Kirby, D.O., Inc. as a variable interest entity pursuant to ASC 810, Consolidation. The Company determined that it was not the primary beneficiary of the interest and that it should not consolidate William Kirby, D.O., Inc. The Company’s conclusion was based upon an analysis of the various relationships and California state law restrictions on relationships between licensed professionals and businesses. To complete its analysis, management made assumptions regarding the relevance of certain factors, including state law requirements, which were given significant weight. In the event that state law should change, there should be material changes in the relationships or management’s judgment as to the relevance of various factors should change, the Company might determine that consolidation would be appropriate.
 
Valuation of Common Stock. There is presently no trading market for common stock or other equity instruments of the Company. Management’s estimates of stock compensation expense and derivative liability are dependent upon an estimated fair value of a share of Company common stock. ASC 820, “Fair Value Measurement,” establishes a hierarchy for measurement of fair value and requires the Company to maximize the use of observable inputs in measuring fair value and minimize the use of unobservable inputs. Management estimates the fair value of a share of common stock primarily based upon the most recent actual purchases of common stock by unrelated third parties because it represents observable inputs, and management believes it is the most reliable estimate available. Management may adjust the value per share as the time period between when actual purchases have been made and the measurement date increases or if it determines that events subsequent to the last actual sale transaction materially impact the value of a share of common stock. Such changes in estimated value may have a material impact on stock compensation expense and derivative liabilities.
 
Fair Value Measurements. The Company estimates its derivative liabilities using a Black-Scholes option pricing model using such inputs as management deems appropriate. The Black-­Scholes option pricing model requires the use of input assumptions, including expected volatility, expected life, expected dividend rate and expected risk-free rate of return. The assumptions for expected volatility and expected life are the two assumptions that significantly affect the fair value. Changes in the expected dividend rate and expected risk-free rate of return do not significantly impact the calculation of fair value, and determining these inputs is not highly subjective. Because there is no trading market for the Company’s common stock or any of its warrants or other derivative liabilities, the Company cannot calculate actual volatility. Management has estimated volatility by selecting a group of companies, deemed by management to be similar. Changes in fair value estimates may have a material impact on the measurement of derivative liabilities.
 
Uncertainty in Income Taxes. We adopted the provisions of ASC 740-10 (formerly FIN 48), “Accounting for Uncertainty in Income Taxes – an interpretation of FASB Statement No. 109,” effective January 1, 2010. This interpretation prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. ASC 740-10 also provides guidance on de-recognition of tax benefits, classification on the balance sheet, interest and penalties, accounting in interim periods, disclosure and transition. ASC 740 requires significant judgment in determining what constitutes an individual tax position as well as assessing the outcome of each tax position. Changes in judgment as to recognition or measurement of tax positions can materially affect the estimate of the effective tax rate.
 
Valuation Allowance for Deferred Tax Assets. Deferred tax assets arise when we recognize charges or expenses in our financial statements that will not be allowed as income tax deductions until future periods. The term deferred tax asset also includes unused tax net operating losses and tax credits that we are allowed to carry forward to future years. Accounting rules permit us to carry deferred tax assets on the balance sheet at full value as long as it is “more likely than not” that the deductions, losses or credits will be used in the future. A valuation allowance must be recorded against a deferred tax asset if this test cannot be met. The accounting rules state that a company with a recent history of losses would have a difficult, perhaps impossible, time supporting a position that utilization of its deferred tax assets was more likely than not to occur.
 
We believe that the operating loss incurred by the Company in the current year, and the cumulative losses incurred in prior years, represent sufficient evidence to determine that the establishment of a valuation allowance against deferred tax assets is appropriate. Until an appropriate level of profitability is attained, we expect to continue to maintain a valuation allowance on our net deferred tax assets.
 
The estimates, judgments and assumptions used by us under “Capitalization Policy,” “Valuation of Common Stock,” “Fair Value Measures,” “Uncertainty in Income Taxes” and “Valuation Allowance for Deferred Tax Assets” are, we believe, reasonable, but involve inherent uncertainties as described above, which may or may not be controllable by management. As a result, the accounting for such items could result in different amounts if management used different assumptions or if different conditions occur in future periods.
 
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Significant Accounting Policies
 
The Company has defined a significant accounting policy as one that is both important to the portrayal of the Company’s financial condition and results of operations and requires management of the Company to make difficult, subjective or complex judgments. Estimates and assumptions about future events and their effects cannot be predicted with certainty. The Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments. These estimates may change as new events occur, as more experience is acquired, as additional information is obtained and as the Company’s operating environment changes.
 
We have identified the policies set forth in Note 2, “Summary of Significant Accounting Policies” to our financial statements as significant to our business operations and the understanding of our results of operations. The impact and any associated risks related to these policies on our business operations are discussed throughout MD&A, where such policies affect our reported and expected financial results. In the ordinary course of business, we have made a number of estimates and assumptions relating to the reporting of results of operations and financial condition in the preparation of our financial statements in conformity with accounting principles generally accepted in the United States of America. Actual results could differ significantly from those estimates under different assumptions and conditions. We believe that the discussion set forth in Note 2, “Summary of Significant Accounting Policies” to our financial statements addresses our most significant accounting policies, which are those that are most important to the portrayal of our financial condition and results of operations and require our most difficult, subjective and complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain.
 
ITEM 3.     QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
 
  Not applicable.
 
ITEM 4.     CONTROLS AND PROCEDURES
 
Evaluation of Disclosure Controls and Procedures
 
We maintain disclosure controls and procedures that are designed to ensure that material information required to be disclosed in our periodic reports filed under the Exchange Act, is recorded, processed, summarized, and reported within the time periods specified in the SEC’s rules and forms and to ensure that such information is accumulated and communicated to our management, including our chief executive officer (principal executive officer) and chief financial officer (principal financial officer) as appropriate, to allow timely decisions regarding required disclosure. Our chief executive officer and principal financial officer, after evaluating the effectiveness of our disclosure controls and procedures, as defined in Rule 13(a)-15(e) under the Exchange Act, as of the end of the period covered by this Quarterly Report on Form 10-Q have concluded that, based on such evaluation, our disclosure controls and procedures were effective as of June 30, 2014.
 
Changes in Internal Control Over Financial Reporting
 
There have been no changes in the Company’s internal control over financial reporting, identified in connection with the evaluation of such internal control that occurred during the most recent quarter of the Company that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
 
PART II. OTHER INFORMATION
 
ITEM 1.     LEGAL PROCEEDINGS
 
We are not a party to any material pending legal proceedings. We may, however, become involved in litigation from time to time relating to claims arising in the ordinary course of our business. We do not believe that the ultimate resolution of such claims would have a material effect on our business, results of operations, financial condition or cash flows. However, the results of these matters cannot be predicted with certainty, and an unfavorable resolution of one or more of these matters could have a material effect on our business, results of operations, financial condition, cash flows and prospects.
 
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ITEM 1A. RISK FACTORS
 
We filed our Annual Report on Form 10-K for the year ended December 31, 2013, with the Securities and Exchange Commission on March 31, 2014, which sets forth our risk factors in Item 1A therein.
 
ITEM 2.    UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
 
The following summarizes all sales of our unregistered securities during the three months ended June 30, 2014. The securities in the below-referenced transactions were (i) issued without registration and (ii) were subject to restrictions under the Securities Act of 1933, as amended, or the Securities Act, and the securities laws of certain states, in reliance on the private offering exemptions contained in Sections 4(2), 4(5) and/or 3(b) of the Securities Act and on Regulation D promulgated thereunder, and in reliance on similar exemptions under applicable state laws as a transaction not involving a public offering. Unless stated otherwise, no placement or underwriting fees were paid in connection with these transactions. Proceeds from the sales of these securities were used for general working capital purposes, including the repayment of indebtedness. The securities are deemed restricted securities for purposes of the Securities Act.
 
In April 2014, the Company issued fully vested five-year warrants to purchase an aggregate of 239,353 shares of the Company’s common stock at an exercise price of $.60 per share to holders of its secured tenant improvement notes in exchange for their agreement to extend the maturity date of the notes to September 30, 2014.
 
In April 2014, the Company issued fully vested five-year warrants to purchase an aggregate of 643,973 shares of the Company’s common stock at an exercise price of $.60 per share to holders of its unsecured bridge notes in exchange for their agreement to extend the maturity date of the notes to December 31, 2014.
 
In May 2014, the Company issued fully vested five-year warrants to purchase an aggregate of 985,000 shares of the Company’s common stock at an exercise price of $.60 per share to holders of its secured senior subordinated convertible promissory notes in exchange for their agreement to extend the maturity date of the notes to December 31, 2014.
 
In June 2014, the Company issued 475,000 shares of common stock to the holders of the Company’s short-term unsecured promissory notes.
 
In June 2014, the Company issued $75,000 of senior subordinated convertible promissory notes. The notes are convertible at the option of the holder at any time during the term of the note into common stock of the Company at an initial conversion price of $.65 per share, subject to adjustment for stock splits or subdivisions. The notes are mandatorily convertible in the event of a Qualified Transaction (as defined in the notes) and the conversion price is adjustable to the lower of 75% of the price of a share of common stock sold in the Qualified Transaction or $.65. The notes bear interest at 7% per annum, payable upon conversion or at maturity. The notes mature in November 2015 and are unsecured. As additional consideration for the investor purchasing the notes, the Company issued the note holder fully vested three-year warrants to purchase an aggregate of 115,386 shares of the Company’s common stock at an exercise price equal to the lower of 120% of the conversion price or $.78 per share.
 
ITEM 3.    DEFAULTS UPON SENIOR SECURITIES
 
 None.
 
ITEM 4.    MINE SAFETY DISCLOSURES
 
 Not applicable.
 
ITEM 5.    OTHER INFORMATION
 
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ITEM 6.     EXHIBITS
 
(a) Exhibits:
 
Exhibit No.
Description of Exhibit
 
   
31.1*
Certification of Principal Executive Officer pursuant to Rule 13a-14(a) or 15d-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
31.2*
Certification of Principal Financial Officer pursuant to Rule 13a-14(a) or 15d-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
32.1*
Certification of Principal Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 
32.2*
Certification of Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 
101*
The following materials from Dr. Tattoff, Inc.’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2014, formatted in Extensible Business Reporting Language (XBRL): (a) Consolidated Balance Sheets as of June 30, 2014 and December 31, 2013, (b) Consolidated Statements of Operations for the Three and Six Months ended June 30, 2014 and 2013, (c) Consolidated Statements of Cash Flows for the Six Months ended June 30, 2014 and 2013, and (d) Notes to such Consolidated Financial Statements.
 
*filed herewith.
 
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Pursuant to the requirements of Sections 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
 
 
DR. TATTOFF, INC.
     
 
By: 
/s/ John P. Keefe
   
John P. Keefe
   
Chief Executive Officer
     
Date: November 14, 2014
 
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons on behalf of the Registrant and in the capacities on the date indicated.
 
 
Signatures
     
Title
     
Date
 
         
PRINCIPAL EXECUTIVE OFFICER
       
         
/s/ John P. Keefe
 
Chief Executive Officer
 
November 14, 2014
     John P. Keefe
       
         
PRINCIPAL FINANCIAL OFFICER
       
         
/s/ Mark A. Edwards
 
Chief Financial Officer
 
November 14, 2014
     Mark A. Edwards
       
 
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