10-K 1 form10k2010.htm 2010 FORM 10K form10k2010.htm
 


SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-K

[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934

For the fiscal year ended December 31, 2010

OR

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


COMMISSION FILE NUMBER: 001-32134

Z TRIM HOLDINGS, INC.
(Exact name of Registrant as specified in its Charter)

 
  ILLINOIS
  36-4197173
(State or Other Jurisdiction of
Incorporation or Organization)
  (I.R.S. Employer
Identification No.)
 
1011 CAMPUS DRIVE, MUNDELEIN, ILLINOIS 60060
(Address of Principal Executive Offices)

(847) 549-6002
(Issuer'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 of 15(d) of the Exchange Act o 1934 during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes [X]     No [  ]
 
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  (See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.)

Large Accelerated Filer                                                      [  ]                      Accelerated Filer                                                      [  ]

Non-Accelerated Filer                                                         [  ]                      Smaller Reporting Company                                 [ x ]
           (do not check if Smaller Reporting Company)

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

At April 12, 2011, there were 12,908,196 shares of common stock outstanding.


The  aggregate  market  value  of  the  voting  stock  of  the  issuer  held  by non-affiliates  of the  issuer  as of  April 12, 2011  was  $21,943,933 This aggregate market value is estimated solely for purposes of this report and are based on the closing price for the issuer's common stock on April 12, 2011, as reported on the Over-the-Counter Markets.  For the purpose of this report, it has been assumed that all officers and directors of the issuer are affiliates of the issuer.  The statements made herein shall not be construed as an admission for determining the affiliate status of any person.


1

 
 

 


   
                     TABLE OF CONTENTS
 
   
           
   
PART I
   
Page No.
Item 1.
Business
     
4
Item 2.
Properties
   
7
Item 3.
Legal Proceedings
   
7
Item 4.
Submission of Matters to a Vote of Security Holders
8
           
   
PART II
     
Item 5.
Market for Registrant’s Common Equity, Related Stockholder Matters
 
 
and Issuer Purchases of Equity Securities
 
9
Item 6.
Selected Financial Data
 
10
Item 7.
Management's Discussion and Analysis of Financial Condition and Results
 
 
of Operations
   
11
Item 7A.
Quantitative and Qualitative Disclosures About Market Risk
   
16
Item 8.
Financial Statements and Supplementary Data
 
25
Item 9.
Changes in and Disagreements with Accountants on Accounting and
 
 
Financial Disclosure
   
25
Itme 9A.
Controls and Procedures
 
25
Item 9B.
Other Information
   
27
           
   
PART III
     
Item 10.
Directors, Executive Officers and Corporate Governance
27
Item 11.
Executive Compensation
 
32
Item 12.
Security Ownership of Certain Beneficial Owners and Management and
 
 
Related Stockholder Matters
 
34
Item 13.
Certain Relationships and Related Transactions, and Director Independence
37
Item 14.
Principal Accounting Fees and Services
 
37
           
   
PART IV
     
Item 15.
Exhibits, Financial Statement Schedules
 
39
           
Signatures
     
39
 
2

 
 

 

PART I

ITEM 1.  DESCRIPTION OF BUSINESS.

Z Trim Holdings, Inc. deploys technology, formulation, and product performance solutions built around cutting-edge food ingredients for both domestic and international food markets.
 
Z Trim® multifunctional ingredients originated from a USDA patent for minimally processed, non-caloric functional food ingredients made from healthy dietary fiber. With an exclusive license from the USDA, this patent is central to the company’s intellectual property portfolio. Z Trim Holdings subsequently evolved the processing technology and expanded the fiber sources to create innovative ingredients with unique properties that provide a multitude of benefits that help create value for food manufacturers around the world.  Currently, Z Trim is made from corn and oat, but it can be produced from virtually any cellulose, the substance that makes up most of a plant’s cell walls, and is one of the most abundant organic compounds on earth.
 
The Company’s core product portfolio of multifunctional food ingredients includes Corn Z Trim® and non-GMO Oat Z Trim®. The superior water-holding capacity and amorphous structure of Z Trim ingredients are key to the exclusive multifunctional attributes they contribute to food product design, including moisture management, oil deflection, texture and appearance quality, fat and calorie reduction, and cost control.  Z Trim® is now being used by food manufacturers on 6 continents, across a multitude of food categories, such as meats, sauces, soups, dressings, baked goods, fillings, toppings, prepared meals, dairy products, frozen handheld snacks, and pizza dough. Food formulators are seeking greater functionality and product performance than they can get from starches, gums, fats, and other fibers – for both standard and lower fat content foods - and are increasingly discovering how Z Trim® multifunctional ingredients can help to delight their consumers with finished products that have enhanced eating quality, outstanding product performance, and frequently, improved nutritional profiles.
 
Major market drivers such as greater nutrition awareness, increasing obesity trends, the economy, rising costs and hectic lifestyles have triggered an evolution of the food industry and consumer expectations.  The Company’s goal is to further enable food manufacturers to address the challenges and opportunities of this evolution by helping them to differentiate their products, achieve their growth objectives, and delight their consumers.  Z Trim® multifunctional ingredients create value for both food manufacturers and consumers in three primary areas: product formulation, processing improvements, and finished product performance. Through ongoing product applications research, the Company develops solutions that help food manufacturers solve formulation and product challenges and capture market opportunities with high quality, innovative products that fulfill consumer demands. 
 
The Company currently manufactures and markets Z Trim® products as cost-competitive ingredients that help improve the food industry's ability to deliver on its promises of quality, taste, and healthfulness. The Company's primary goal is establishing Z Trim as an important ingredient in the evolution of the food industry and consumer expectations.  The Company is developing its market through (i) direct and brokered sales to major food manufacturers, as well as small and mid size companies for packaged retail foods, and (ii) direct and brokered sales to large and small foodservice manufacturers that supply to restaurants, hospitals, schools and cafeterias. Our R&D team, in conjunction with our customers and strategic industry partners, continues to work on the development of additional products and applications.  In addition to direct sales, we use a network of ingredient distributors, both domestic and international, to distribute our products.
 
Raw materials are sourced principally in the United States.  Approximately 70% of our raw materials consist of corn bran and oat hulls and are generally available from a variety of suppliers.  Our major suppliers include Bunge and Didion Milling, Inc. We seek to mitigate the risk of a shortage of raw materials through identification of alternative suppliers for the same or similar raw materials, where available. We have purchasing staff with extensive knowledge of our products who work with marketing, product research and development and quality control personnel to source raw materials for products and other items.
 
The Company’s customers are predominantly food manufacturers.  There were three significant customers who accounted for 26%, 24% and 21% of total sales for the year ended December 31, 2010.  There were three significant customers who accounted for 20%, 20% and 14% of total sales for the year ended December 31, 2009.
 
 Z Trim Holdings, Inc. was incorporated in the State of Illinois on May 5, 1994 under the original name Circle Group Entertainment Ltd.  The Company has no operating subsidiaries.
 
Z Trim Holdings operates within global business of food additives, which, as of 2006 was a $25 billion industry.  The global hydrocolloid business - which consists of agents used for thickening, gelling and stabilizing food and beverage products, is over $19 billion per year (http://www.sriconsulting.com/CEH/Public/Reports/582.7000/) with food applications constituting approximately $4.2 billion of that total (http://www.foodnavigator-usa.com/Financial-Industry/Health-and-prices-dominate-hydrocolloids-debate). 
 
Food systems are complex, and in order to meet consumers’ taste and quality expectations, various ingredients must be used to achieve the structural, organoleptic, performance and shelf-life properties specific to a given food product.
 
Z Trim® ingredients compete with a wide variety of hydrocolloids and other fiber ingredients.  Depending on the food application, required functional properties and product development objectives, competitive ingredients might include gums (e.g. guar, xanthan, locust bean, and Arabic), seaweed extracts (e.g. alginates, carrageenan), starches (native, modified and resistant), and fibers (e.g. oat bran, corn bran, pea fiber, potato fiber).  Most of these competitive ingredients are well-established in the food industry, and many of the companies that supply them have substantially greater resources than our Company.  However, we believe that the unique properties of Z Trim multifunctional fiber ingredients pose not only significant market opportunities for our Company, but also provide tremendous differentiation and growth opportunities for food companies.  No other single hydrocolloid or fiber has the combined water holding and binding capacity that’s effective across as wide a pH and temperature range as Z Trim®, nor imparts as many superior attributes to the finished consumer food product.  Furthermore, Z Trim® ingredients can have synergistic effects with other hydrocolloids and fibers, allowing food manufacturers to achieve even greater processing improvements, cost efficiencies, and finished product performance.
 
The Company protects intangible assets that includes patents pending and issued, as well as trade secrets and know how.  Central to this portfolio is an exclusive license to US Patent No. 5,766,662, including all related international patents, issued to Dr. George Inglett of the USDA.  This license expires upon the expiration of the underlying patent in 2015.  Additionally, the USDA patent was filed in several countries throughout the world.  Through the process of development and commercialization of the technology, the Company has identified and sought patent protection for improvements to the manufacturing process, product applications and is currently developing several spin-off technologies.  On December 1, 2009, we were issued U.S. Patent No. 7,625,591 B2; such will expire in 2026 with payment of maintenance fees.  On July 27, 2010 we were issued U.S. Patent No. 7,763,301; such will expire in 2027 with payment of maintenance fees.  We require all employees and visitors to our plant to execute a non-disclosure agreement.  Our success depends to a significant degree upon our ability to develop proprietary products and technologies and to obtain patent coverage for these products and technologies. We intend to continue to file patent applications covering any newly developed products and technologies. However, there can be no guarantee that any of our pending or future filed applications will issue as patents.
 
Presently, the Company employs 24 full-time employees and two part-time employees.
 
The Company has spent $102,800 in 2010 and $20,000 in 2009 for research and development expense, and is still innovating toward developing value-added products to add to its core line.
 
 
3
 
 

 
            CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

This Annual Report on Form 10-K contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 ("Securities Act"), as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. The forward-looking statements are principally contained in the section entitled "Description of Business." These statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to differ, perhaps materially, from any future results, performance or achievements expressed or implied by the forward-looking statements. Forward-looking statements include, but are not limited to, statements about:

·  
Our product development efforts;

·  
The commercialization of our products;

·  
Anticipated operating losses and capital expenditures;

·  
Our estimates regarding our needs for additional financing;

·  
Our estimates for future revenues and profitability; and

·  
Sources of revenues and anticipated revenues, including contributions from corporate collaborations, license agreements and other collaborative efforts for the development and commercialization of our product candidates, and the continued viability and duration of those agreements and efforts.

In some cases, you can identify forward-looking statements by terms such as "may," "will," "should," "could," "would," "expect," "plan," anticipate," "believe," "estimate," "project," "predict," "intend," potential" and similar expressions intended to identify forward-looking statements. These statements reflect our current views with respect to future events and are based on assumptions and subject to risks and uncertainties. Given these uncertainties, you should not place undue reliance on these forward-looking statements.  We discuss many of these risks in greater detail in the foregoing section under the heading "Risk Factors." Also, these forward-looking statements represent our estimates and assumptions only as of the date of this Annual Report.

You should read this Annual Report and the documents that we reference in this Annual Report with the understanding that our actual future results may be materially different from what we expect.  We do not intend to update any of these statements or to publicly announce the result of any revisions to any of these forward-looking statements.  We qualify all of our forward-looking statements by these cautionary statements.


ITEM 2.  DESCRIPTION OF PROPERTY.

We occupy approximately 44,000 square feet of leased space at 1011 Campus Drive, Mundelein, Illinois. This space is leased for $26,900 per month, including property taxes, pursuant to a non-cancelable operating lease.  The current lease term is through March 2012.


ITEM 3.  LEGAL PROCEEDINGS.

On July 7, 2007, the Company was served with a complaint by Joseph Sanfilippo and James Cluck for violation of the Consumer Fraud Act and is seeking damages in excess of $200,000.  Management believes that the allegations are frivolous and wholly without merit and will vigorously defend the claim. The Company currently has a Motion to dismiss pending in the Circuit Court, Twentieth Judicial Circuit, St. Clair County, Illinois.  The pleadings are still at issue and discovery is underway.  Thus, the outcome is unknown as of the report date.

On August 4, 2009, the Company was served with a complaint by Daniel Caravette, alleging the Company breached the parties’ settlement agreement dated April 24, 2008 and seeking damages in excess of $75,000.  The was tried in September of 2010 before the Circuit Court of the Nineteenth Judicial District, Lake County, Illinois. The Court awarded a final judgment in favor of Mr. Caravette in the amount of $47,140 plus approximately $31,000 in attorneys’ fees and costs for a total of $78,140.  The Company has filed an appeal of this award.


ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.

The Company held its annual shareholders’ meeting on December 2, 2010.  At that time, the shareholders voted in a new slate of directors, as described more fully herein below at Item 6.  The vote tabulation for each director was as follows:



Cumulative votes                                Votes                      
For Directors                                  Received                                 Against                       Abst.                  Broker non-votes
 
Steve Cohen                                           1,742,105                                n/a                      42,135                                           -
 
Morris Garfinkle                                    1,673,991                                n/a                      110,249                                           -
 
Brian Israel                                             1,742,507                                n/a                      41,773                                           -
 
Mark Hershhorn                                    1,742,530                                n/a                      41,710                                           -
 
Edward Smith, III                                   1,742,481                                n/a                      41,759                                           -
 

 
The selection of M&K CPAs, PLLC, as independent outside auditors of the Company for the fiscal year ending December 31, 2010 was submitted to the stockholders for ratification in December 2010. There were 4,297,519 votes cast in favor, 26,989 votes cast against and 18,818 abstentions and broker non-votes, which vote was sufficient for approval of M&K CPAs, PLLC as independent accountants of the Company for the fiscal year end December 31, 2010.
 
 
4
 
 

 
PART II

ITEM 5.  MARKET FOR COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND SMALL BUSINESS ISSUER PURCHASES OF EQUITY SECURITIES.

The following table sets forth, for the periods indicated, the high and low closing prices for our common stock, as quoted for trading on the American Stock Exchange under the symbol "ZTM" and on the Over-the-Counter Bulletin Board under the symbol “ZTMH” and “ZTHO.” Our common stock began trading on the American Stock Exchange on March 31, 2004.  On September 16, 2008, our Company moved from the American Stock Exchange and began trading on the Over-the-Counter Bulletin Board.  As of the close of business on February 6, 2009, the Company effectuated a one-for-thirty (1:30) reverse stock split.  All prices in the following table reflect post-reverse split prices.

 
 
Common Stock
Quarter Ended
High
Low
2009
   
March 31, 2009
$1.75
$0.25
June 30, 2009
$2.20
$0.84
September 30, 2009
$1.11
$0.15
December 31, 2009
$2.00
$0.35
2010
   
March 31, 2010
$1.95
$0.70
June 30, 2010
$1.33
$0.11
September 30, 2010
$1.20
$0.31
December 31, 2010
$1.05
$0.36
2011
   
March 23, 2011
$1.65
$0.85
     

As of April 12, 2011, there were approximately 5,234 record holders of the common stock.  This number does not include shareholders whose shares are held in securities position listings.  We have never paid any dividends on our common stock and do not anticipate paying any dividends in the foreseeable future.

 

EQUITY COMPENSATION PLAN INFORMATION
(AS OF DECEMBER 31, 2010)
 
 
NUMBER OF SHARES TO BE ISSUED UPON EXERCISE OF OUTSTANDING OPTIONS, WARRANTS AND RIGHTS
 
WEIGHTED-AVERAGE EXERCISE PRICE OF OUTSTANDING OPTIONS, WARRANTS AND RIGHTS
 
REMAINIG AVAILABLE FOR FUTURE ISSUANCE UNDER EQUITY COMPENSATION PLANS (EXCLUDING SECURITIES REFLECTED IN 1ST PLAN CATEGORY COLUMN
         
Equity compensation plans approved by security holders (consisting of the 2004 Stock Incentive Plan):
         
3,484,833
 
$1.29
 
16,271,834

(1) Reflects 20,000,000 shares registered under the plan less the outstanding options less 243,333 shares issued to external directors under the Plan.

Plans not approved by shareholders:  None

5
 
 
 

 
ITEM 6.  SELECTED FINANCIAL DATA

RESULTS OF OPERATIONS

YEAR ENDED DECEMBER 31, 2010 COMPARED TO THE YEAR ENDED DECEMBER 31, 2009

Revenues

Revenues increased 61.4% for the year ended December 31, 2010, from $559,910 for the year ended December 31, 2009 to $903,780 for the year ended December 31, 2010.  The increase in product revenue was due to the increase in production, and therefore sales, of Z Trim products. The following table provides a breakdown of the revenues for the periods indicated:

                                             Year ended December 31,
                                                    2010                2009
                                                  -----------         ------------
           Products                       $903,780          $559,910
                                                 -----------         ------------
        Total Revenues               $903,780          $559,910
                                                =======          =======


Operating expenses

Operating expenses consist of payroll and related costs, stock option expense, insurance, occupancy expenses, professional fees, and general operating expenses. Total operating expenses increased by $2,041,396 or 42.0% to $6,897,730 for the year ended December 31, 2010 from $4,856,334 for the year ended December 31, 2009. The increase in operating expenses was primarily due to increases in stock option expense of $2,316,324 (non-cash), directors fee of $187,800 (non-cash), and investor relations of $140,736 that was partially offset by decreases in warrants expense of $437,411, professional fees of $109,280, and legal fees of $37,562.  Of the $2,041,396 increase in total operating expenses, only $1,292,498 were due to cash expenses.

Other income (expense)

Total other expense decreased by $3,684,489 or 59.1%, to $2,549,519 for the year ended December 31, 2010, from $6,234,008 for the year ended December 31, 2009.  The decrease in expense in 2010 was due to change in Fair Value-Derivative expense of $4,778,824, loss on derivative expense of $772,606, Liquidated Damages of $49,172 and Settlement of $24,997 offset by an increase in interest expense- note payable of $1,936,616.
 
Net loss

The Company incurred a net loss of $10,913,897 for the year ended December 31, 2010 or $1.97 per share, compared to $12,209,580 for the year ended December 31, 2009 or $4.48 per share.

LIQUIDITY AND CAPITAL RESOURCES
YEAR ENDED DECEMBER 31, 2010 COMPARED TO THE YEAR ENDED DECEMBER 31, 2009

At December 31, 2010, we had cash and cash equivalents of $2,327,013 compared to $324,784 December 31, 2009.  The Company raised $1,833,507 and $3,196,365 in additional capital through equity and convertible debt transactions during the year ended December 31, 2010 and 2009 respectively.  Also, the company raised $4,784,291 in a preferred stock offering during the year ended December 31, 2010.

Net cash used by operating activities increased by $792,496 or 25%, to $3,962,128 for the year ended December 31, 2010 as compared to $3,169,632 for the year ended December 31, 2009.  The increase resulted primarily from increases in the cost of goods sold of $691,280, employment recruitment of $93,618, research and development of $86,800, travel expense $36,269, and other costs.

Net cash used by investing activities was $403,439 for the year ended December 31, 2010, as compared to $294,645 for the year ended December 31, 2009. The increase was due to the purchases of fixed asset to improve our manufacturing processes.

Net cash provided by financing activities was $6,367,796 for the year ended December 31, 2010, as compared to $3,196,365 for the year ended December 31, 2009. Net cash provided by financing activities for the year ended December 31, 2010 was primarily from the net proceeds from the sale of convertible notes and preferred stock.  Net cash provided by financing activities for the year ended December 31, 2009 was primarily from the net proceeds from the sale of convertible notes and exercise of warrants.

As of March 31, 2011 our cash balance was approximately $4,161,946. To successfully grow our business, we must improve our cash position through greater and sustainable sales of our product lines, and increase the productivity and efficiency of the production process.

6

 
 
 

 

ITEM 7.  MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION

THE FOLLOWING DISCUSSION IS INTENDED TO ASSIST IN UNDERSTANDING THE FINANCIAL CONDITION AND RESULTS OF OPERATIONS OF Z TRIM HOLDINGS, INC. YOU SHOULD READ THE FOLLOWING DISCUSSION ALONG WITH OUR FINANCIAL STATEMENTS AND RELATED NOTES INCLUDED ELSEWHERE IN THIS FORM 10-K.  THE FOLLOWING DISCUSSION CONTAINS FORWARD-LOOKING STATEMENTS THAT ARE SUBJECT TO RISKS, UNCERTAINTIES AND ASSUMPTIONS. OUR ACTUAL RESULTS, PERFORMANCE AND ACHIEVEMENTS IN 2010 AND BEYOND MAY DIFFER MATERIALLY FROM THOSE EXPRESSED IN, OR IMPLIED BY, THESE FORWARD LOOKING STATEMENTS.

Overview
 
Z Trim is a functional food ingredient company which provides custom product solutions that help answer the food industry’s problems.  Z Trim’s revolutionary technology provides value-added ingredients across virtually all food industry categories.  Z Trim’s all-natural products, among other things,  help to reduce fat and calories, add fiber, provide shelf-stability, prevent oil migration, and add binding capacity – all without degrading the taste and texture of the final food products.  Perhaps most significantly, Z Trim’s products can help extend finished products, and thereby increase its customers’ gross margins.  Under the direction of new management since December 2007, Z Trim has focused its efforts and resources towards the manufacture, marketing and sales of its industry-changing products.
 
Z Trim, through an exclusive license to technology patented by the United States Department of Agriculture, has developed products that manage moisture and help reduce costs in finished foods, with the added benefit of maintaining taste and mouth-feel associated with full fat products.  The global market for Z Trim's line of products spans the entire food and nutritional beverage industry, including fat free,  low-fat, reduced fat and full fat, across meats, baked goods, dairy and non-dairy products, snacks, beverages, dressings, sauces and dips.
 
As our current facility is a prototype plant, being the first of its kind to produce our innovative products, we are constantly seeking ways to improve efficiencies and achieve economies of scale. We are currently re-designing the process to make use of newer separation technologies and thereby optimize plant capacity. In order to fully realize the potential of our business model, the Company will eventually need to move to a larger facility, enter into strategic partnerships, or find some other means to produce greater volumes of finished product.

Results of Operations

In 2010, our revenues increased by 61.4% from 2009.  The increase in sales is due to increased production capacity and increased demand for our products.  We are in the process of improving our production process so we can meet the increasing demand.  In making these changes, we have worked with industry specialists to improve our separation technology, as well as with scientists from the Aveka Group (see www.aveka.com for more information on the Aveka Group), to assist in finding ways to improve our capacity and reduce our costs.

Our revenues, by quarter, for 2010, are as follows:

Quarter                       Revenues

Q1                                $177,071
Q2                                $201,717
Q3                                $218,958
Q4                                $303,295


Since our revenue in 2010 increased, our cost of goods sold increased by $691,280 or 41.2% from $1,679,148 in 2009 to $2,370,428 in 2010.  As our production process improves and volumes of production increase, the cost of goods sold, on a per pound basis, should be decreasing.

Cash flows used in operating activities increased by $792,496 or 25%, to $3,962,128 for the year ended December 31, 2010 as compared to $3,169,632 for the year ended December 31, 2009.  Since the beginning of 2008, management has made great efforts to reduce the amount of fees paid to outside professionals, and to focus all of its limited resources on items core to the Company’s business model.

Additionally, we have reduced our accounts payable by $17,274 in 2010, on top of a reduction of $170,484 during 2009 and $427,152 during 2008.  On December 31, 2010, we had a total of $356,567 in accounts payable.  We expect to further reduce our accounts payable in 2011.

Liquidity and Capital Resources

As of December 31, 2010, we had a cash balance of $2,327,013. Over the last several years, we have been funding our operations through the sale of both equity and debt securities. In 2010, we sold $1,816,000 in convertible notes and $4,784,291 in preferred stock. In 2009, we sold $3,747,000 in convertible notes. These notes are convertible at $1.00, and bear interest at 8% per year (See also Note 8 to our Financial Statements set forth herein).  These notes come due in 2011 and 2012.  If our note holders choose not to convert the notes, we will either have to repay the notes, or reach an agreement with the note holders to extend the terms thereof.  In 2008, we sold $4,457,000, which came due in 2010. As of December 31, 2010, $3,707,000 principal and $651,893 interest was converted into stock, and $250,000 was repaid resulting in a balance of $500,000.  Of the $500,000, $100,000 was extended to April 12, 2012 and $400,000 was in default.   Subsequent to the period ended December 31, 2010, $100,000 was redeemed in March 2011, and $300,000 was converted into common stock.

Between March 23 and April 12, the Company received requests from note holders to issue 4,412,923 shares of its common stock, upon conversion to common stock of $3,786,500 principal amount of its 8% Convertible Secured Notes Due in 2011 and 2012, as well as interest of $628,823 on the Notes.  Among those converting debt to equity were the Company’s external Board members, and the Company’s largest investor, Brightline Ventures I, LLC.  Of the approximately $10,000,000 in convertible debt that the Company issued in 2008, 2009 and 2010, the Company has reduced the convertible debt outstanding to $72,500 in Notes that come due in 2011, and $1,904,000 in Notes that come due in 2012.
 
7
 
 

 

RECENT MATERIAL DEVELOPMENTS

Funding Initiatives

On March 17, 2011, the Company entered a private placement subscription agreement with New York-based investment firm Brightline Ventures I, LLC ("Brightline"), pursuant to which we sold 332.6697 units consisting of Preferred Stock and warrants, for an aggregate offering price of $3,326,697. Each of the units (individually, a “Unit” and collectively, the “Units”) consists of 2,000 shares of the Series II 8% Convertible Preferred Stock (“Preferred Stock”) at an Original Issue Price of $5.00 per share, with rights to: (i) a dividend which accrues cumulatively on a daily basis at the rate of 8% per annum of the Original Issue Price payable in shares of the Common Stock; (ii) conversion into such a number of shares of Common Stock determined by dividing the Original Issue Price by the Conversion Price, initially, $1.00; (iii) a liquidation preference equal to the sum of the Original Issue Price and an amount equal to 8% of the Original Issue Price for each 12 months that passed since the date of issuance of any of the Preferred Stock; and (iv) mandatory redemption, by the Company, 24 months from the date of issuance of the Preferred Stock at a redemption price equal to the Original Issue Price plus any accrued but unpaid dividends. The dividend component on liquidation and redemption is payable in shares of the Common Stock of the Company. Payment of the dividend, mandatory redemption and any provisions requiring payment on the Preferred Stock are deferred until the 2008 Notes due in 2010 and the 2009 Notes due in 2011 and 2012 are paid in full. Such deferral, even if the maturity dates on the Notes are extended, will not constitute a default under the Preferred Stock terms.
 
The Preferred Stock terms may be amended by the Company and the consent of the holders of the majority of the outstanding shares and such majority may also waive an adjustment to the Conversion Price.The Preferred Stock is convertible into a total of 3,326,697 shares of Common Stock, exclusive of the convertible 8% dividend. Brightline also received one five-year warrant for each Unit purchased, to purchase 15,000 shares of Common Stock per unit with an exercise price of $1.50 per share (“Warrants”). The total warrants issued were 4,990,046. Current Z Trim Director Edward Smith, III, is a managing partner of Brightline Capital Management, LLC, which is the investment manager of Brightline Ventures I, LLC.
 
We also entered into a registration rights agreement with Brightline pursuant to which we will agree to file with the Securities and Exchange Commission a registration statement covering the resale of the Common Stock underlying the Preferred Stock and Warrants.
 
The descriptions herein are qualified in their entirety by reference to the copies of the forms of the Subscription Agreement, the Warrant, and the Registration Rights Agreement which are attached as exhibits to the Company’s Form 8-K filed on March 21, 2011.

On February 9, 2011, the Company entered into an Investment Banking Agreement with Legend Securities, Inc. ("Legend"), pursuant to which Legend agreed to provide business advisory services to us for a period of up to twelve months. In exchange for Legend's services, we agreed to pay Legend the sum of $10,000 per month and to issue Legend a onetime fee of 350,000 shares of Common Stock. Per the agreement, the shares will be issued as follows: 87,500 1 day after the effective date, 87,500 90 days after the effective date, 87,500 180 days after the effective date and 87,500 270 days after the effective date.  Therefore, as of March 23, 2011, 87,500 are recorded in stock payable.  If the Company files a registration statement within the next 6 months, the Company agrees to seek to register such shares on any such registration statement.
 
We determined that all of the securities issued pursuant to the agreement were exempt from registration under the Securities Act of 1933, as amended (the "Act") pursuant to Section 4(2) of the Act and Rule 506 of Regulation D promulgated under the Act. We based this determination on the non-public manner in which we offered the securities and on the representations of the persons purchasing such securities, which included, in pertinent part, that such persons were "accredited investors" within the meaning of Rule 501 of Regulation D promulgated under the Act, and that such persons were acquiring such securities for investment purposes for their own respective accounts and not as nominees or agents, and not with a view to resale or distribution, and that each such person understood such securities may not be sold or otherwise disposed of without registration under the Act or an applicable exemption therefrom.
 
The description of the terms of sale of the securities described in this report is qualified in its entirety by reference to the full text of the underlying document which had been filed as exhibits to the Company’s Form 8-K filed on February 9, 2011.

Between June 3 and 7, 2010, we entered into 5 private placement subscription agreements with investors pursuant to which we sold 92.1 units consisting of Preferred Stock and warrants, for an aggregate offering price of $921,000.   Each of the units (individually, a “Unit” and collectively, the “Units”) consists of 2,000 shares of the Series I 8% Convertible Preferred Stock (“Preferred Stock”) at an Original Issue Price of $5.00 per share, with  rights to:  (i) a dividend which accrues cumulatively on a daily basis at the rate of 8% per annum of the Original Issue Price payable in shares of the Common Stock; (ii) conversion into such a number of shares of Common Stock determined by dividing the Original Issue Price by the Conversion Price, initially, $1.00; (iii) a liquidation preference equal to the sum of the Original Issue Price and an amount equal to 8% of the Original Issue Price for each 12 months that passed since the date of issuance of any of the Preferred Stock; and (iv) mandatory redemption, by the Company, 24 months from the date of issuance of the Preferred Stock at a redemption price equal to the Original Issue Price plus any accrued but unpaid dividends.  The dividend component on liquidation and redemption is payable in shares of the Common Stock of the Company.  Payment of the dividend, mandatory redemption and any provisions requiring payment on the Preferred Stock are deferred until the 2008 Notes due in 2010 and the 2009 Notes due in 2011 and 2012 are paid in full.  Such deferral, even if the maturity dates on the Notes are extended, will not constitute a default under the Preferred Stock terms.  The Preferred Stock terms may be amended by the Company and the consent of the holders of the majority of the outstanding shares and such majority may also waive an adjustment to the Conversion Price.

The Preferred Stock is convertible into a total of 921,000 shares of Common Stock.  The Investors also received one five-year warrant for each Unit purchased, to purchase 15,000 shares of Common Stock per unit with an exercise price of $1.50 per share (“Warrants”).  The total warrants issued to the investors were 1,381,500.  Brightline Ventures I, LLC, invested $782,000 of the total amount set forth in the preceding paragraph.  Current Z Trim Director Edward Smith, III,  is a managing partner of Brightline Capital Management, LLC, which is the investment manager of Brightline Ventures I, LLC.  Further, current Z Trim Director Morris Garfinkle invested $30,000 of the total amount set forth in the preceding paragraph.
 
We also entered into registration rights agreements pursuant to which we have agreed to file with the Securities and Exchange Commission a registration statement covering the resale of the Common Stock underlying the Preferred Stock and Warrants.
 
The descriptions herein are qualified in their entirety by reference to the copies of the forms of the Subscription Agreement, the Warrant, and the Registration Rights Agreement which are attached as exhibits hereto.
 
On July 29, 2010 the Company filed a registration statement with the SEC covering all of the shares of common stock underlying the Series 1 Preferred Stock, dividends thereon, and accompanying warrants, purchased by the 5 investors between June 3 and 7, 2010.  This registration statement was made effective by the SEC on August 5, 2010.

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On September 7, 2010, we entered into a private placement subscription agreement with an investor pursuant to which we sold 30 units consisting of Preferred Stock and warrants, for an aggregate offering price of $300,000.   Each of the units (individually, a “Unit” and collectively, the “Units”) consists of 2,000 shares of the Series I 8% Convertible Preferred Stock (“Preferred Stock”) at an Original Issue Price of $5.00 per share, with  rights to:  (i) a dividend which accrues cumulatively on a daily basis at the rate of 8% per annum of the Original Issue Price payable in shares of the Common Stock; (ii) conversion into such a number of shares of Common Stock determined by dividing the Original Issue Price by the Conversion Price, initially, $1.00; (iii) a liquidation preference equal to the sum of the Original Issue Price and an amount equal to 8% of the Original Issue Price for each 12 months that passed since the date of issuance of any of the Preferred Stock; and (iv) mandatory redemption, by the Company, 24 months from the date of issuance of the Preferred Stock at a redemption price equal to the Original Issue Price plus any accrued but unpaid dividends.  The dividend component on liquidation and redemption is payable in shares of the Common Stock of the Company.  Payment of the dividend, mandatory redemption and any provisions requiring payment on the Preferred Stock are deferred until the 2008 Notes due in 2010 and the 2009 Notes due in 2011 and 2012 are paid in full.  Such deferral, even if the maturity dates on the Notes are extended, will not constitute a default under the Preferred Stock terms.  The Preferred Stock terms may be amended by the Company and  the consent of the holders of the majority of the outstanding shares and such majority may also waive an adjustment to the Conversion Price.

The Preferred Stock is convertible into a total of 300,000 shares of Common Stock.  The investor also received one five-year warrant for each Unit purchased, to purchase 15,000 shares of Common Stock per unit with an exercise price of $1.50 per share (“Warrants”).  The total warrants issued to the investor were 450,000.  Brightline Ventures I, LLC, invested $300,000 of the total amount set forth in the preceding paragraph.  Current Z Trim Director Edward Smith, III, is a managing partner of Brightline Capital Management, LLC, which is the investment manager of Brightline Ventures I, LLC.  
 
We also entered into registration rights agreements pursuant to which we have agreed to file with the Securities and Exchange Commission a registration statement covering the resale of the Common Stock underlying the Preferred Stock and Warrants.
 
The descriptions herein are qualified in their entirety by reference to the copies of the forms of the Subscription Agreement, the Warrant, and the Registration Rights Agreement which are attached as exhibits to the Form 8-K filed by the Company on June 7, 2010.

Between October 13 and November 12, 2010, we entered into private placement subscription agreements with Brightline, and sold 22.6 Units consisting of Preferred Stock and warrants, for an aggregate offering price of $226,000, under the same terms and conditions as set forth above.  The Preferred Stock is convertible into a total of 226,000 shares of Common Stock, and Brightline received an additional 339,000 warrants with an exercise price of $1.50 per share.

Between December 15 and 29, 2010, we entered into 2 private placement subscription agreements with investors pursuant to which we sold 333.7291 units consisting of Preferred Stock and warrants, for an aggregate offering price of $3,337,291. Each of the units (individually, a “Unit” and collectively, the “Units”) consists of 2,000 shares of the Series I 8% Convertible Preferred Stock (“Preferred Stock”) at an Original Issue Price of $5.00 per share, with rights to: (i) a dividend which accrues cumulatively on a daily basis at the rate of 8% per annum of the Original Issue Price payable in shares of the Common Stock; (ii) conversion into such a number of shares of Common Stock determined by dividing the Original Issue Price by the Conversion Price, initially, $1.00; (iii) a liquidation preference equal to the sum of the Original Issue Price and an amount equal to 8% of the Original Issue Price for each 12 months that passed since the date of issuance of any of the Preferred Stock; and (iv) mandatory redemption, by the Company, 24 months from the date of issuance of the Preferred Stock at a redemption price equal to the Original Issue Price plus any accrued but unpaid dividends. The dividend component on liquidation and redemption is payable in shares of the Common Stock of the Company. Payment of the dividend, mandatory redemption and any provisions requiring payment on the Preferred Stock are deferred until the 2008 Notes due in 2010 and the 2009 Notes due in 2011 and 2012 are paid in full. Such deferral, even if the maturity dates on the Notes are extended, will not constitute a default under the Preferred Stock terms. The Preferred Stock terms may be amended by the Company and the consent of the holders of the majority of the outstanding shares and such majority may also waive an adjustment to the Conversion Price.

The Preferred Stock is convertible into a total of 3,337,291 shares of Common Stock. The Investors also received one five-year warrant for each Unit purchased, to purchase 15,000 shares of Common Stock per unit with an exercise price of $1.50 per share (“Warrants”). The total warrants issued to the investors were 5,005,937. Brightline Ventures I, LLC, invested $3,087,291 of the total amount set forth in the preceding paragraph. Current Z Trim Director Edward Smith, III, is a managing partner of Brightline Capital Management, LLC, which is the investment manager of Brightline Ventures I, LLC.
 
We continue to negotiate a registration rights agreement with Brightline pursuant to which we will agree to file with the Securities and Exchange Commission a registration statement covering the resale of the Common Stock underlying the Preferred Stock and Warrants.
 
The descriptions herein are qualified in their entirety by reference to the copies of the forms of the Subscription Agreement, the Warrant, which are attached as exhibits to the Form 8-K filed by the Company on June 7, 2010.
 
We determined that all of the securities sold and issued in the private placement were exempt from registration under the Securities Act of 1933, as amended (the “Act”) pursuant to Section 4(2) of the Act and Rule 506 of Regulation D promulgated under the Act. We based this determination on the non-public manner in which we offered the securities and on the representations of the persons purchasing such securities, which included, in pertinent part, that such persons were “accredited investors” within the meaning of Rule 501 of Regulation D promulgated under the Act, and that such persons were acquiring such securities for investment purposes for their own respective accounts and not as nominees or agents, and not with a view to resale or distribution, and that each such person understood such securities may not be sold or otherwise disposed of without registration under the Act or an applicable exemption therefrom.

Annual Shareholder’s Meeting and changes to Board of Directors

 On December 2, 2010, the Company held its Annual Shareholders’ meeting.  The shareholders voted for a slate of five directors:  Steven Cohen, Mark Hershhorn, Brian Israel, Morris Garfinkle and Edward Smith III.

Manufacturing Improvements

On November 8, 2010, the Company announced that it recorded in the month of October 2010 its best manufacturing output in its history. The Company is investing in additional equipment and is engaging toll manufacturers to address its manufacturing needs.

On December 2, 2010, the Company announced that it recorded in the months of September, October and November 2010 its best three months of manufacturing output in its history.  Further, the product produced in this period has all been sold.

On January 10, 2011, the Company announced that it recorded, in the month of December 2010, in the fourth quarter of 2010 and for the entire year of 2010, its best month, best quarter and best year of manufacturing output in its history.  Further, the product produced in this period has all been sold. 

On February 14, 2011, the Company announced that it had more than doubled its manufacturing output for the month of January 2011, compared to the month of January 2010. Further, all of the product produced has been earmarked to be sold to specific customers during the first quarter.

OFF-BALANCE SHEET ARRANGEMENTS

We have no off-balance sheet arrangements as defined in Item 303(c) of Regulation S-X.
 
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ITEM 7A.  QUANTATIVE AND QUALATATIVE DISCLOSURES ABOUT MARKET RISK
 
 
Although we do not engage in hedging transactions, the following risks are material risks that we face.  If any of the following risks occur, the business of the Company and its operating results could be seriously harmed.

BUSINESS RISKS

THE COMPANY HAS A HISTORY OF OPERATING LOSSES AND CANNOT GUARANTEE PROFITABLE OPERATIONS IN THE FUTURE. ANY FAILURE ON OUR PART TO ACHIEVE PROFITABILITY MAY CAUSE US TO REDUCE OR EVENTUALLY CEASE OPERATIONS.

The Company incurred a net loss of $10,913,897 for the twelve months ending December 31, 2010, and had an accumulated deficit of $96,916,303.  The Company reported a net loss of $12,209,578 for the twelve months ending December 31, 2009. At December 31, 2009, the Company reported an accumulated deficit of $86,002,406.

If the Company continues to incur significant losses, our cash reserves may be depleted earlier than currently anticipated, and the Company may be required to limit our future growth objectives to levels corresponding with our then available cash reserves.

THE 2009 NOTES IN THE PRINCIPAL AMOUNT OF $3,697,000 WILL COME DUE IN 2011.

As of December 31, 2010, we had a cash balance of $2,327,013. Over the last several years, we have been funding our operations through the sale of both equity and debt securities. In 2008, we sold $4,457,000 in convertible notes.  These notes are convertible into our Common Stock at $1.00, per share and bear interest at 8% per year (See Note 8 to our Financial Statements set forth in the Annual Report on Form 10-K delivered herewith).  The 2008 Notes came due in 2010. The first tranche in the amount of $1,400,000 was due in June and $2,370,000 in September 2010. Of the amount outstanding 2008 Notes in the Principal amount of $4,557,000 were converted into 4,358,893 shares of our common stock including shares issued for accrued and unpaid interest. In 2009, we sold $3,747,000 in convertible notes. These notes are convertible into our Common Stock at $1.00 per share and bear interest at 8% per year. The 2009 Notes come due in 2011.  In 2010, we sold $1,816,000 in convertible notes.  These notes are convertible into our Common Stock at $1.00 per share and bear interest at 8% per year.  The 2010 Notes will come due in 2012.  In March of 2011, we redeemed $130,000 of convertible notes.

OUR SUCCESS IS DEPENDENT ON MARKET ACCEPTANCE OF OUR PRODUCT.

The Company has not conducted, nor have others made available to us, results of market research indicating how much market demand exists for Z Trim, our functional food ingredient. The Company is relying on the current concerns over obesity, weight-health issues, and the rising cost of health care to drive demand for Z Trim in the marketplace. We cannot assure you that we will be able to gain the market acceptance necessary to achieve profitability.

WE MAKE NO PROJECTIONS REGARDING THE VIABILITY OF OUR FUNCTIONAL FOOD INGREDIENT AND WE CANNOT ASSURE YOU THAT WE WILL ACHIEVE THE RESULTS DESCRIBED.

We make no projection with respect to our future income, assets or business. No expert has reviewed our business plan for accuracy or reasonableness. It is likely that our actual business and results of operations will differ from those presented herein.

WE HAVE A SIGNIFICANT PORTION OF OUR CURRENT REVENUES AND ORDER BOOKINGS WITH A SMALL NUMBER OF CUSTOMERS.

Revenues recognized over the past year and order bookings received to date are concentrated with a small number of customers.  The loss of one or more of our customers or material changes to the contracts with or payment terms of these customers may result in a significant business interruption through reduced revenues, reduced cash flows, delays in revenues or cash flows and such delays or reductions could have a material impact on the future revenue growth and profitability of the Company.

THE NUMBER OF SHARES OF OUR COMMON STOCK ISSUABLE UPON THE CONVERSION OR EXERCISE OF OUTSTANDING NOTES, PREFERRED STOCK, WARRANTS AND OPTIONS IS SUBSTANTIAL.
 
The aggregate number of shares issuable pursuant to currently outstanding convertible notes issued in 2008, 2009 and 2010 is 6,617,412, including interest accrued on the 2008 Notes.  At maturity, interest on the 2009 Notes would be convertible into an additional 868,614 shares. The aggregate number of shares issuable upon conversion of the Series I Preferred Stock, including shares to be issued as dividends to the Redemption Date is 4,851,271. The aggregate number of shares issuable pursuant to outstanding warrants, including those issued in 2008, 2009, 2010 and to date in 2011, is 18,779,750. We have outstanding options for 3,484,833 shares of our Common Stock.
 
THE AGREEMENT GOVERNING THE COMPANY’S OUTSTANDING CONVERTIBLE NOTES AND PREFERRED STOCK CONTAIN VARIOUS COVENANTS THAT LIMIT ITS ABILITY TO TAKE CERTAIN ACTIONS AND THE COMPANY’S FAILURE TO COMPLY WITH ANY OF THE  COVENANTS COULD HAVE A MATERIAL ADVERSE EFFECT ON THE COMPANY’S BUSINESS, FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

The agreements governing the company’s outstanding convertible notes and the Series I Preferred Stock contain a number of significant covenants that, among other things, limit its ability to incur additional debt or liens or pay dividends, redeem any of its outstanding capital stock.. The terms of the Series I Preferred Stock and the Series II Preferred Stock require a deferral of the payment of any dividends, redemption and other payments otherwise due  there under,  until the Notes are paid in full without the prior approval of the noteholders.  Such deferral would not constitute a default under the Series I Preferred Stock.

OUR MANUFACTURING FACILITY IS CURRENTLY OPERATING AT A LOSS.

We are presently operating at a negative gross margin in that the cost of production exceeds the sales price of the product.  The changes that are being made to the manufacturing process to allow us to produce at a positive gross margin have yet to be completed and may not be successful.  The current manufacturing facility is merely a pilot plant.  In order to fully implement our business plans we will need to move the operations to a larger facility, develop strategic partnerships or find other means to produce greater volumes of finished product.

WE RELY UPON A LIMITED NUMBER OF PRODUCT OFFERINGS.

The majority of the products that we have sold as of December 31, 2010 have been based on corn and oat. Although we will market our products, as an active food ingredient for inclusion in other companies’ products, and in other ways, a decline in the market demand for our products, could have a significant adverse impact on us.

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THE AVAILABILITY AND COST OF AGRICULTURAL PRODUCTS THAT WE USE IN OUR BUSINESS ARE SUBJECT TO WEATHER AND OTHER FACTORS BEYOND OUR CONTROL.
 
All of our current products depend on our proprietary technology using agricultural products, mainly corn and oat. Historically, the costs of corn and oat are subject to substantial fluctuations depending upon a number of factors which affect commodity prices in general and over which the Company has no control, including crop conditions, weather, government programs and purchases by foreign governments. Commodity price changes may result in unexpected increases in raw material, packaging, and energy costs. If we are unable to increase productivity to offset these increased costs or increase our prices, we may experience reduced margins and profitability. We currently do not hedge against changes in commodity prices.

THE COMPANY IS SUBSTANTIALLY DEPENDENT ON ITS MANUFACTURING FACILITIES; ANY OPERATIONAL DISRUPTION COULD RESULT IN A REDUCTION OF THE COMPANY’S SALES VOLUMES AND COULD CAUSE IT TO INCUR SUBSTANTIAL LOSSES.
 
The Company’s revenues are and will continue to be derived from the sale of functional food ingredients made from dietary fiber that the Company’s manufactures at its facility. The Company’s operations may be subject to significant interruption if its facility experiences a major accident or is damaged by severe weather or other natural disasters. In addition, the Company’s operations may be subject to labor disruptions and unscheduled downtime, or other operational hazards inherent in the industry, such as equipment failures, fires, explosions, abnormal pressures, blowouts, pipeline ruptures, transportation accidents and natural disasters. Some of these operational hazards may cause personal injury or loss of life, severe damage to or destruction of property and equipment or environmental damage, and may result in suspension of operations and the imposition of civil or criminal penalties. The Company’s insurance may not be adequate to fully cover the potential operational hazards described above or that it will be able to renew this insurance on commercially reasonable terms or at all.

 WE FACE COMPETITION.

Competition is intense in our targeted industries, including nutraceuticals, functional food ingredients, oils, gums and a large number of businesses engaged in the various fat replacement industries. Many of our competitors have established reputations for successfully developing and marketing their products, including products that are widely recognized as providing similar calorie reduction. In addition, many of our competitors have greater financial, managerial, and technical resources than we the Company have.   If we are not successful in competing in these markets, we may not be able to attain our business objectives.

OUR INABILITY TO SECURE AND PROTECT OUR INTELLECTUAL PROPERTY MAY RESULT IN COSTLY AND TIME-CONSUMING LITIGATION AND COULD IMPEDE US FROM EVER ATTAINING MARKET SUCCESS.

We hold several patents as well as copyrights and trademarks with respect to our products and expect to continue to file applications in the future as a means of protecting our intellectual property. In addition, we seek to protect our proprietary information and know-how through the use of trade secrets, confidentiality agreements and other similar security measures. With respect to patents, there can be no assurance that any applications for patent protection will be granted, or, if granted, will offer meaningful protection.  The technology employed by Z Trim in its products is licensed to the company by the United States Department of Agriculture. The USDA patent expires 2015. Although the company has additional process patents on file and intends to file a patent for Insoluble Fiber Product in the next few months, there can be no assurance that new patents will in fact issue or that they will provide effective protection.  The Company has received two additional patents in its name:  Patent Nos. 7,763,301 and 7,625,591.

Additionally, there can be no assurance that competitors will not develop, patent or gain access to similar know-how and technology, or reverse engineer our products, or that any confidentiality agreements upon which we rely to protect our trade secrets and other proprietary information will be adequate to protect our proprietary technology. The occurrence of any such events could have a material adverse effect on our results of operations and financial condition.

CONFIDENTIALITY AGREEMENTS WITH EMPLOYEES AND OTHERS MAY NOT ADEQUATELY PREVENT DISCLOSURE OF TRADE SECRETS AND OTHER PROPRIETARY INFORMATION AND MAY NOT ADEQUATELY PROTECT OUR INTELLECTUAL PROPERTY.

We rely on trade secrets to protect our technology, especially where we do not believe patent protection is appropriate or obtainable. However, trade secrets are difficult to protect. In order to protect our proprietary technology and processes, we also rely in part on confidentiality and intellectual property assignment agreements with our corporate partners, employees, consultants, outside scientific collaborators and sponsored researchers and other advisors. These agreements may not effectively prevent disclosure of confidential information nor result in the effective assignment to us of intellectual property, and may not provide an adequate remedy in the event of unauthorized disclosure of confidential information or other breaches of the agreements. In addition, others may independently discover our trade secrets and proprietary information, and in such case we could not assert any trade secret rights against such party. Enforcing a claim that a party illegally obtained and is using our trade secrets is difficult, expensive and time consuming, and the outcome is unpredictable. In addition, courts outside the United States may be less willing to protect trade secrets. Costly and time-consuming litigation could be necessary to seek to enforce and determine the scope of our proprietary rights, and failure to obtain or maintain trade secret protection could adversely affect our competitive business position.

 IF OUR FOOD PRODUCTS BECOME ADULTERATED, MISBRANDED, OR MISLABELED, WE MIGHT NEED TO RECALL THOSE ITEMS AND MAY EXPERIENCE PRODUCT LIABILITY CLAIMS IF CONSUMERS ARE INJURED.

We may need to recall some of our products if they become adulterated, misbranded, or mislabeled. A widespread product recall could result in significant losses due to the costs of a recall, the destruction of product inventory, and lost sales due to the unavailability of product for a period of time. We could also suffer losses from a significant product liability judgment against us. A significant product recall or product liability case could also result in adverse publicity, damage to our reputation, and a loss of consumer confidence in our food products, which could have a material adverse effect on our business results and the value of our brands.

OUR COMPETITORS MAY DESIGN PRODUCTS AROUND OUR INTELLECTUAL PROPERTY PROTECTION.

We hold an intellectual property portfolio, including patent, trademark, copyright and trade secret protection.  Our competitors, however, may design around our patent claims, rendering our patent protection ineffective against such competitors.  Similarly, our competitors may independently develop technology similar to our trade secrets and technical know-how.  Such occurrences could increase competitive pressure on our marketing and sales efforts.

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OUR INTELLECTUAL PROPERTY RIGHTS ARE VALUABLE, AND ANY INABILITY TO PROTECT THEM COULD REDUCE THE VALUE OF OUR PRODUCTS, SERVICES AND BRAND.

Our patents, trademarks, trade secrets, copyrights and other intellectual property rights are important assets for us. Various events outside of our control pose a threat to our intellectual property rights as well as to our products and services. For example, effective intellectual property protection may not be available in every country in which our products and services are distributed.  Also, the efforts we have taken to protect our proprietary rights may not be sufficient or effective.  Any significant impairment of our intellectual property rights could harm our business or our ability to compete.  Also, protecting our intellectual property rights is costly and time consuming.  Any increase in the unauthorized use of our intellectual property could make it more expensive to do business and harm our operating results.

Although we seek to obtain patent protection for our innovations, it is possible we may not be able to protect some of these innovations.  In addition, given the costs of obtaining patent protection, we may choose not to protect certain innovations that later turn out to be important.  Furthermore, there is always the possibility, despite our efforts, that the scope of the protection gained will be insufficient or that an issued patent may be deemed invalid or unenforceable.

WE MAY NOT BE SUCCESSFUL IN AVOIDING CLAIMS THAT WE INFRINGE OTHERS’ PROPRIETARY RIGHTS AND COULD BE REQUIRED TO PAY JUDGMENTS OR LICENSING FEES.

Any infringement claim, whether meritorious or not, could be time consuming and result in costly litigation, and could require us to discontinue any of our practices that are found to be in violation of another party’s rights.  Any failure to maintain rights to our intellectual property used in our business could adversely affect the development, functionality, and commercial value of our products.

GOVERNMENT REGULATION

We are subject to extensive regulation, and compliance with existing or future laws and regulations may require us to incur substantial expenditures or require us to make product recalls. New regulations or regulatory-based claims could adversely affect our business. We are subject to a broad range of federal, state, local and foreign laws and regulations intended to protect public health and the environment. Food production and marketing are highly regulated by a variety of federal, state, local, and foreign agencies. Changes in laws or regulations that impose additional regulatory requirements on us could increase our cost of doing business or restrict our actions, causing our results of operations to be adversely affected. In addition, we advertise our products and could be the target of claims relating to alleged false or deceptive advertising under federal, state, and foreign laws and regulations and of new laws or regulations restricting our right to advertise products.  Our operations are also subject to regulation by various federal agencies, including the Alcohol and Tobacco Tax Trade Bureau, the Occupational Safety and Health Administration, the Food and Drug Administration and the Environmental Protection Agency, and by various state and local authorities. Such regulation covers virtually every aspect of our operations, including production facilities, marketing, pricing, labeling, packaging, advertising, water usage, waste water discharge, disposal of hazardous wastes and omissions and other matters. Violations of any of these laws and regulations may result in administrative, civil or criminal penalties being levied against us, permit revocation or modification, performance of environmental investigatory or remedial activities, voluntary or involuntary product recalls, or a cease and desist order against operations that are not in compliance. These laws and regulations may change in the future and we may incur material costs in our efforts to comply with current or future laws and regulations or to affect any product recalls. These matters may have a material adverse effect on our business.

IF Z TRIM’S PRODUCTS DO NOT SATISFY CERTAIN GOVERNMENTAL REGULATIONS, Z TRIM MAY BE UNABLE TO OBTAIN REGULATORY APPROVAL OR MAY BE REQUIRED TO OBTAIN MULTIPLE LICENSES TO SELL OUR PRODUCTS.


Z Trim has self-certified that all components of its products are generally recognized as safe or GRAS according to the U.S. Food and Drug Administration regulations.  A GRAS  designation  exempts the
products from the regulations of the U.S. Department of Agriculture,  permitting the sale of the  products  anywhere  in the United  States  without obtaining  a  license.   Should  the    products  lose  their GRAS designation,  Z Trim will be required to sell the  products as feed additives  by  obtaining a license to sell from each  individual  state in which sales  would  occur.  There  is no  assurance  that Z Trim  would  be  able to successfully  obtain or  maintain  licenses  in all  states  in which  sales are expected to be made or that the cost of obtaining and maintaining these licenses would not limit its ability to sell its products.

WE ARE SUBJECT TO PERIODIC LITIGATION AND OTHER REGULATORY PROCEEDINGS, WHICH COULD RESULT IN UNEXPECTED EXPENSE OF TIME AND RESOURCES.

We are a defendant from time to time in lawsuits and regulatory actions relating to our business, including litigation brought by former employees. Due to the inherent uncertainties of litigation and regulatory proceedings, we cannot accurately predict the ultimate outcome of any such proceedings. An unfavorable outcome could have an adverse impact on our business, financial condition and results of operations. In addition, any significant litigation in the future, regardless of its merits, could divert management’s attention from our operations and result in substantial legal fees.

WE HAVE IDENTIFIED MATERIAL WEAKNESSES IN OUR INTERNAL CONTROL OVER FINANCIAL REPORTING, WHICH COULD IMPACT NEGATIVELY OUR ABILITY TO REPORT OUR RESULTS OF OPERATIONS AND FINANCIAL CONDITION ACCURATELY AND IN A TIMELY MANNER.

Effective internal controls over financial reporting are necessary for us to provide reliable financial reports.  If we cannot provide reliable reports our reputation and operating results may be harmed.  As required by Section 404 of the Sarbanes-Oxley Act of 2002, management has conducted an evaluation of the effectiveness of our internal control over financial reporting at December 31, 2010. A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the company’s annual or interim financial statements will not be prevented or detected on a timely basis We identified two material weaknesses in our internal control over financial reporting and concluded that, as of December 31, 2009, we did not maintain effective control over financial reporting based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. For a detailed description of these material weaknesses, see Item 9A, “Controls and Procedures,” in our Annual Report on Form 10-K for the fiscal year ended December 31, 2010 delivered herewith.  Each of our material weaknesses results in more than a remote likelihood that a material misstatement of the annual or interim financial statements that we prepare will not be prevented or detected. As a result, we must perform additional work to obtain reasonable assurance regarding the reliability of our financial statements.  

In connection with the period ended,we carried out an evaluation, under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, of the effectiveness of our disclosure controls and procedures (as defined) in Exchange Act Rules 13a – 15(c) and 15d – 15(e)).  Based upon that evaluation, our principal executive officer and principal financial officer concluded that, as of the end of the period covered in this report, our disclosure controls and procedures were not effective to ensure that information required to be disclosed in reports filed under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the required time periods and is accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure.
 
  We have identified the following material weaknesses:

 
1.  
As of December 30, 2010, we did not maintain effective controls over the control environment.  Specifically, we have not developed and effectively communicated to our employees our accounting policies and procedures.  This has resulted in inconsistent practices.   Since these entity level programs have a pervasive effect across the organization, management has determined that these circumstances constitute a material weakness.

2.  
As of December 30, 2010, we did not maintain effective controls over financial statement disclosure. Specifically, controls were not designed and in place to ensure that all disclosures required were originally addressed in our financial statements.   Accordingly, management has determined that this control deficiency constitutes a material weakness.
 

3.  
      As of December 31, 2010, we did not maintain effective controls over financial reporting. Specifically controls were not designed and in place to ensure that the financial impact of certain complex equity and derivative liability transactions were appropriately and correctly reported. The transactions were identified by the auditors and calculated and reported correctly as of December 31, 2010.

These control deficiencies could result in a misstatement in the aforementioned Financial Statements.

If we are unsuccessful in implementing or following our remediation plan, or fail to update our internal control over financial reporting as our business evolves or to integrate acquired businesses into our controls system, we may not be able to timely or accurately report our financial condition, results of operations or cash flows or to maintain effective disclosure controls and procedures. If we are unable to report financial information in a timely and accurate manner or to maintain effective disclosure controls and procedures, we could be subject to, among other things, regulatory or enforcement actions by the SEC, securities litigation and a general loss of investor confidence, any one of which could adversely affect our business prospects and the market value of our common stock.
 
12
 
 

 

MARKET RISKS

OUR STOCK IS NO LONGER LISTED ON THE AMERICAN STOCK EXCHANGE AND NOW TRADES IN THE OTC Markets.

Since our common stock is currently traded on the OTC Markets, investors may find it difficult to obtain accurate quotations of our common stock and may experience a lack of buyers to purchase such stock or a lack of market makers to support the stock price. Being a penny stock also could limit the liquidity of our common stock and limit the coverage of our stock by analysts.  The OTC Markets generally provides less liquidity than Amex.  Stocks trading on both the OTC Markets may be very thinly traded and highly volatile.  Therefore, holders of the Company’s common stock may be unable to sell their shares at any price, whether or not such shares have been registered for resale.  A public trading market having the desired characteristics of depth, liquidity and orderliness depends on the presence in the marketplace of willing buyers and sellers of our common shares at any given time. This presence depends on the individual decisions of investors and general economic and market conditions over which we have no control. Given the lower trading volume of our common shares, significant sales of our common shares, or the expectation of these sales, could cause our share price to fall. Also, as a result of the Company’s withdrawal from Amex, the Company will not be required to seek, and will, generally, not seek, shareholder approval in connection with its equity offerings.

THE FLUCTUATION IN OUR STOCK PRICE MAY RESULT IN A DECLINE IN THE VALUE OF YOUR INVESTMENT.

The price of our common stock may fluctuate widely, depending upon many factors, including the differences between our actual financial and operating results and those expected by investors and analysts, changes in analysts' recommendations or projections, short selling of our stock in the market, changes in general economic or market conditions and broad market fluctuations. Companies that experience volatility in the market price of their securities often are subject to securities class action litigation. This type of litigation, if instituted against us, could result in substantial costs and divert management's attention and resources away from our business.

SHARES ELIGIBLE FOR FUTURE SALE MAY ADVERSELY AFFECT THE MARKET.

From time to time, certain of our shareholders may be eligible to sell all or some of their shares of Common Stock by means of ordinary brokerage transactions in the open market pursuant to Rule 144, promulgated under the Securities Act, subject to certain limitations. In general, pursuant to Rule 144, a stockholder, who is not an affiliate of the company and who has satisfied a six-month holding period may, under if there is current information publicly available concerning the company,. Rule 144 also permits the sale of securities, without any limitation, by our shareholders that are non-affiliates that have satisfied a one-year holding period. Any substantial sale of our Common Stock pursuant to Rule 144 or pursuant to any resale prospectus may have a material adverse effect on the market price of the Common Stock.
 
 
WE MAY NEED ADDITIONAL FUNDING. THE ISSUANCE OF ADDITIONAL SECURITIES IN CONNECTION WITH SUCH FUNDING AND THE ISSUANCE OF THE COMMON STOCK UPON EXERCISE OR CONVERSION AND IN PAYMENT OF DIVIDENDS AND INTEREST ON THE PREFERRED AND ON OUTSTANDING CONVERTIBLE SECURITIES COULD RESULT IN PRICE REDUCTIONS IN OUTSTANDING SECURITIES AND SUBSTANTIAL DILUTION.

We will need additional equity funding to provide the capital to achieve our objectives. Additional sales of substantial amounts of the Common Stock and securities convertible into our Common Stock could reduce the market price for the Common Stock. Such equity issuance would cause a substantially larger number of shares to be outstanding, thereby diluting the ownership interest of our existing shareholders. In addition, public sales of substantial amounts of the Common Stock after this offering could reduce the market price for the Common Stock. If we raise capital in the future by issuing additional equity securities, investors may experience a decline in the value of their securities.

We are authorized to issue up to 200,000,000 shares of our Common Stock, of which 8,393,971 were outstanding at the close of business on March 17, 2011, and 10,000,000 shares of preferred stock, of which 968,858 were outstanding at the close of business on March 17, 2010. Our Articles of Incorporation (as amended to date) gives our Board of Directors authority to issue the undesignated shares of preferred stock with such designations, rights, preferences and limitations as the Board may determine. The Board has designated 5 Million shares of a Series A Convertible Preferred Stock but has no current intention of issues any of the Series A Preferred Stock.  The aggregate number of shares issuable pursuant to outstanding warrants, including those issued in connection with the Notes and Series I Preferred Stock is 18,779,750 and pursuant to outstanding options is approximately 3,484,833 shares.  At March 17, 2011, we also had approximately 16,271,834 shares of our Common Stock reserved for future stock options under our 2004 Equity Incentive Plan.  The issuance of shares of our Common Stock upon conversion of the Series I Preferred Stock, the 2008 Notes or the 2009 Notes, exercise of the Warrants and exercise of outstanding options and warrants, or in other transactions would cause dilution of existing shareholders’ percentage ownership of the Company. Holders of our Common Stock do not have preemptive rights, meaning that current shareholders do not have the right to purchase any new shares in order to maintain their proportionate ownership in the Company. Such stock issuances and the resulting dilution could also adversely affect the price of our Common Stock. We also entered into registration rights agreements in connection with the Notes pursuant to which we have agreed to file with the Securities and Exchange Commission a registration statement covering the resale of the Common Stock underlying the Notes, Series I Preferred Stock and the Warrants.

BRIGHTLINE VENTURES I LLC BENEFICIALLY OWNS MORE THAN 69.08% OF OUR COMMON STOCK. UPON REGISTRATION UNDER THE SECURITIES ACT OF 1933, THESE SHARES WILL BE GENERALLY AVAILABLE FOR RESALE IN THE PUBLIC MARKET.

Brightline Ventures I, LLC (“Brightline”) purchased 381.25 Units consisting of 2009 Notes in the aggregate principal amount of $3,812,500. The 2009 Notes are initially convertible, at a $1.00 per share, into 3,812,500 shares of our Common Stock. Brightline also acquired Warrants exercisable over a five year period for 5,718,750 shares of our Common Stock at $1.50 per share. In connection therewith the Company agreed to use it best efforts to nominate a designee of Brightline to our Board. At the December 2009 Annual Meeting of our shareholders Edward Smith III was elected to our Board.  In connection with the purchase of the Units the Company granted Brightline registration rights with respect to the shares of Common Stock issuable upon conversion of the Notes and exercise of the Warrants. Between June 2010 and December  2010, Brightline purchased 439.529 Units of our Series I Preferred stock consisting of 879,058 shares of the Series I Preferred Stock convertible into 4,395,291 shares of our common stock a an initial conversion price of  $1.00 per share  and warrants to purchase 6,592,937 shares of our Common stock at $1.50 per share.  On March 17, 2011, the Company sold Brightline 665,339 shares of convertible Preferred Series II Stock with an issue price of $5.00 per share, and 4,990,046 warrants with an exercise price of $1.50 per share.  The Preferred Stock converts at a price of $1.00 per share into 3,326,697 shares of the Company’s Common Stock, exclusive of an 8% dividend, which is also convertible into Common Stock

THE NUMBER OF SHARES OF OUR COMMON STOCK OUTSTANDING AND ISSUABLE UPON THE CONVERSION OR EXERCISE OF THE 2008 THROUGH 2010 NOTES, PREFERRED STOCK AND WARRANTS HAS INCREASED SUBSTANTIALLY AS A RESULT OF PRIVATE PLACEMENTS AND CERTAIN PURCHASERS BENEFICIALLY OWN SIGNIFICANT BLOCKS OF OUR COMMON STOCK. UPON REGISTRATION UNDER THE SECURITIES ACT OF 1933, AS AMENDED, THESE SHARES WILL BE GENERALLY AVAILABLE FOR RESALE IN THE PUBLIC MARKET.

The aggregate number of shares issuable pursuant to convertible notes issued in 2008 through 2010 is 6,013,000.  At maturity, assuming the holders elected to receive shares instead of cash, interest on the 2008 through 2010 Notes would be convertible into an additional 961,282 shares at full maturity.  The aggregate number of shares issuable pursuant to outstanding warrants, including those issued in 2008 through 2010, is 18,779,754.  We also entered into registration rights agreements in connection with the 2008 through 2010 private placements pursuant to which we have agreed to file with the Securities and Exchange Commission (the “SEC”) a registration statement covering the resale of the Common Stock underlying the Notes and the Warrants.

13
 
 

 
OUR STOCK PRICE MAY DROP UNEXPECTEDLY DUE TO SHORT SELLING OF OUR COMMON STOCK IN THE MARKET.

Regulation SHO began on January 3, 2005 and was adopted to update short sale regulation in light of numerous market developments since short sale regulation was first adopted in 1938. We have experienced and may continue to experience unexpected declines in our stock price due to manipulation of the market by individuals who profit by short selling our common stock. Short selling occurs when an individual borrows shares from an investor through a broker and then sells those borrowed shares at the current market price. The "short seller" profits when the stock price falls because he or she can repurchase the stock at a lower price and pay back the person from whom he or she borrowed, thereby making a profit. We cannot assure you that short sellers will not continue to drive the stock price down in the future, causing decline in the value of your investment.

THE TRADING PRICE OF THE COMMON STOCK IS VOLATILE, WHICH COULD CAUSE THE VALUE OF AN INVESTMENT OUR SECURITIES TO DECLINE.

The market price of shares of our Common Stock has been volatile.    The market price of our common stock has in the past been highly volatile. In fiscal 2009, our common stock traded in the range of $2.20 to $0.25 per share; in fiscal 2010, our common stock traded in the range of $1.95 to $0.31 per share. In the first quarter of 2011 our stock traded in the rage of $1.65 to $0.85. This volatility is likely to continue for the foreseeable future. Factors affecting potential volatility include:

·  
developments and resolution of current litigation that we are a party to;
·  
our cash resources and our ability to obtain additional funding;
·  
announcements of private or public sales of securities
·  
announcements by us or a competitor of business development or exhibition projects;
·  
our entering into or terminating strategic business relationships;
·  
changes in government regulations;
·  
changes in our revenue or expense levels;
·  
fluctuations in operating results and general economic and other external market factors
·  
negative reports on us by security analysts;
·  
announcements of new products or technologies by us or our competitors.

The occurrence of any of these events may cause the price of the Common Stock to fall. In addition, the stock market in general has experienced volatility that often has been unrelated to the operating performance or financial condition of individual companies. Any broad market or industry fluctuations may adversely affect the trading price of our Common Stock, regardless of operating performance or prospects.

THE IMPLEMENTATION OF CURRENT ACCOUNTING STANDARDS RELATED TO STOCK BASED COMPENSATION HAS REDUCED AND MAY CONTINUE TO REDUCE OUR REPORTED EARNINGS, WHICH COULD RESULT IN A DECLINE IN OUR STOCK PRICE.

As part of our compensation to employees, directors and consultants, we issue equity awards, primarily in the form of stock options and shares of common stock. Many of the companies within our industry and with whom we compete for skilled employees use stock-based compensation as a means to attract personnel, although not all do and many do not issue the same level of awards. As a result, the impact of the January 1, 2006 implementation of current accounting standards relating to stock based compensation may be more significant for us as compared to other companies. In addition, if we unexpectedly hire additional employees or acquire another company, the impact of the implementation of current accounting standards relating to stock based compensation may be more significant for us than previously forecasted. To the extent investors believe the costs incurred for current accounting standards relating to stock based compensation by the Company are higher than those incurred by other companies, our stock price could be negatively impacted.

WE DO NOT PLAN TO PAY DIVIDENDS TO HOLDERS OF COMMON STOCK.

We do not anticipate paying cash dividends to the holders of the Common Stock at any time. Moreover, our outstanding 2008 Notes, 2009 Notes and Series I Preferred Stock prohibit the payment of dividends on any capital stock without the consent of the holders of the notes and the Series I Preferred Stock.  Accordingly, investors must rely upon subsequent sales after price appreciation as the sole method to realize a gain on investment. There are no assurances that the price of Common Stock will ever appreciate in value. Investors seeking cash dividends should not buy our securities.

 
OUR COMMON STOCK IS SUBJECT TO THE PENNY STOCK RULES.
 
 
The term “penny stock” generally refers to low-priced, speculative securities of very small companies.  Before a broker-dealer can sell a penny stock, SEC rules require the broker-dealer to first approve the customer for the transaction and receive from the customer a written agreement to the transaction.  The broker-dealer must furnish the customer a document describing the risks of investing in penny stocks.  The broker-dealer must tell the customer the current market quotation, if any, for the penny stock and the compensation the broker-dealer and its broker will receive for the trade.  Finally, the broker-dealer must send monthly account statements showing the market value of each penny stock held in the customer’s account.  These requirements make penny stocks more difficult to trade.  Because the Common Stock is subject to the penny stock rules, the market liquidity of the Common Stock may be adversely affected.
 
 
14
 
 

 

ITEM 8.  FINANCIAL STATEMENTS

     See consolidated financial statements starting on page F-1 and the related footnotes thereto.

 
ITEM 9.  CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

     On December 2, 2010, our Shareholders approved the re-appointment of M&K CPAs, LLC as our public accountant.  There are no disagreements with our accountant on accounting and financial disclosure.

ITEM 9A. CONTROLS AND PROCEDURES

 Evaluation of Disclosure Controls and Procedures.
 
We carried out an evaluation, under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, of the effectiveness of our disclosure controls and procedures (as defined) in Exchange Act Rules 13a – 15(c) and 15d – 15(e)).  Based upon that evaluation, our chief executive officer and chief financial officer concluded that, as of the end of the period ended December 31, 2010, our disclosure controls and procedures were not effective (1) to ensure that information required to be disclosed by us in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms and (2) to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is accumulated and communicated to us, including our chief executive and chief financial officers, as appropriate to allow timely decisions regarding required disclosure.
 
Our Principal Executive Officer and Principle Financial Officer do not expect that our disclosure controls or internal controls will prevent all error and all fraud. Although our disclosure controls and procedures were designed to provide reasonable assurance of achieving their objectives, a control system, no matter how well conceived and operated, can provide only reasonable, not absolute assurance that the objectives of the system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented if there exists in an individual a desire to do so. There can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions.

Furthermore, smaller reporting companies face additional limitations. Smaller reporting companies employ fewer individuals and find it difficult to properly segregate duties. Often, one or two individuals control every aspect of the Company's operation and are in a position to override any system of internal control. Additionally, smaller reporting companies tend to utilize general accounting software packages that lack a rigorous set of software controls.
 
Management’s Annual Report on Internal Control over Financial Reporting.
 
Our management is responsible for establishing and maintaining adequate internal control over financial reporting.  Internal control over financial reporting is defined in Rules 13a-15(f) and 15d-15(f) promulgated under the Exchange Act, as amended, as a process designed by, or under the supervision of, our Chief Executive Officer and Chief Financial Officer, and effected by our board of directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles in the United States and includes those policies and procedures that:
 
 
Pertain to the maintenance of records that in reasonable detail accurately and fairly reflect our transactions and any disposition of our assets;
 
Provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors; and
 
Provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could have a material effect on the financial statements.

A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the company’s annual or interim financial statements will not be prevented or detected on a timely basis. Our management assessed the effectiveness of our internal control over financial reporting as of December 31, 2010. In making this assessment, our management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control-Integrated Framework.  Based on this assessment, Management has identified the following four material weaknesses that have caused management to conclude that, as of December 31, 2010, our disclosure controls and procedures, and our internal control over financial reporting, were not effective at the reasonable assurance level:
 
1.  
As of December 31, 2010, we did not maintain effective controls over the control environment.  Specifically we have not developed and effectively communicated to our employees our accounting policies and procedures.  This has resulted in inconsistent practices.   Since these entity level programs have a pervasive effect across the organization, management has determined that these circumstances constitute a material weakness.

2.  
As of December 31, 2010, we did not maintain effective controls over financial statement disclosure. Specifically, controls were not designed and in place to ensure that all disclosures required were originally addressed in our financial statements.   Accordingly, management has determined that this control deficiency constitutes a material weakness.
 
3.  
As of December 31, 2010, we did not maintain effective controls over financial reporting. Specifically controls were not designed and in place to ensure that the financial impact of certain complex equity and derivative liability transactions were appropriately and correctly reported. The transactions were identified by the auditors and calculated and reported correctly as of December 31, 2010.
 
Changes in Internal Control Over Financial Reporting

There have been no changes in the Company’s internal control over financial reporting through the date of this report or during the period ended December 31, 2010, that materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

Independent Registered Accountant’s Internal Control Attestation

This annual report does not include an attestation report of the Company’s registered public accounting firm regarding internal control over financial reporting.  Management’s report was not subject to attestation by the Company’s registered public accounting firm pursuant to temporary rules of the Securities and Exchange Commission that permit the Company to provide only management’s report in this annual report.

Corrective Action

Management plans to provide future investments in the continuing education of our accounting and financial professionals.

ITEM 9B. OTHER INFORMATION

None.

 
15
 
 

 
                                    PART III

ITEM 10. DIRECTORS, EXECUTIVE OFFICERS, AND CORPORATE GOVERNANCE
 
In determining whether to nominate each of the current directors for another term (or new directors for a first term), the Board’s Nominating Committee, composed of two independent directors, considered a candidate’s knowledge of the Company’s business and industry, prior education, demonstrated ability to exercise sound business judgment, reputation for integrity and high moral and ethical character, potential to contribute to the diversity of viewpoints, backgrounds, or experiences of the Board as a whole and diligence and dedication to the success of the Company.  The Nominating Committee concluded that each of the current directors standing for re-election possesses unique talents, backgrounds, perspectives, attributes and skills that will enable each of them to continue to provide valuable insights to Company management and play an important role in helping the Company achieve its long-term goals and objectives. As described below in the experience and qualifications of each of our directors, each director has achieved an extremely high level of success in his career.
 
AGE
NAME
POSITION
     
54
Steve J. Cohen
Director and President
     
40
Brian Chaiken
Chief  Financial Officer
     
60
Mark Hershhorn
Director
     
52
Brian Israel
Director
     
35
Edward Smith III
Director
     
61
Morris Garfinkle
Director
     
     

STEVE J. COHEN, the Company's President has been employed by Z Trim since 2002 when he was hired as its director of investor relations.  He was promoted to Vice President of Corporate Development in 2003 and to President in March of 2006 when he also began serving on the Board of Directors.  In August of 2007 Mr. Cohen assumed the role of chief executive officer.  Prior to joining Z Trim, Mr. Cohen had 25 years' experience at the Chicago Mercantile Exchange where he worked in various brokerage house positions as well as a trader. Mr. Cohen attended college at the University of Illinois and Oakton Community College.  Mr. Cohen was a member of the U.S. Olympic team at the 1988 Olympics in Seoul and was a coach for the U.S. Olympic Team at the 2000 Olympics in Sydney Australia.
 
BRIAN CHAIKEN, J.D., was hired by the Company to serve as General Counsel and Vice President of Business Development in July of  2006.  In January of 2008, Mr. Chaiken was appointed to be the Company’s Chief Financial Officer.  In January of 2009, Mr. Chaiken was appointed the role of Chief Legal Officer as well.  He received his Bachelor of Science in Accountancy from the University of Illinois, Champaign-Urbana and passed the CPA examination on his first sitting.  Mr. Chaiken obtained his Juris Doctor from DePaul University, and is a member of the Illinois and Florida Bars, as well as those of the Northern District Court of Illinois, United States Court of Appeals of the 11th Circuit and the Southern District Court of Florida.  Prior to joining Z Trim, Mr. Chaiken spent five years as the Executive Vice-President of Legal Affairs for Supra Telecommunications and Information Systems, Inc., a Competitive Local Exchange Carrier (telecommunications provider) in South Florida.  There, Mr. Chaiken was a senior executive for a company with more than 300 employees in Florida, Costa Rica and the Dominican Republic.  He was instrumental in helping the company grow annual revenues from $10 million to approximately $150 million over an 18 month period.  He successfully litigated and arbitrated multi-million dollar disputes involving trademark, anti-trust, fraud, bankruptcy and complex commercial transactions.
 
BRIAN S. ISRAEL was appointed on May 23, 2007 to fill a vacancy on the Company’s Board of Directors.  He presently serves as Chairman of the Compensation and Nominating Committees.  Mr. Israel spent more than 20 years in the real estate finance industry, during which he managed teams responsible for production; operations; risk management; product development; and technology. In his most recent position, he served From March 1989 to January 2004 as Vice President and Division Administrator for the Residential Mortgage Division of Harris Trust and Savings Bank.  He is a former Member of the Federal National Mortgage Association's Regional Lender and Affordable Housing Advisory Boards, and in 2000, became the 80th President of the Illinois Mortgage Banker's Association.  Since retiring from the corporate world in January of 2004, he has dedicated much of his time and energy to community service, as a Partner in the Chicago Federal Reserve's Money Smart financial literacy education program; on the Executive Committee of the River North Residents' Association; as a Mentor and Advisory Council Member of Big Brothers Big Sisters of Metropolitan Chicago; on the Advisory Board of Step Out USA; and as a Member of the Ely Chapter of Lambda Alpha International.  He also provides strategic planning, training and project management services to businesses and non-profit entities as an independent consultant and serves as President of North Shore Custom Homes, Ltd.
 
MARK HERSHHORN has a background in the marketing and operations of nutrition systems, food industry marketing and transactional television.  Mark was appointed to the Company’s Board of Directors at the shareholder meeting, held on December 19, 2007.  From August 1998 to present, Mark has served as President and co-owner of CKS & Associates Management LLC; President and CEO of CKS & Associates; CEO of Midwest Real Estate Investment LLC; General Partner of New Horizons West LLP, and CEO of New Horizons Real Estate Holdings LLC.  During much of the 1990’s, Mark served as President, CEO and director of National Media Corporation (NYSE-NMC) and as Chairman of the company’s international subsidiary, Quantum International Ltd.  Prior to that, Mark served as Senior Vice President of food operations and joint ventures for Nutri/System, Inc.  During the 1980’s, Mark was Chief Financial Officer, Treasurer, Vice President and director of the Franklin Mint.  Mark has also held positions with companies such as Price-Waterhouse, Pfizer Diagnostics, and Wallace and Wampole Laboratories.  Mark received his BS Degree in Economics from Rutgers University and an MBA from the Wharton School of Finance, University of Pennsylvania.
 
MORRIS GARFINKLE, was appointed on March 25, 2009 to fill a vacancy on the Company’s Board of Directors.  He presently serves as Chairman of the Audit Committee.  He is the Founder, President and CEO of GCW Consulting, a consulting firm based out of Arlington, Virginia.  He received his Juris Doctor from Georgetown University and his B.S. in Economics (cum Laude) from the Wharton School of Finance & Commerce, University of Pennsylvania.  He was appointed to the Board in March of 2009, and reelected by the shareholders at the December 22, 2009 shareholders’ meeting.  Mr. Garfinkle has over 35 years of experience in restructuring, mergers and acquisitions, investment assessment, competitive positioning, strategic planning and capital raising.  His clients have included United Airlines Creditors' Committee, Pension Benefit Guaranty Corporation, Air China and Dallas-Fort Worth International Airport, among many others.  He also served on the Board of Directors of HMSHost from 2000 - 2006.
 
EDWARD SMITH III is Managing Partner of Brightline Capital Management, LLC (“BCM”), a New York-based investment firm founded in 2005. BCM is the investment manager of Brightline Ventures I, LLC and Brightline Capital Partners, LP. Prior to founding BCM, Mr. Smith worked at Gracie Capital, GTCR Golder Rauner and Credit Suisse First Boston.  Mr. Smith holds a Bachelor of Arts in Social Studies from Harvard College and a Masters in Business Administration from Harvard Business School. Mr. Smith was elected to the Board at the shareholders’ meeting held on December 22, 2009.     
 
The term of office of each director expires at each annual meeting of stockholders and upon the election and qualification of his successor. Other than with Edward Smith III, there are/were no arrangements with any director or officer regarding their election or appointment.  There are no family relationships between any of our directors or executive officers.
 
16
 
 

 

AUDIT COMMITTEE

The Board of Directors has an Audit Committee composed of one director, Morris Garfinkle, who is considered an “independent director" under the rules of the American Stock Exchange and the Securities and Exchange Commission.  The Board of Directors has determined that Morris Garfinkle qualifies as an "audit committee financial expert" under SEC rules.  The function of the Audit Committee is to assist the Board of Directors in preserving the integrity of the financial information published by the Company through the review of financial and accounting controls and policies, financial reporting systems, alternative accounting principles that could be applied and the quality and effectiveness of the independent public accountants.  The Company’s Audit Committee Policy is published on our website at http://www.ztrim.com/pages/audit_committee_policy/39.php.
 
SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE

Pursuant to Section 16(a) of the Exchange Act and the rules promulgated there under, officers and directors of the company and persons who beneficially own more than 10% of our common shares are required to file with the SEC and furnish to the Company reports of ownership and change in ownership with respect to all equity securities of the company. Based solely on our review of the copies of such reports received by us during or with respect to the fiscal year ended December 31, 2010 and all prior years, and written representations from such reporting persons, we believe that those persons who were our officers, directors and 10% shareholders during any portion of the fiscal year ended December 31, 2010, complied with all Section 16(a) filing requirements applicable to such individuals, except that Morris Garfinkle was late in filing a Form 4, which was filed on July 14, 2010.


ITEM 11. EXECUTIVE COMPENSATION.
 
Corporate Governance and Related Disclosures

Code of Ethics and Business Conduct
 
 The members of our Board of Directors also are required to comply with a Code of Ethics and Business Conduct (the “Code”). The Code is intended to focus the Board and the individual Directors on areas of ethical risk, help Directors recognize and deal with ethical issues, provide mechanisms to report unethical conduct, and foster a culture of honesty and accountability. The Code covers all areas of professional conduct relating to service on the Z Trim Board, including conflicts of interest, unfair or unethical use of corporate opportunities, strict protection of confidential information, compliance with all applicable laws and regulations and oversight of ethics and compliance by employees of the Company.
 
 The full text of both Z Trim’s Code of Ethics and Business Conduct is published on our website at http://www.ztrim.com/pages/code_of_ethics___business_conduct/40.php.  We will disclose any future amendments to, or waivers from, provisions of these ethical policies and standards for Officers and Directors on our website within two business days following the date of such amendment or waiver.
 
 Committees of the Board of Directors
 
 Our business, property and affairs are managed under the direction of our Board of Directors. Members of our Board are kept informed of our business through discussions with our Chief Executive Officer and other officers, by reviewing materials provided to them, by visiting our offices and plants and by participating in meetings of the Board and its Committees.
 
 All Board members are expected to attend our Annual Meeting of Shareholders, unless an emergency prevents them from doing so. At our 2009 and 2010 Annual Meetings, all of our directors standing for election attended.
 
Our Board of Directors currently has three Committees. Those Committees consisted of an Audit Committee, a Compensation Committee and a Nominating Committee.
 
Compensation Committee

 The Compensation Committee, composed entirely of independent directors, administers the Company’s executive compensation program. The role of the Committee is to oversee Z Trim’s compensation and benefit plans and policies, administer its stock plans (including reviewing and approving equity grants to elected officers) and review and approve annually all compensation decisions for elected officers including those for the Chairman and CEO and the other executive officers named in the Summary Compensation Table (the “Named Executive Officers”). The Committee submits its compensation decisions for the CEO to the Board for ratification. Z Trim’s Compensation Committee Charter is available online at http://www.ztrim.com/pages/compensation_committee_charter/41.php.  
 
 Brian Israel was appointed to serve as chairman of the Compensation Committee in April of 2007. On December 19, 2007, Michael Donahue was appointed to serve as a member of the Compensation Committee. On September 19, 2008, Mark Hershhorn was appointed to replace Michael Donahue as a member of the Compensation Committee. Brian Israel and Mark Hershhorn each qualifies as an “independent director” under the rules of the American Stock Exchange.    
 
 
The Compensation Committee, pursuant to its Charter, is responsible for the following:
 
1.  
Review and approve corporate goals and objectives relevant to the compensation of the Company’s  Chief Executive Officer (“CEO”), evaluate the CEO’s performance in light to those goals and objectives, and either as a committee or together with the other independent directors (as directed by the Board), determine, or recommend to the Board for determination, the CEO’s compensation level based on this evaluation. In determining or recommending the long-term incentive component of CEO compensation, the Committee shall consider, among other factors, the Company’s performance and relative shareholder return, the value of similar incentive awards to CEO’s at comparable companies, the awards given to the CEO in past years, and such other factors as the Committee shall so determine.
 
 
2.  
Either as a committee or together with the other independent directors (as directed by the Board), determine, or recommend to the Board for determination, the compensation of all other officers of the Company.
 
 
3.  
Make recommendations to the Board with respect to the Company’s incentive compensation plans and equity-based plans, oversee the activities of the individuals and committees responsible for administering these plans, and discharge any responsibilities imposed on the Committee by any of these plans.
 
 
4.  
In consultation with management, oversee regulatory compliance with respect to compensation matters, including overseeing the Company’s policies on structuring compensation programs to preserve tax deductibility, and, as and when required, establishing performance goals and certifying that performance goals have been attained for purposes of Section 162 (m) of the Internal Revenue Code.
 
 
5.  
To review and approve any severance or similar termination payments proposed to be made to any current or former officer of the Company.
 
 
6.  
Prepare an annual Report of the Compensation Committee on Executive Compensation for inclusion in the Company’s annual proxy statement in accordance with applicable SEC rules and regulations.
 
 
7.  
Periodically review and assess the adequacy of this charter and recommend any proposed changes to the Board for approval, including changes concerning the structure and operations of the Committee.
 
 
8.  
Perform any other duties or responsibilities expressly delegated to the Committee by the Board from time to time relating to the Company’s compensation programs.
 
17
 
 
 

 
Compensation Committee Report
 
The Z Trim Compensation Committee of the Board of Directors has reviewed and discussed with Z Trim management the Compensation Discussion and Analysis and, based on that discussion, recommended it to the Z Trim’s Board of Directors for inclusion in this Form 10-K.
 
The Committee, with the assistance of Z Trim’s Human Resource functions, completed an assessment of the risks associated with Z Trim’s compensation policies and practices.
 
At the end of the risk assessment process, the Committee concluded that (1) the Senior Executive Officer (SEO) compensation programs do not encourage excessive and unnecessary risk taking; (2) other employee compensation plans do not encourage unnecessary or excessive risk taking, threaten the value of the Company, or reward short-term results to the detriment of long-term value creation; and (3) Z Trim’s compensation programs do not encourage the manipulation of reported earnings.
 
THE COMPENSATION COMMITTEE
 
 
Brian Israel (Committee Chairman)
Mark Hershhorn
 
 
Compensation Committee Interlocks and Insider Participation
 
The Compensation Committee is composed entirely of persons who are neither Associates nor former or current officers of the Company. There is not, nor was there during fiscal 2009, any compensation committee interlock or insider participation on the Compensation Committee.
 
Compensation Discussion & Analysis
 
Z Trim’s compensation philosophy has been, and continues to be, that compensation should drive long-term value creation for our shareowners. Total compensation for each employee should be based on individual and Company performance, market practice, and the value of the employee’s position at Z Trim. Our compensation programs should not encourage unnecessary or excessive risk taking.
 
Compensation to our named executive officers (NEOs) consists solely of cash compensation and the issuance of stock options pursuant to our 2004 Equity Incentive Plan.  We pay base salary in order to provide a predictable level of compensation that is competitive in the marketplace for the position responsibilities and individual skills, knowledge, and experience of each executive.  We provide our NEOs with stock options that are generally available to all of our employees in order to further our goal of attracting and retaining senior executives of outstanding ability.  The Company does not believe that its employee compensation policies are reasonably likely to have a material adverse effect on the Company.

The following table summarizes the compensation earned in the fiscal years ended December 31, 2010 and 2009 by our chief executive officer and the two most highly paid executive officers whose total  salary and bonus awards  exceeded  $100,000 for the fiscal years ended  December 31, 2010 and 2009. In this document, we refer to these individuals as our "named executive officers."
 
SUMMARY COMPENSATION TABLE
 
NAME AND PRINCIPAL
       
POSITION
YEAR
SALARY
BONUS
OPTION AWARDS(1)
TOTAL ($)
             
Steve J. Cohen
2010
$138,541
 
$336,000
$474,541
Director and President
2009
$141,181
   --
$346,500
$487,681
             
             
Triveni Shukla
2010
$102,350
 
$116,000
$218,350
Former Director and VP
2009
$141,153
   --
$318,150
$459,303
             
             
Brian Chaiken
2010
$118,340
 
$304,500
$422,840
Chief Financial Officer
2009
$114,751
   --
$318,150
$432,901

(1) The amounts in this column reflect the dollar amount recognized as expense with respect to stock options for financial statement reporting purposes during the twelve months ended December 31, 2009 and 2010 in accordance with applicable accounting standards.
 
OPTION GRANTS

The following table contains information concerning the grant of options to purchase shares of our common stock to each of the named executive officers during the fiscal year ended December 31, 2010. All options are fully vested and exercisable.

18

 
 

 


OPTION GRANTS IN LAST FISCAL YEAR
INDIVIDUAL GRANTS
----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                   PERCENT OF
                             NUMBER OF                           TOTAL
                         SECURITIES                            OPTIONS
                             UNDERLYING                         GRANTED                             TO EXERCISE OR
                            OPTIONS                                  EMPLOYEES                          BASE PRICE                                        EXPIRATION
NAME                GRANTED                                IN 2010                                    ($/SHARE)                                           DATE
------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Steve J. Cohen                                210,000                                        13.2%                                $1.60                                       1/19/15
Triveni P. Shukla                              80,000                                          5.0%                                $1.45                                       1/19/15
Brian Chaiken                                  210,000                                        13.2%                               $1.45                                       1/19/15


 
OUTSTANDING EQUITY AWARDS AT DECEMBER 31, 2010

     The following table contains information regarding outstanding equity awards held at December 31, 2010, by the named executive officers.
Name
 
Number of securities underlying unexercised options (#) exercisable
Option Exercise Price
Option expiration date
Steve Cohen
 
 
 315,000
       $1.10
5/10/2015
 
 210,000
$1.60
1/19/2015
         
Triveni Shukla
 315,000
       $1.01
5/10/2015
   
 
 80,000
       $1.45
1/19/2015
       
Brian Chaiken
 315,000
       $1.01
5/10/2015
 
 210,000
       $1.45
1/19/2015


 
2010 Director Compensation
 
Employee directors do not receive any separate compensation for their Board activities. Non-employee directors receive $1,500 per in-person meeting in which they attend, 30,000 shares of common stock with a maximum 35% tax gross up not to exceed $10,000 per board member.

Non-employee directors are reimbursed for travel expenses incurred in conjunction with their duties as directors. Furthermore, the Company will provide the broadest form of indemnification under Illinois law under which liabilities may arise as a result of their role on the Board and payments for reimbursements for expenses incurred by a director in defending against claims in connection with their role, and the director satisfies the statutory standard of care.
 
The following table provides compensation for non-employee directors who served during fiscal 2010.

 
 
2010 Compensation of Non-Employee Directors
   
Name
Fees Earned
Stock Awards
All Other
Total ($)
 
 ($)
($)(1)
Compensation ($)(2)
 
Morris Garfinkle
$9,720
$58,500
  $3,000  
$71,220
Mark Hershhorn
$6,725
$58,500
  $4,000  
$69,225
Edward Smith
$4,500
$58,500
  $3,000  
$66,000
Brian Israel
$6,725
$58,500
  $4,000  
$69,225

(1)  Each Director received 30,000 shares of common stock on January 26, 2010.
(2) The Directors agreed to convert a portion of their respective fees for attendance at in-person meetings into investments in the Company’s 2009-2010 Convertible Debt Private Placement Offering.
 
 
19
 
 

 
ITEM 12.  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

     The  following  table  sets  forth  information  regarding  the  beneficial ownership  of  our  common  stock  as  of  March 30,  2011,  by  the  following individuals, entities or groups:

·  
each  person or entity  who we know  beneficially  owns more than five percent of our outstanding common stock;

·  
each of the named executive officers;

·  
each director and nominee; and

·  
all directors and executive officers as a group.

     Beneficial ownership is determined in accordance with the rules of the Securities and Exchange Commission and includes voting or investment power with respect to the shares. In computing the number of shares beneficially owned by a person and the  percentage  ownership  of that  person,  shares of common  stock subject  to  options  and  warrants  held  by that  person  that  are  currently exercisable or convertible or will become  exercisable or convertible  within 60 days  after  April 2,  2010 are  deemed  outstanding,  while the shares are not deemed  outstanding for purposes of computing  percentage  ownership of any other person.  Except as otherwise indicated, and subject to applicable community property laws, the persons named in the table have sole voting and investment power with respect to all shares of common stock held by them.

     Applicable percentage  ownership  in  the  following  table  is  based  on 12,908,196 shares of common  stock  outstanding  as of April 12,  2011.  Except as provided below, the address for each stockholder listed in the table is c/o Z Trim Holdings, Inc., 1011 Campus Drive, Mundelein, Illinois 60060.
 
   
NUMBER OF
 
PERCENTAGE OF
NAME OF
SHARES
 
SHARES
BENEFICIAL OWNER
BENEFICIALLY OWNED
BENEFECIALLY OWNED
         
BENEFICIAL OWNERS
     
         
Brightline Ventures I, LLC (1)
1120 Avenue of the Americas, Suite 1505
New York, NY 10036
 
28,836,221
 
69.08%
         
CURRENT DIRECTORS AND EXECUTIVE OFFICERS
All such addresses are:
1011 Campus Dr., Mundelein, IL 60060
     
         
Steve J. Cohen (2)
770,700
 
5.63%
Mark Hershhorn (3)
452,834
 
3.39%
Brian Israel (4)
215,297
 
1.64%
Mo Garfinkle (5)
595,171
 
4.41%
Brian Chaiken (6)
770,700
 
5.63%
Ed Smith (1)(7)
142,500
 
1.09%
         
Total of All Current Directors and Executive Officers
   
   
2,682,443
 
18.59%
         
         
(1) Brightline Capital Management, LLC, a Delaware limited liability company ("Brightline Capital"), Nick Khera,  and Brightline Ventures I, LLC, a Delaware limited liability company ("Brightline Ventures"), each are deemed to beneficially own 69.08% of the Company’s Common Stock, par value $0.00005 per share (the "Shares"), and (ii) Edward B. Smith, III, beneficially owns 1.09% of the Shares.  Messrs. Khera and Smith are the managing members of Brightline Capital, an investment management firm that serves as the investment manager of Brightline Ventures. Brightline Venture holds promissory notes convertible, Series I Preferred Stock, Series II Preferred Stock and warrants convertible and exercisable into 25,921,721 shares of common stock.  Mr. Smith owns an additional 142,500 Shares in a personal account. Messrs. Khera and Smith, through their roles at Brightline Capital, exercise investment discretion over Brightline Ventures.
 
(2) Includes ownership of 770,700 options to purchase shares of common stock
     
(3) Includes ownership of notes, warrants and Series I Convertible Preferred Stock to purchase or convert into 302,968 shares of common stock
 
(4) Includes ownership of warrants and Series I Convertible Preferred Stock to purchase or convert into 80,431 shares of common stock
 
(5)  Includes ownership of  warrants and Series I Convertible Preferred Stock to purchase or convert into 309,992 shares of common stock
 
(6) Includes ownership of notes and warrants convertible into 770,700 shares of common stock
 
(7) Mr. Smith is a Managing Partner of Brightline Ventures I, LLC -- see Note (1) above, and his personal holdings include 3,000 shares of Series I Convertible Preferred Stock, which convert into 15,000 shares of common stock, and warrants to purchase 22,500 shares of common stock at an exercise price of $1.50.
 
 
ITEM  13.  CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE

 
The Company's independent directors are: Mark Hershhorn, Brian Israel, Morris Garfinkle, and Edward Smith, III. In compliance with the American Stock Exchange's rules for director independence, more than 50% of the Company's directors are independent.  Each of these directors has purchased convertible notes pursuant to a private placement offering, and such purchases are reflected in the table set forth in Item 12 above.

20
 
 
 

 
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES

The following is a summary of the fees billed to us by Blackman Kallick, LLP for professional services rendered for the fiscal year ended December 31, 2010 and December 31, 2009, respectively:

              FEE CATEGORY                                                                      2010              2009
         --------------------------                                                                ----------------- -----------------

         --------------------------                                                                ----------------- -----------------
         Audit Fees (1)                                                                                 --                      $13,011
         --------------------------                                                                ----------------- -----------------
         Audit-Related Fees (2)                                                                   --                       --
         --------------------------                                                                ----------------- -----------------
         Tax Fees (3)                                                                                      --                      --
         --------------------------                                                                ----------------- -----------------
         All Other Fees (4)                                                                            --                       --
         --------------------------                                                                ----------------- -----------------
         Total Fees                                                                                        --                    $13,011
         --------------------------                                                                ------------------ -----------------

 The following is a summary of the fees billed to us by M&K, CPAs, PLLC for professional services rendered for the fiscal year ended December 31, 2010 and December 31, 2009, respectively:

              FEE CATEGORY                                                                      2010              2009
         --------------------------                                                                ----------------- -----------------

         --------------------------                                                                ----------------- -----------------
         Audit Fees (1)                                                                            $80,100               $89,484
         --------------------------                                                                ----------------- -----------------
         Audit-Related Fees (2)                                                                          --                   --
         --------------------------                                                                ----------------- -----------------
         Tax Fees (3)                                                                                   $ 4,115                  --
         --------------------------                                                                ----------------- -----------------
         All Other Fees (4)                                                                               --                     --
         --------------------------                                                                ----------------- -----------------
         Total Fees                                                                                    $84,115              $89,484                      
         --------------------------                                                                ------------------ -----------------

(1) Audit Fees consist of fees billed for professional services rendered for the audit of our  financial  statements  and for  reviews of the  interim  financial statements included in our quarterly reports on Form 10-Q.

(2) Audit-Related Fees consist of fees billed for professional services rendered for  audit-related  services,  including  consultation  on SEC  filings  and the issuance  of  consents  and  consultations  on other  financial  accounting  and reporting related matters.

(3) Tax Fees consists of fees billed for professional services relating to tax compliance and other tax advice.

(4) All Other Fees consist of fees billed for all other services.

PRE-APPROVAL POLICY

Our  Audit  Committee  Charter  provides  that the  Audit  Committee  shall pre-approve  all  auditing  services,   internal  control-related  services  and permitted  non-audit services  (including the terms thereof) to be performed for us by  our  independent  auditor,  subject  to  the de  minimis  exceptions  for non-audit services described in Section  10A(i)(1)(B) of the Securities Exchange Act of 1934,  as  amended,  which are  approved  by the  Committee  prior to the completion of the service. The Committee may also form and delegate authority to sub-committees consisting of one or more members when appropriate, including the authority to grant  pre-approvals  of audit and  permitted  non-audit  services, provided that decisions of such  subcommittee  to grant  pre-approvals  shall be presented to the full  Committee at its next  scheduled  meeting.  In accordance with the pre-approval policy, the Audit Committee has approved certain specified audit and non-audit services to be provided by M&K CPAs, PLLC for up to twelve (12) months from the date of the pre-approval. Any additional services to be provided by our independent auditors following such pre-approval require the additional pre-approval of the Audit Committee.

21

 
 

 
PART IV

ITEM 15.  EXHIBITS, FINANCIAL STATEMENT SCHEDULES

A list of the exhibits required to be filed as part of this report are presented in the Exhibit Index.

                                   SIGNATURES

     In accordance with Section 13 or 15(d) of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized as of April 13, 2011.

                                Z TRIM HOLDINGS, INC.

                                By: /s/ Steven J. Cohen
                                --------------------------
                                Steven J. Cohen
                                Director, and
                                Chief Executive Officer

     In accordance with the Exchange Act, this report has been signed below by the following persons on behalf of the registrant and in the capacities as of April 13, 2011.

/s/ Steven J. Cohen
----------------------
Steven J. Cohen
Director and Chief Executive Officer
(principal executive officer)

/S/ Brian Chaiken
--------------------
Brian Chaiken
Chief Financial Officer
(principal financial
or accounting officer)

/S/ Mark Hershhorn
----------------------
Mark Hershhorn
Director

/S/ Brian Israel
---------------------
Brian Israel
Director

/S/ Edward Smith III
----------------------
Edward Smith III
Director

/S/ Morris Garfinkle
----------------------
Morris Garfinkle
Director
 
22
 
 

 
INDEX OF EXHIBITS

EXHIBIT NO.                       DESCRIPTION

3(i)
Restated Articles of Incorporation of Z Trim Holdings, Inc. (filed as Exhibit 3(i) to eh Company's Form 10-K filed on April 9, 2010, and incorporated herein by reference).

3(ii)
Bylaws of Z Trim Holdings, Inc., as amended (filed as Exhibit 2.2 to the Company’s Registration Statement on Form 10-SB, Exhibit 3(ii) to the Company’s Form 8-K filed on November 2, 2007, and as Exhibit 3(ii) to the Company’s Form 8-K filed on November 16, 2007, and incorporated herein by reference).

3(iii)
Amendment to Bylaws of Z Trim Holdings, Inc. (filed as Exhibit 3.2 to the Company’s Form 8-K filed on September 23, 2008, and incorporated herein by reference).

4.1
Specimen Certificate for common stock (filed as Exhibit 3.1 to the Company's Form 10-SB filed on August 21, 2000, and incorporated herein by reference).

4.2
Form of Subscription Agreement (filed as Exhibit 4.1 to the Company's Form 8-K filed on March 30, 2006 and incorporated herein by reference).

4.3
Form of Warrant to Purchase Common Stock (filed as Exhibit 4.2 to the Company's Form 8-K filed on March 30, 2006 and incorporated herein by reference).

4.4
Form of Registration Rights Agreement (filed as Exhibit 4.3 to the Company's Form 8-K filed on March 30, 2006 and incorporated herein by reference).

4.5
Form of Subscription Agreement (filed as Exhibit 4.5 to the Company’s Form 10-KSB filed on April 2, 2007 and incorporated herein by reference).

4.6
Form of Warrant to Purchase Common Stock (filed as Exhibit 4.6 to the Company’s Form 10-KSB filed on April 2, 2007 and incorporated herein by reference).

4.7
Form of Registration Rights Agreement (filed as Exhibit 4.7 to the Company’s Form 10-KSB filed on April 2, 2007 and incorporated herein by reference).

10.1
Steve Cohen Employment Agreement (filed as Exhibit 10.12 to the Company’s Form 10-QSB for the quarter ending June 20, 2006 and incorporated herein by reference).

10.2
Brian Chaiken Employment Agreement, dated October 17, 2007 (filed as Exhibit 10.2 to the Company’s Form 10-KSB filed on April 14, 2008 and incorporated herein by reference).

10.3
Z Trim Holdings, Inc. 2004 Equity Incentive Plan (filed as Appendix C to the Z Trim's Proxy Statement for its Annual Meeting conducted on June 16, 2004 and approved by its Shareholders on that date and incorporated herein by reference).

23.1*
Consent of M&K CPAs, LLC.

31.1*
Statement Under Oath of Principal Executive Officer of the Company pursuant to Section 302 of Sarbanes-Oxley Act of 2002.

31.2*
Statement Under Oath of Principal Financial Officer of the Company pursuant to Section 302 of Sarbanes-Oxley Act of 2002.

32.1*
Statement Under Oath of Principal Executive Officer of the Company pursuant to Section 906 of Sarbanes-Oxley Act of 2002.

32.2*
Statement Under Oath of Principal Financial Officer of the Company pursuant to Section 906 of Sarbanes-Oxley Act of 2002.

----------------------
*Filed herewith




23
 
 

 


     
INDEX TO FINANCIAL STATEMENTS
     
                     
                   
PAGE
                     
Report of Independent Registered Public Accounting Firm
       
F-2
                     
Balance Sheets for the years ended December 31, 2010 and 2009
     
F-3 & 4
                     
Statements of Operations for the years ended December 31, 2010 and 2009                            
 
F-5
                     
Statements of Stockholders' Equity (Deficit) for the years ended December 31, 2010 and 2009
 
F-6
   
                   
Statements of Cash Flows for the years ended December 31, 2010 and 2009                             
F-7
                     
Notes to Financial Statements  
             
F-8

 
  
 







F-1

 
 

 


 
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
 
 
To the Board of Directors and
Stockholders of Z Trim Holdings, Inc.
 
 
We have audited the accompanying consolidated balance sheets of Z Trim Holdings, Inc. as of December 31, 2010 and 2009, and the related consolidated statements of operations, changes in stockholders' equity (deficit) and cash flows for the year then ended. These consolidated financial statements are the responsibility of the company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
 
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the company's internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
 
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Z Trim Holdings, Inc. as of December 31, 2010 and 2009, and the results of its operations and its cash flows for the years then ended in conformity with accounting principles generally accepted in the Unites States of America.
 
 
/s/ M&K CPAs,PLLC
Houston, Texas
April 13, 2011
                                                                                         
 
F-2

 
 

 
 

Z TRIM HOLDINGS, INC.
       
BALANCE SHEETS
       
         
DECEMBER  31, 2010 and 2009
       
         
         
         
ASSETS
       
         
         
         
   
12/31/2010
 
12/31/2009
         
Current Assets
       
Cash and cash equivalents
 
 $                 2,327,013
 
 $                    324,784
Accounts receivable
 
                        205,409
 
                          96,024
Inventory
 
                          87,108
 
                        118,979
Prepaid expenses and other assets
 
                          93,181
 
                          97,802
        Prepaid Loan  Cost , Net
 
                                   -
 
                        368,171
         
Total current assets
 
                    2,712,711
 
                    1,005,760
         
Long Term Assets
       
        Property and equipment, net
 
                    2,914,880
 
                    3,545,344
        Deposit on Fixed Asset
 
                        137,450
 
                                   -
Deposits
 
                          15,003
 
                          15,003
         
Total other assets
 
                    3,067,333
 
                    3,560,347
         
TOTAL ASSETS
 
 $                 5,780,044
 
 $                 4,566,107
 
 
The accompanying notes are an integral part of the consolidated financial statements.
F-3

 
 

 

         
Z TRIM HOLDINGS, INC.
       
BALANCE SHEETS
       
         
DECEMBER  31, 2010 and 2009
       
         
         
LIABILITIES & CONVERTIBLE, REDEEMABLE PREFERRED STOCK & STOCKHOLDERS' EQUITY (DEFICIT)
         
         
   
12/31/2010
 
12/31/2009
         
Current Liabilities
       
Accounts payable
 
 $                    356,567
 
 $                    373,841
Dividends payable
 
                          66,934
 
                                   -
Accrued expenses and other
 
                        790,462
 
                        700,830
Accrued Liquidated Damages
 
                        111,028
 
                          80,100
        Derivative Liabilities
 
                  13,528,355
 
                  10,285,578
        Convertible Notes Payable, Net
 
                    3,352,985
 
                    4,008,950
Total Current Liabilities
 
                  18,206,331
 
                  15,449,299
         
         
Total Liabilities
 
                  18,206,331
 
                  15,449,299
         
         
Commitment & Contingencies
       
  Convertible, Redeemable Preferred Stock
       
  Preferred stock, $0.01 par value; authorized 1,000,000 shares;
       
  issued and outstanding 956,858 and 0 shares, December 31, 2010
     
  and December 31, 2009  respectively
 
4,784,291
 
                                   -
  Discount on Preferred Stock
 
(4,457,406)
 
                                   -
    Net Preferred Stock
 
326,885
 
                                   -
         
Total Commitment & Contingencies
 
326,885
 
                                   -
         
         
Stockholders' Equity (Deficit)
       
Common stock, $0.00005 par value; authorized 200,000,000
       
shares; issued and outstanding 8,091,769 and
       
2,806,878 shares, December 31, 2010 and December 31, 2009
 
                                405
 
                                140
respectively
       
Additional paid-in capital
 
                  84,162,726
 
                  75,119,074
Accumulated deficit
 
                (96,916,303)
 
                (86,002,406)
         
Total Stockholders' Equity (Deficit)
 
                (12,753,172)
 
                (10,883,192)
         
TOTAL LIABILITIES & CONVERTIBLE REDEEMABLE PREFERRED STOCK & STOCKHOLDERS' EQUITY (DEFICIT)
 $                 5,780,044
 
 $                 4,566,107

The accompanying notes are an integral part of the consolidated financial statements.
F-4

 
 

 

       
Z TRIM HOLDINGS, INC.
     
STATEMENTS OF OPERATIONS
     
       
FOR THE YEAR ENDED December 31,
2010
 
2009
       
REVENUES:
     
  Products
 $           903,780
 
 $           559,910
    Total revenues
               903,780
 
               559,910
       
COST OF REVENUES:
     
  Products
           2,370,428
 
           1,679,148
    Total cost of revenues
           2,370,428
 
           1,679,148
       
GROSS MARGIN
          (1,466,648)
 
          (1,119,238)
       
OPERATING EXPENSES:
     
Selling, general and administrative
   6,857,371
 
   4,729,683
Loss(Gain) on asset disposals, net
         40,359
 
       126,651
    Total operating expenses
           6,897,730
 
           4,856,334
       
OPERATING LOSS
          (8,364,378)
 
          (5,975,572)
       
OTHER INCOME (EXPENSES):
     
Rental and other income
               397
 
           3,826
Interest income
           1,560
 
               901
Interest expense
             (170)
 
          (5,947)
Finance charge
          (7,500)
 
                          -
Interest expense - Note Payable
  (4,362,649)
 
  (2,426,032)
Liquidated Damages
       (30,928)
 
(80,100)
Change in Fair Value - Derivative
   2,434,939
 
(2,343,885)
Loss on Derivative Settlement
     (507,028)
 
(1,279,634)
Settlement (loss) gain
(78,140)
 
             (103,137)
    Total other income (expenses)
          (2,549,519)
 
          (6,234,008)
       
NET LOSS
 $    (10,913,897)
 
 $    (12,209,580)
       
Preferred Dividends Payable
                 66,934
 
                          -
Accretion of Discount of Preferred Stock
               287,163
 
                          -
       
NET LOSS  ATTRIBUTABLE TO COMMON STOCKHOLDERS
 $    (11,267,994)
 
 $    (12,209,580)
       
NET LOSS PER SHARE - BASIC AND DILUTED
 $                 (2.03)
 
 $                 (4.48)
       
Weighted Average Number of Shares Basic and Diluted
              5,550,277
 
           2,727,793
       

The accompanying notes are an integral part of the consolidated financial statements.
F-5
 

 
 

 

             
Z TRIM HOLDINGS, INC.
           
STATEMENT OF STOCKHOLDERS' EQUITY (DEFICIT)
         
             
             
             
 
Shares of
 
Additional
     
 
Common
Common
Paid-In
Unamortized
Accumulated
 
 
Stock
Stock
Capital
Expenses
Deficit
Total
             
Balance at December 31, 2008
         2,597,879
                3,904
74,484,074
0
(71,662,875)
2,825,103
             
  Common Stock reduced due to split
 
(3,774)
3,774
   
                    -
  Stock issued for accounts payable
60,000
2
104,399
   
          104,401
  Stock issued for directors fees
90,000
5
46,196
   
            46,201
  Exercised warrants or options
4,365
0
4,365
   
              4,365
  Exercised cashless warrants
51,927
3
(3)
   
                    -
  Stock Based Compensation
   
565,848
   
          565,848
  Initial valuation of the derivative liabilities
   
(89,579)
 
(2,129,951)
      (2,219,530)
  Rounding due to reverse stock split
2,707
 
0
   
                    -
   Net loss
       
(12,209,580)
(12,209,580)
Balance at December 31, 2009
         2,806,878
                   140
    75,119,074
                  -
     (86,002,406)
    (10,883,192)
             
  Stock issued for directors fees
120,000
6
233,994
   
          234,000
  Stock issued for services
350,000
18
489,982
   
          490,000
  Exercised of converted notes share
4,412,976
221
4,412,755
   
       4,412,976
  Exercised warrants or options
108,172
5
17,500
   
            17,505
  Exercised cashless warrants
293,743
15
(15)
   
                    -
  Stock Based Compensation
   
2,882,168
   
       2,882,168
  Derivative on exercise/canc warrants
   
1,361,365
   
       1,361,365
  Dividends Payable
   
(66,934)
   
           (66,934)
  Amortization of Discount
   
(287,163)
   
         (287,163)
   Net loss
       
(10,913,897)
    (10,913,897)
Balance at December 31, 2010
         8,091,769
                   405
    84,162,726
                  -
     (96,916,303)
    (12,753,172)

The accompanying notes are an integral part of the consolidated financial statements.
F-6


 
 

 

       
Z TRIM HOLDINGS, INC.
     
STATEMENTS OF CASH FLOWS
     
       
FOR THE YEARS ENDED DECEMBER 31
2010
 
2009
       
CASH FLOWS FROM OPERATING ACTIVITIES
     
Net loss
                (10,913,897)
 
                (12,209,580)
Adjustments to reconcile loss from continuing operations to
     
net cash used in operating activities:
     
Depreciation
856,094
 
                       922,321
Loss on asset disposal
40,359
 
                       128,416
Change in  Derivative Liability, net of bifurcation
(1,927,911)
 
                    3,623,519
Stock based compensation
2,882,168
 
                       565,848
Shares issued for director fees
234,000
 
46,201
Shares and Warrants issued for debt
                                 -
 
                       106,948
Shares & Warrants issued for Services
490,000
 
                       632,982
Interest Charge on BCF
3,316,914
 
1,449,214
Loan Cost Amortization
368,171
 
                       512,479
Interest on conversion of NP
5,605
 
                                 -
Changes in operating assets and liabilities
     
Accounts receivable
(109,385)
 
                       110,207
Inventory
31,871
 
                         63,991
Prepaid expenses and other assets
4,621
 
                         (3,907)
Increase/(Decrease) in:
     
Accounts payable and accrued expenses
728,334
 
                       801,629
Accrued Liquidated Damages
30,928
 
                         80,100
       
CASH USED FOR OPERATING ACTIVITIES
                  (3,962,128)
 
                  (3,169,632)
       
CASH FLOWS FROM INVESTING ACTIVITIES
     
Purchase of Fixed Assets
                     (477,239)
 
                     (389,145)
Proceeds from asset disposals
                         73,800
 
                         94,500
CASH USED FOR INVESTING ACTIVITIES
                     (403,439)
 
                     (294,645)
       
CASH FLOWS FROM FINANCING ACTIVITES
     
Borrowing on debt
                    1,816,000
 
                    3,192,000
 Principal payment on debt
                     (250,000)
 
                                 -
Proceeds from sale of preferred stock
                    4,784,291
 
                                 -
Proceeds from sale of common stock
                         17,505
 
                           4,365
CASH PROVIDED BY FINANCING ACTIVITIES
                    6,367,796
 
                    3,196,365
NET (DECREASE)INCREASE IN CASH
                    2,002,229
 
                     (267,912)
       
CASH AT BEGINNING OF YEAR
                       324,784
 
                       592,696
       
CASH AT THE YEAR ENDED DECEMBER 31
                    2,327,013
 
                       324,784
       
Supplemental Disclosures of Cash Flow Information:
     
       
Issuance of common stock for issuance of stock
     
        Cash less exercise of warrants
                                15
 
                                 -
        Note Payable conversion
                    4,412,976
 
                                 -
        Discount on convertible debentures
                    1,816,000
 
                    3,747,000
        Discount on preferred stock
                    4,744,569
 
                                 -
        Amortization on preferred stock
                       287,163
 
                                 -
        Change in derivative liability due to exercise of warrants
                       422,306
 
                                 -
        Change in derivative liability due to conversion of NP
                       939,059
 
                                 -
        Dividends Payable
                         66,934
 
                                 -
        Transfer from Deposit on Fixed Assets to Construction in Progress
                                 -
 
                       240,000
        Cummulative Effect - Adoption of derivative value
                                 -
 
                    2,129,951
        Convertible Debr issued for settlement of AP
                                 -
 
                       555,000

The accompanying notes are an integral part of the consolidated financial statements.
F-7


 
 

 

Z Trim Holdings, Inc.
Notes To Financial Statements
December 31, 2010
 
NOTE 1 – NATURE OF BUSINESS
 
Z Trim Holdings, Inc. (the “Company”) manufactures a line of functional food ingredients that can be used to reduce costs, manage moisture, replace fats and deliver fiber to a wide variety of foods.  The Company’s products can be used by food manufacturers and processors, restaurants, schools, and the general public worldwide. The Company continues to explore all available options for its other Z Trim technologies and related assets. The Company owns an exclusive license to Z Trim, a natural, agriculture-based functional food ingredient.
 
 
NOTE 2 –GOING CONCERN

For the year ended December 31, 2009, we did not have enough cash on hand to meet our current liabilities or to fund on-going operations beyond one year.  As a result, the report of independent registered public accounting firm included an explanatory paragraph in respect to the substantial doubt of our ability to continue as a going concern.

Our cash on hand as of December 31, 2010 is $2,327,013.  Since June 2010, as outlined in Footnotes 8, 9, 12 and 21 herein, we brought in $8,170,988 in funds through the sale of Preferred Stock, and our investors converted approximately $8,100,000 of convertible debt into common stock. In addition to the fundraising efforts, we intend to make capital expenditures necessary to increase our capacity and to reduce our cost per pound. Due to the expected increase in production capacity, we anticipate our sales for fiscal year ended December 31, 2011 will approximately double those of fiscal year ended December 31, 2010.

Although we have recurring operating losses and negative cash flows from operating activities, we have positive working capital and believe we have enough cash on hand to satisfy current obligations.  If we are unsuccessful in our plans to increase revenue and capacity, the impact may have a material impairment on our ability to continue as a going concern.

 
NOTE 3 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 
Use of Estimates
 
The preparation of the accompanying financial statements in conformity with accounting principles generally accepted in the United States (U.S. GAAP) requires 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. Actual results could differ from those estimates.
 
Revenue Recognition
 
The Company generally recognizes product revenue when persuasive evidence of an arrangement exists, delivery has occurred, the fee is fixed or determinable, and collectability is probable. In instances where the final acceptance of the product is specified by the customer, revenue is deferred until all acceptance criteria have been met. No provisions were established for estimated product returns and allowances based on the Company’s historical experience.
 
Allowance for Doubtful Accounts
 
Management of the Company makes judgments as to its ability to collect outstanding receivables and provide allowances for the portion of receivables when collection becomes doubtful. Provisions are made based upon a specific review of all significant outstanding invoices. For those invoices not specifically reviewed, provisions are provided at differing rates, based upon the age of the receivable. In determining these percentages, management analyzes its historical collection experience and current economic trends. If the historical data the Company uses to calculate the allowance for doubtful accounts does not reflect the future ability to collect outstanding receivables, additional provisions for doubtful accounts may be needed and the future results of operations could be materially affected. As of December 31, 2010 and 2009, the allowance for doubtful accounts was $0.  
 
 
Cash and cash equivalents
 
For purposes of the statement of cash flows, the Company considers all highly liquid investments with a maturity of three months or less to be cash equivalents.  There were no cash equivalents as of December 31, 2010 and 2009.

Inventory
 
Inventory is stated at the lower of cost or market, using the first-in, first-out method.
 
Property and Equipment
 
Property and equipment are stated at cost.  Maintenance and repair costs are expensed as incurred.  Depreciation is calculated on the accelerated and straight-line methods over the estimated useful lives of the assets. Estimated useful lives of five to ten years are used for machinery and equipment, office equipment and furniture, and automobile. Estimated useful lives of up to five years are used for computer equipment and related software. Depreciation and amortization of  leasehold improvements are computed using the term of the lease.

Deferred Loan Costs

Loan acquisition costs are amortized over the life of the applicable indebtedness using the effective interest method.
 
Intangible Assets
 
Intangible assets are carried at the purchased cost less accumulated amortization. Amortization is computed over the estimated useful lives of  the respective assets, generally from fifteen to twenty years.

Impairment of Long-Lived Assets
 
Long-lived assets and certain identifiable intangible assets to be held and used are reviewed for impairment whenever events or changes in circumstance indicate that the carrying amount of such assets may not be recoverable. Determination of recoverability is based on an estimate of undiscounted future cash flows resulting from the use of the asset and its eventual disposition. Measurement of an impairment loss for long-lived assets and certain identifiable intangible assets that management expects to hold and use is based on the fair value of the asset. Long-lived assets and certain identifiable intangible assets to be disposed of are reported at the lower of carrying amount or fair value less costs to sell.
 
Income Taxes
 
The amount of current and deferred taxes payable or refundable is recognized as of the date of the financial statements, utilizing currently enacted tax laws and rates.  Deferred tax expenses or benefits are recognized in the financial statements for the changes in deferred tax liabilities or assets between years.

 
Principle of Consolidation and Presentation
 
The accompanying consolidated financial statements include the accounts of Z Trim Holdings, Inc. and its subsidiaries after elimination of significantly all intercompany accounts and transactions.
 
F-8
 
 
 

 

Accounting for Derivative Instruments
 
All derivatives have been recorded on the balance sheet at fair value based on the lattice model calculation. These derivatives, including embedded derivatives in the Company’s warrants and its Convertible 8% Senior Secured Notes issued in 2008, 2009, and 2010, which have reset provisions to the exercise price and conversion price if the Company issues equity or other derivatives at a price less than the exercise price set forth in such warrants and notes, are separately valued and accounted for on the Company’s balance sheet. Fair values for exchange traded securities and derivatives are based on quoted market prices. Where market prices are not readily available, fair values are determined using market based pricing models incorporating readily observable market data and requiring judgment and estimates.
 
Lattice Valuation Model
 
The Company valued the conversion features and warrants in their convertible notes using a lattice valuation model, with the assistance of a valuation consultant. The lattice model values these instruments based on a probability weighted discounted cash flow model. The Company uses the model to develop a set of potential scenarios. Probabilities of each scenario occurring during the remaining term of the debentures are determined based on management's projections. These probabilities are used to create a cash flow projection over the term of the instruments and determine the probability that the projected cash flow will be achieved. A discounted weighted average cash flow for each scenario is then calculated and compared to the discounted cash flow of the instruments without the compound embedded derivative in order to determine a value for the compound embedded derivative.
 
Fair Value of Financial Instruments
 
The Company’s financial instruments consist of cash and cash equivalents, accounts receivable, inventory, accounts payable, accrued liabilities and long-term debt. The estimated fair value of cash, accounts receivable, accounts payable and accrued liabilities approximate their carrying amounts due to the short-term nature of these instruments. The carrying value of long-term debt also approximates fair value since their terms are similar to those in the lending market for comparable loans with comparable risks. None of these instruments are held for trading purposes.
 
The Company utilizes various types of financing to fund its business needs, including convertible debt with warrants attached. The Company reviews its warrants and conversion features of securities issued as to whether they are freestanding or contain an embedded derivative and, if so, whether they are classified as a liability at each reporting period until the amount is settled and reclassified into equity with changes in fair value recognized in current earnings. At December 31, 2010 and 2009, the Company had convertible debt and warrants to purchase common stock, the fair values of which are classified as a liability. Some of these units have embedded conversion features that are treated as a discount on the notes. Such financial instruments are initially recorded at fair value and amortized to interest expense over the life of the debt using the effective interest method.
 
Inputs used in the valuation to derive fair value are classified based on a fair value hierarchy which distinguishes between assumptions based on market data (observable inputs) and an entity’s own assumptions (unobservable inputs). The hierarchy consists of three levels:

·  
Level one — Quoted market prices in active markets for identical assets or liabilities;
·  
Level two — Inputs other than level one inputs that are either directly or indirectly observable; and
·  
Level three — Unobservable inputs developed using estimates and assumptions, which are developed by the reporting entity and reflect those assumptions that a market participant would use.

Determining which category an asset or liability falls within the hierarchy requires significant judgment. The Company evaluates its hierarchy disclosures each quarter. The Company’s only asset or liability measured at fair value on a recurring basis is its derivative liability associated with the units consisting of convertible debt and warrants to purchase common stock (discussed above). The Company classifies the fair value of these warrants under level three. The fair value of the derivative liability at December 31, 2010 and 2009 was $13,528,355 and $10,285,578, respectively and the gain due to valuation for the twelve months ended December 31, 2010 $1,927,911. The loss due to valuation for the twelve months ended December 31, 2009 was $3,623,519.

Advertising Costs
 
The Company expenses all advertising costs as incurred.  The amount for the year ended December 31, 2010 and 2009 was $5,654 and $13,953 respectively.
 
Income (Loss) Per Common Share
 
Basic net income (loss) per share includes no dilution and is computed by dividing net income (loss) available to common stockholders by the weighted average number of common stock outstanding for the period. Diluted earnings per share is computed by dividing net income by the weighted average number of shares outstanding and, when diluted, potential shares from options and warrants to purchase common stock using the treasury stock method. Diluted net loss per common share does not differ from basic net loss per common share since potential shares of common stock are anti-dilutive for all periods presented.
 
Cashless Exercise of Warrants
 
The Company has issued warrants to purchase common stock where the holder is entitled to exercise the warrant via a cashless exercise. The Company accounts for the issuance of common stock on the cashless exercise of warrants on a net basis.
 
Stock Based Compensation

The Company estimates the fair value of share-based payment awards made to employees and directors, including stock options, restricted stock and employee stock purchases related to employee stock purchase plans, on the date of grant using an option-pricing model. The value of the portion of the award that is ultimately expected to vest is recognized as an expense ratably over the requisite service periods.  We estimate the fair value of each share-based award using the Black-Scholes option pricing model. The Black-Scholes model is highly complex and dependent on key estimates by management. The estimates with the greatest degree of subjective judgment are the estimated lives of the stock-based awards and the estimated volatility of our stock price. The Company recognized pre-tax compensation expense related to stock options of $2,882,168 and $565,848 for the year ended December 31, 2010 and 2009, respectively.
 
Reverse Split
 
Effective February 6, 2009, we had a 30 to 1 reverse stock split.  All information in this Form 10-K has been retrospectively adjusted to reflect the reverse stock split as it took place as of the earliest period presented.
 
F-9
 
 
 

 
New Accounting Pronouncements

In October 2009, the Financial Accounting Standards Board (“FASB”) issued new revenue recognition standards for arrangements with multiple deliverables, where certain of those deliverables are non-software related. The new standards permit entities to initially use management’s best estimate of selling price to value individual deliverables when those deliverables do not have Vendor Specific Objective Evidence (“VSOE”) of fair value or when third-party evidence is not available. Additionally, these new standards modify the manner in which the transaction consideration is allocated across the separately identified deliverables by no longer permitting the residual method of allocating arrangement consideration. These new standards are effective for annual periods ending after June 15, 2010 and early adoption is permitted. The Company is currently evaluating the impact of adopting this standard on the Company’s consolidated financial position, results of operations and cash flows.
 
In June 2009, the FASB issued guidance establishing the Codification as the source of authoritative U.S. Generally Accepted Accounting Principles (“U. S. GAAP”) recognized by the FASB to be applied by non-governmental entities. Rules and interpretive releases of the Securities and Exchange Commission (“SEC”) under authority of federal securities laws are also sources of authoritative U.S. GAAP for SEC registrants. The Codification supersedes all existing non-SEC accounting and reporting standards. All other non-grandfathered non-SEC accounting literature not included in the Codification will become non-authoritative. The FASB will no longer issue new standards in the form of Statements, FASB Staff Positions, or Emerging Issues Task Force Abstracts. Instead, the FASB will issue Accounting Standards Updates, which will serve only to update the Codification, provide background information about the guidance and provide the bases for conclusions on changes in the Codification. All content in the Codification carries the same level of authority, and the U.S. GAAP hierarchy was modified to include only two levels of U.S. GAAP: authoritative and non-authoritative. The Codification is effective for the Company’s interim and annual periods beginning with the Company’s year ending December 31, 2009. Adoption of the Codification affected disclosures in the Consolidated Financial Statements by eliminating references to previously issued accounting literature, such as SFASs, EITFs and FSPs.
 
 In June 2009, the FASB issued amended standards for determining whether to consolidate a variable interest entity.
 
These new standards amend the evaluation criteria to identify the primary beneficiary of a variable interest entity and require ongoing reassessment of whether an enterprise is the primary beneficiary of the variable interest entity. The provisions of the new standards are effective for annual reporting periods beginning after November 15, 2009 and interim periods within those fiscal years. The adoption of the new standards will not have an impact on the Company’s consolidated financial position, results of operations and cash flows.
 
In May 2009, the FASB issued guidance establishing general standards for accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued or are available to be issued and shall be applied to subsequent events not addressed in other applicable generally accepted accounting principles. This guidance, among other things, sets forth the period after the balance sheet date during which management should evaluate events or transactions that may occur for potential recognition or disclosure in the financial statements, the circumstances under which an entity should recognize events or transactions occurring after the balance sheet date in its financial statements and the disclosures an entity should make about events or transactions that occurred after the balance sheet date. The adoption of this guidance had no impact on the Company’s consolidated financial position, results of operations and cash flows.
 
The Emerging Issue Task Force released a pronouncement related to determining whether an instrument (or imbedded Feature) is indexed to an entity’s own stock.  This became effective for the Company on March 31, 2009.  The Company’s warrants and its Convertible 8% Senior Secured Notes issued in 2008 have reset provisions to the exercise price and conversion price if the Company issues equity or other derivatives at a price less than the exercise price set forth in such warrants and notes.  The adoption of the pronouncement on January 1, 2009, the company recorded a cumulative effect of a change in accounting principle resulting in a reclassification of the Company’s outstanding warrants from stockholders’ equity to liabilities, which required the warrants to be fair valued at each reporting period, with the changes in fair value recognized in the Company’s consolidated statement of operations.  At December 31, 2010, the Company recorded a derivative liability of $13,528,355 and a change in the fair value – derivative liability for the year ended December 31, 2010 of $1,927,911.  At December 31, 2009, the Company recorded a derivative liability of $10,285,578 and a change in the fair value – derivative liability for the year ended December 31, 2009 of ($3,623,519).

 
NOTE 4 – INVENTORY
 
At December 31, inventory consists of the following:
 
       
 
12/31/2010
 
12/31/2009
Raw materials
 $      24,020
 
 $      23,773
Packaging
            2,764
 
            1,010
Work-in-process
            7,584
 
            7,437
Finished goods
         52,740
 
         80,299
Other Inventory
                   -
 
            6,461
  Total inventory
 $      87,108
 
 $    118,979
       

 
NOTE 5 – PROPERTY AND EQUIPMENT, NET
 
At December 31, property and equipment, net consists of the following:
 
 
12/31/2010
 
12/31/2009
Production, engineering and other equipment
$5,751,832
 
$5,651,279
Leasehold improvements
2,901,002
 
2,822,834
Office equipment and furniture
577,226
 
577,226
Computer equipment and related software
140,246
 
140,246
Construction in process - Equipment
0
 
72,177
 
$9,370,306
 
$9,263,762
Accumulated depreciation
($6,455,426)
 
($5,718,418)
Property and equipment, net
$2,914,880
 
$3,545,344

 
F-10

 
 

 
 
NOTE 6 – INTANGIBLE ASSETS
 
No significant intangible assets were acquired in either 2010 or 2009.
 
 
NOTE 7 – ACCRUED  EXPENSES
 
At December 31, accrued expenses consist of the following:
 
 
12/31/2010
 
12/31/2009
 
Accrued legal
 $                  670
 
 $
0
Accrued payroll and taxes
                  5,373
   
4,787
Accrued Settlements
                78,140
   
0
Accrued Interest
              604,412
   
575,357
Accrued expenses and other
              101,867
   
120,686
Total accrued expenses & other
 $           790,462
 
 $
700,830

 
NOTE 8–CONVERTIBLE NOTES PAYABLE
 
2009 AND 2010 CONVERTIBLE NOTES
 
On April 15, 2009, we entered into private placement subscription agreements pursuant to which we sold 24.2 units consisting of convertible notes and warrants, for an aggregate offering price of $242,000. Each of the units (individually, a "Unit" and collectively, the "Units") consists of a $10,000 24-month senior secured promissory note (each a "Note" and collectively the "Notes") convertible at the rate of $1.00 per share into 10,000 shares of our common stock, $.00005 par value (the "Common Stock"), bearing interest at the rate of 8% per annum, which interest is accrued annually in Common Stock at the rate of $1.00 per share. The Notes will be secured by a first lien on all assets of the Company for so long as the Notes remain outstanding pursuant to the form of Security Agreement filed as an exhibit to this report. The Notes are convertible into a total of 242,000 shares of Common Stock. The interest is payable upon maturity of the Notes. Investors of each Unit also received one five-year warrant, one to purchase 15,000 shares of Common Stock per unit with an exercise price of $1.50 per share ("Warrants"). The total warrants issued to the note-holders were 383,000.
 
As part of the aggregate, two of the Company's external Directors, Mark Hershhorn and Brian Israel each agreed to apply $20,000 of unpaid Directors' fees (80% of which is past due), to the purchase of Units pursuant to the terms of the offering set forth above. Further, our third external director, Morris Garfinkle, also invested $50,000 in the offering.
 
As a result of the conversion rate being set at $1.00 for these agreements, the conversion rate for the convertible notes and $4.80 warrants entered into by the company in June, September and November of 2008 are automatically reset to $1.00. The impact of this change is that the number of shares that could be obtained by converting the June, September and November 2008 notes increases from 928,541 to 4,456,997, and the interest shares (if the holders elect to be paid in shares instead of cash) on such notes increases from 148,566 to 713,117.
 
On April 27, 2009, the Company entered into an Investment Banking Agreement with Legend Securities, Inc. ("Legend"), pursuant to which Legend agreed to provide business advisory services to us for a period of up to twelve months. In exchange for Legend's services, we agreed to issue Legend a warrant to purchase 350,000 shares of our common stock at an exercise price per share equal to $1.10 per share. The warrant will vest as to 87,500 of the warrant shares upon issuance, and then at a rate of 87,500 shares per quarter starting on the quarterly anniversary of issuance, and will be exercisable for a period of five years. Under the Investment Banking Agreement, we also agreed to give Legend unlimited "piggy back" registration rights with respect to the shares of our common stock underlying the warrant in any registration statement filed by us in connection with an underwritten offering of our common stock. The Company recorded the fair value of the above warrants as warrant expense in the amount of $243,238 using the lattice valuation model.  The amount is included in selling, general, and administrative expenses of $4,729,683 at December 31, 2009. The Company also included the warrants in the derivative liabilities valuation as they contained a reset provision to the exercise and conversion prices.
 
Between May 1 and May 14, 2009, we entered into private placement subscription agreements pursuant to which we sold 38.5 units consisting of convertible notes and warrants, for an aggregate offering price of $385,000. Each of the units (individually, a "Unit" and collectively, the "Units") consists of a $10,000 24-month senior secured promissory note (each a "Note" and collectively the "Notes") convertible at the rate of $1.00 per share into 10,000 shares of our common stock, $.00005 par value (the "Common Stock"), bearing interest at the rate of 8% per annum, which interest is accrued annually in Common Stock at the rate of $1.00 per share. The Notes will be secured by a first lien on all assets of the Company for so long as the Notes remain outstanding pursuant to the form of Security Agreement filed as an exhibit to this report. The Notes are convertible into a total of 385,000 shares of Common Stock. The interest is payable upon maturity of the Notes. Investors of each Unit also received one five-year warrant, one to purchase 15,000 shares of Common Stock per unit with an exercise price of $1.50 per share ("Warrants"). The total warrants issued to the note-holders were 577,500. The terms of the offering are identical to those announced on the Company's Form 8-K, dated April 21, 2009? The description of the terms of sale of the securities described in this report is qualified in its entirety by reference to the full text of the underlying documents which have been filed as exhibits to the April 21, 2009 Form 8-K.
 
On May 1, 2009, we entered into private placement subscription agreements pursuant to which we sold 6 units consisting of shares of common stock and warrants, for an aggregate offering price of $60,000. Each of the units (individually, a "Unit" and collectively, the "Units") consists of 10,000 shares of unregistered common stock plus one five-year warrant, one to purchase 15,000 shares of Common Stock per unit with an exercise price of $1.50 per share ("Warrants"). A total of 60,000 shares of common stock and 90,000 warrants are to be issued pursuant to the terms of this offering. All such Units were sold pursuant to an agreement with an equipment supplier whereby the Company agreed to apply $60,000 of unpaid and past due amounts towards the purchase and installation of two boilers, to the purchase of the 6 Units. The equipment supplier agreed to accept such Units as payment for the $60,000 of unpaid and past due amounts.
 
On May 13, 2009, the Company entered into a Material Definitive Agreement with its patent litigation counsel, whereby the Company agreed to apply $350,000 of unpaid and past due legal fees owed to such counsel, to the purchase of 35 Units pursuant to the terms of the offering set forth above. The patent litigation counsel agreed to accept such Units as payment for the $350,000 of unpaid and past due legal fees. These Units are included in the totals set forth in the first paragraph above.
 
Between May 18 and July 15, 2009, we entered into private placement subscription agreements pursuant to which we sold 49.75 units consisting of convertible notes and warrants, for an aggregate offering price of $497,500. Each of the units (individually, a "Unit" and collectively, the "Units") consists of a $10,000 24-month senior secured promissory note (each a "Note" and collectively the "Notes") convertible at the rate of $1.00 per share into 10,000 shares of our common stock, $.00005 par value (the "Common Stock"), bearing interest at the rate of 8% per annum, which interest is accrued annually in Common Stock at the rate of $1.00 per share. The Notes will be secured by a first lien on all assets of the Company for so long as the Notes remain outstanding pursuant to the form of Security Agreement filed as an exhibit to to the April 21, 2009 Form 8-K.  The Notes are convertible into a total of 497,500 shares of Common Stock. The interest is payable upon maturity of the Notes. Investors of each Unit also received one five-year warrant, one to purchase 15,000 shares of Common Stock per unit with an exercise price of $1.50 per share ("Warrants"). The total warrants issued to the note-holders were 746,250. The terms of the offering are identical to those announced on the Company's Form 8-K, dated April 21, 2009. The description of the terms of sale of the securities described in this report is qualified in its entirety by reference to the full text of the underlying documents which have been filed as exhibits to the April 21, 2009 Form 8-K.
 
F-11
 
 

 
On June 29, 2009, the Company entered into a Material Definitive Agreement with its landlord, whereby the Company agreed to apply $130,000 of unpaid and past due rent owed to such landlord, to the purchase of 13 Units pursuant to the terms of the offering set forth above. The landlord agreed to accept such Units as payment for the $130,000 of unpaid and past due rent. These Units are included in the totals set forth in the paragraph above.
 
On October 15, 2009, we entered into a private placement subscription agreement with Brightline Ventures I, LLC, a Delaware Limited Liability Company(the "purchaser" or "Brightline") pursuant to which we sold 185.25 units consisting of convertible notes and warrants, for an aggregate offering price of $1,852,500. Furthermore, since July 14, 2009, we had sold an additional 75.3 units for an aggregate offering price of $753,000, including a total of $660,000 sold to affiliates of Brightline. Each of the units (individually, a "Unit" and collectively, the "Units") consists of a $10,000 24-month senior secured promissory note (each a "Note" and collectively the "Notes") convertible at the rate of $1.00 per share into 10,000 shares of our common stock, $.00005 par value (the "Common Stock"), bearing interest at the rate of 8% per annum, which interest is accrued annually in Common Stock at the rate of $1.00 per share. The Notes will be secured by a first lien on all of our assets for so long as the Notes remain outstanding pursuant to the form of Security Agreement filed as an exhibit to this report (the "Security Agreement"). The Notes are convertible into a total of 2,605,500 shares of Common Stock. The interest is payable quarterly or upon maturity of the Notes. The Investors also received one five-year warrant for each Unit purchased, to purchase 15,000 shares of Common Stock per unit with an exercise price of $1.50 per share ("Warrants"). The total warrants issued to the purchaser and its affiliates were 3,768,750. The Company has agreed to pay a finder cash commissions aggregating 8% of the gross proceeds of the offering sold to an investor introduced by that finder up to a maximum of 250 Units purchased by such investor and an equal amount of five year warrants at an exercise price of $1.50 per share (for example, if the finder's fee equals $200,000, then the finder will also receive 200,000 warrants with an exercise price of $1.50). The Company has reserved the right to negotiate a lower commission for any Units above the 250 purchased by such investor. The terms and conditions of the Units are substantially identical to the terms and conditions and constitute a part of the units previously sold by us in 2009 and reported on a Form 8-K filed by us on April 21, 2009 (the "2009 Units"). The amount of Units purchased by Brightline and its affiliates, represents at least a majority of all of the Units and the 2009 Units taken as a whole, and, consequently, under the terms of the Notes, the purchaser has the ability, together with us to amend the Notes and Security Agreements comprising the Units and the 2009 Units. In consideration of Brightline's (and its affiliates') purchase of Note Units in the amount of $2,512,500 pursuant to the terms of the Note Memorandum, the Company granted to Brightline, the right to purchase additional Note Units and/or Preferred Stock Units, as available, up to an additional aggregate amount of $2,487,500.
 
Since October 15, 2009, we had sold an additional 1.7 units for an aggregate offering price of $17,000, of which $12,000 was in return for forgiveness of rent owed to our landlord. Each of the units (individually, a “Unit” and collectively, the “Units”) consists of a $10,000 24-month senior secured promissory note (each a “Note” and collectively the “Notes”) convertible at the rate of $1.00 per share into 10,000 shares of our common stock, $.00005 par value (the “Common Stock”), bearing interest at the rate of 8% per annum, which interest is accrued annually in Common Stock at the rate of $1.00 per share.  The Notes will be secured by a first lien on all of our assets for so long as the Notes remain outstanding pursuant to the form of Security Agreement (the “Security Agreement”).  The Notes are convertible into a total of 1,317,000 shares of Common Stock exclusive of interest.  The interest is payable in additional shares of the Company's Common Stock, quarterly or upon maturity of the Notes.  The Investors also received one five-year warrant for each Unit purchased, to purchase 15,000 shares of Common Stock per unit with an exercise price of $1.50 per share (“Warrants”).  The total warrants issued to the purchasers were 1,975,500.   The terms and conditions of the Units are substantially identical to the terms and conditions and constitute a part of the units previously sold by us in 2009 and reported on a Form 8-K filed by us on October 16, 2009 (the “2009 Units”). 
 
Pursuant to the terms of the subscription agreement we agreed with the Purchaser to amend the Units (the "Amended Units") to reflect the terms and conditions of the Units sold by us in 2008 (the "2008 Units") as described in our Current Reports on Form 8-K filed on June 24 and September 2, 2008 which include among other things a full ratchet anti-dilution formulation with respect to the adjustments to the conversion price of the Notes and the exercise price of the Warrants instead of the weighted average anti-dilution formula contained in the Units and the payment of interest on the Notes, at the option of the holder, quarterly or at maturity rather than just at maturity. As a result of the amendment, all of the Notes and the 2009 Notes and corresponding Security Agreements will be amended to read as set forth in Exhibits 4.2 and 4.4 attached hereto. The Warrants sold to the purchaser have also been amended. We also agreed to offer to amend the warrants and to offer a registration rights agreement to the noteholders under the 2009 Units on terms identical to those granted to the purchaser. The Notes, the Amended and Restated Notes (including the Notes issued as part of the 2009 Units) and Notes issued as part of the 2008 Units rank pari passu with each other.
 
We also entered into registration rights agreements substantially similar to the registration rights agreement entered into with the purchasers of the 2008 Units pursuant to which we have agreed to file with the Securities and Exchange Commission a registration statement covering the resale of the Common Stock underlying the Amended and Restated Notes and the Amended and Restated Warrants. The Company filed its Form S-1 registration statement with the SEC on May 25, 2010, and the statement went effective on July 14, 2010.
 
The descriptions herein are qualified in their entirety by reference to the copies of the forms of the Subscription Agreement, the Amended and Restated Notes, the Amended and Restated Warrant, the Amended and Restated Security Agreements and the Registration Rights Agreement which are attached as exhibits to the Form 8-K filed with the SEC on October 16, 2009.
 
On January 15, 2010, we entered into a private placement subscription agreement with Brightline Ventures I, LLC, a Delaware Limited Liability Company(the “purchaser” or “Brightline”) pursuant to which we sold 130 units consisting of convertible notes and warrants, for an aggregate offering price of $1,300,000.  The Company has agreed to extend Brightline's right to invest an additional $1,200,000 on substantially similar terms until February 28, 2010.  Also, we issued an additional 1.2 units for an aggregate offering price of $12,000, which was in return for forgiveness of rent owed to our landlord.  Each of the units (individually, a “Unit” and collectively, the “Units”) consists of a $10,000 24-month senior secured promissory note (each a “Note” and collectively the “Notes”) convertible at the rate of $1.00 per share into 10,000 shares of our common stock, $.00005 par value (the “Common Stock”), bearing interest at the rate of 8% per annum, which interest is accrued annually in Common Stock at the rate of $1.00 per share.  The Notes will be secured by a first lien on all of our assets for so long as the Notes remain outstanding pursuant to the form of Security Agreement (the “Security Agreement”).  The Notes are convertible into a total of 1,312,000 shares of Common Stock exclusive of interest.  The interest is payable in additional shares of the Company's Common Stock, quarterly or upon maturity of the Notes.  The Investors also received one five-year warrant for each Unit purchased, to purchase 15,000 shares of Common Stock per unit with an exercise price of $1.50 per share (“Warrants”).  The total warrants issued to the purchasers were 1,968,000.   The terms and conditions of the Units are substantially identical to the terms and conditions and constitute a part of the units previously sold by us in 2009 and reported on a Form 8-K filed by us on October 16, 2009 (the “2009 Units”). 
 
Between February 1 and December 31, 2010, we entered into a series of private placement subscription agreements with accredited investors (the “purchasers”) pursuant to which we sold 50.4 units consisting of convertible notes and warrants, for an aggregate offering price of $504,000.  Each of the units (individually, a “Unit” and collectively, the “Units”) consists of a $10,000 24-month senior secured promissory note (each a “Note” and collectively the “Notes”) convertible at the rate of $1.00 per share into 10,000 shares of our common stock, $.00005 par value (the “Common Stock”), bearing interest at the rate of 8% per annum, which interest is accrued annually in Common Stock at the rate of $1.00 per share.  The Notes will be secured by a first lien on all of our assets for so long as the Notes remain outstanding pursuant to the form of Security Agreement (the “Security Agreement”).  The Notes are convertible into a total of 504,000 shares of Common Stock exclusive of interest.  The interest is payable in additional shares of the Company's Common Stock, quarterly or upon maturity of the Notes.  The Investors also received one five-year warrant for each Unit purchased, to purchase 15,000 shares of Common Stock per unit with an exercise price of $1.50 per share (“Warrants”).  The total warrants issued to the purchasers were 756,000.   The terms and conditions of the Units are substantially identical to the terms and conditions and constitute a part of the units previously sold by us in 2009 and reported on a Form 8-K filed by us on October 16, 2009 (the “2009 Units”). 

We also entered into registration rights agreements substantially similar to the registration rights agreement entered into with the purchasers of the 2008 Units pursuant to which we have agreed to file with the Securities and Exchange Commission a registration statement covering the resale of the Common Stock underlying the Notes and the Warrants. The Company filed its Form S-1 registration statement with the SEC on May 25, 2010, and the statement went effective on July 14, 2010.

The descriptions herein are qualified in their entirety by reference to the copies of the forms of the Subscription Agreement, the  Notes, the  Warrant, the  Security Agreements and the Registration Rights Agreement which are attached as exhibits to our Form 8-K filed on October 16, 2009.

We determined that all of the securities sold and issued in the private placement were exempt from registration under the Securities Act of 1933, as amended (the “Act”) pursuant to Section 4(2) of the Act and Rule 506 of Regulation D promulgated under the Act.  We based this determination on the non-public manner in which we offered the securities and on the representations of the persons purchasing such securities, which included, in pertinent part, that such persons were “accredited investors” within the meaning of Rule 501 of Regulation D promulgated under the Act, and that such persons were acquiring such securities for investment purposes for their own respective accounts and not as nominees or agents, and not with a view to resale or distribution, and that each such person understood such securities may not be sold or otherwise dispose of without registration under the Act or an applicable exemption therefrom.

For the period ended December 31, 2010 and 2009, the Company recorded a debt discount in the amount of $1,816,000 and $3,747,000.  The warrants value and the beneficial conversion value are discounted against the Notes and are being amortized as interest expense using the effective interest method over the term of the Notes.   The warrant and beneficial conversion feature exceeded the face value of the note.  The total debt discount as of December 31, 2010 and 2009, was $2,660,015 and $4,195,050, respectively, net of total amortization for the twelve months ended December 31, 2010 and 2009 of $3,316,914 and $1,449,214, respectively.
 
F-12
 
 

 
2008 CONVERTIBLE NOTES

In 2008, we sold $4,457,000, which came due in 2010. As of December 31, 2010, $3,707,000 principal and $651,893 interest was converted into stock, and $250,000 was repaid resulting in an ending balance of $500,000. Of the $500,000, $100,000 was extended to April 12, 2012 and $400,000 was in default.   Subsequent to the period ended December 31, 2010, $100,000 was redeemed in March 2011, and the remaining $300,000 was converted into common stock in April 2011.

Of the total principal balance outstanding of $6,013,000 and $8,204,000 at December 31, 2010 and 2009, $3,968,500 and $2,884,500, respectively represents related party convertible notes.

 
AMORTIZATION ON CONVERTIBLE NOTES
 
For the twelve months ending December 31, 2010, the Company recognized debt discount amortization in the amount of $3,316,914.For the twelve months ending December 31, 2009, the Company recognized debt discount amortization in the amount of $1,449,214.
 
The convertible note payable balance as of December 31, 2010 of $6,013,000, excluding the debt discount of $2,660,015, matures as follows:
 
Year Ended                               Principal
     2010                                              500,000
  2011                                           3,697,000
  2012                                           1,816,000
  2013                                                        -
  2014                                                        -
 
Total                                           6,013,000
 
NOTE 9 - PREFERRED STOCK
 
Between June 3 and 7, 2010, we entered into 5 private placement subscription agreements with investors pursuant to which we sold 92.1 units consisting of Preferred Stock and warrants, for an aggregate offering price of $921,000.   Each of the units (individually, a “Unit” and collectively, the “Units”) consists of 2,000 shares of the Series I 8% Convertible Preferred Stock (“Preferred Stock”) at an Original Issue Price of $5.00 per share, with  rights to:  (i) a dividend which accrues cumulatively on a daily basis at the rate of 8% per annum of the Original Issue Price payable in shares of the Common Stock; (ii) conversion into such a number of shares of Common Stock determined by dividing the Original Issue Price by the Conversion Price, initially, $1.00; (iii) a liquidation preference equal to the sum of the Original Issue Price and an amount equal to 8% of the Original Issue Price for each 12 months that passed since the date of issuance of any of the Preferred Stock; and (iv) mandatory redemption, by the Company, 24 months from the date of issuance of the Preferred Stock at a redemption price equal to the Original Issue Price plus any accrued but unpaid dividends.  The dividend component on liquidation and redemption is payable in shares of the Common Stock of the Company.  Payment of the dividend, mandatory redemption and any provisions requiring payment on the Preferred Stock are deferred until the 2008 Notes due in 2010 and the 2009 Notes due in 2011 and 2012 are paid in full.  Such deferral, even if the maturity dates on the Notes are extended, will not constitute a default under the Preferred Stock terms.  The Preferred Stock terms may be amended by the Company and the consent of the holders of the majority of the outstanding shares and such majority may also waive an adjustment to the Conversion Price.

The Preferred Stock is convertible into a total of 921,000 shares of Common Stock.  The Investors also received one five-year warrant for each Unit purchased, to purchase 15,000 shares of Common Stock per unit with an exercise price of $1.50 per share (“Warrants”).  The total warrants issued to the investors were 1,381,500.  Brightline Ventures I, LLC, invested $782,000 of the total amount set forth in the preceding paragraph.  Current Z Trim Director Edward Smith, III,  is a managing partner of Brightline Capital Management, LLC, which is the investment manager of Brightline Ventures I, LLC.  Further, current Z Trim Director Morris Garfinkle invested $30,000 of the total amount set forth in the preceding paragraph.
 
We also entered into registration rights agreements pursuant to which we have agreed to file with the Securities and Exchange Commission a registration statement covering the resale of the Common Stock underlying the Preferred Stock and Warrants.
 
The descriptions herein are qualified in their entirety by reference to the copies of the forms of the Subscription Agreement, the Warrant, and the Registration Rights Agreement which are attached as exhibits hereto.
 
On July 29, 2010 the Company filed a registration statement with the SEC covering all of the shares of common stock underlying the Series 1 Preferred Stock, dividends thereon, and accompanying warrants, purchased by the 5 investors between June 3 and 7, 2010.  This registration statement was made effective by the SEC on August 5, 2010.

On September 7, 2010, we entered into a private placement subscription agreement with an investor pursuant to which we sold 30 units consisting of Preferred Stock and warrants, for an aggregate offering price of $300,000.   Each of the units (individually, a “Unit” and collectively, the “Units”) consists of 2,000 shares of the Series I 8% Convertible Preferred Stock (“Preferred Stock”) at an Original Issue Price of $5.00 per share, with  rights to:  (i) a dividend which accrues cumulatively on a daily basis at the rate of 8% per annum of the Original Issue Price payable in shares of the Common Stock; (ii) conversion into such a number of shares of Common Stock determined by dividing the Original Issue Price by the Conversion Price, initially, $1.00; (iii) a liquidation preference equal to the sum of the Original Issue Price and an amount equal to 8% of the Original Issue Price for each 12 months that passed since the date of issuance of any of the Preferred Stock; and (iv) mandatory redemption, by the Company, 24 months from the date of issuance of the Preferred Stock at a redemption price equal to the Original Issue Price plus any accrued but unpaid dividends.  The dividend component on liquidation and redemption is payable in shares of the Common Stock of the Company.  Payment of the dividend, mandatory redemption and any provisions requiring payment on the Preferred Stock are deferred until the 2008 Notes due in 2010 and the 2009 Notes due in 2011 and 2012 are paid in full.  Such deferral, even if the maturity dates on the Notes are extended, will not constitute a default under the Preferred Stock terms.  The Preferred Stock terms may be amended by the Company and  the consent of the holders of the majority of the outstanding shares and such majority may also waive an adjustment to the Conversion Price.
 
The Preferred Stock is convertible into a total of 300,000 shares of Common Stock.  The investor also received one five-year warrant for each Unit purchased, to purchase 15,000 shares of Common Stock per unit with an exercise price of $1.50 per share (“Warrants”).  The total warrants issued to the investor were 450,000.  Brightline Ventures I, LLC, invested $300,000 of the total amount set forth in the preceding paragraph.  Current Z Trim Director Edward Smith, III, is a managing partner of Brightline Capital Management, LLC, which is the investment manager of Brightline Ventures I, LLC.  
 
We also entered into registration rights agreements pursuant to which we have agreed to file with the Securities and Exchange Commission a registration statement covering the resale of the Common Stock underlying the Preferred Stock and Warrants.
 
The descriptions herein are qualified in their entirety by reference to the copies of the forms of the Subscription Agreement, the Warrant, and the Registration Rights Agreement which are attached as exhibits to the Form 8-K filed by the Company on June 7, 2010.

Between October 13 and November 12, 2010, we entered into private placement subscription agreements with Brightline, and sold 22.6 Units consisting of Preferred Stock and warrants, for an aggregate offering price of $226,000, under the same terms and conditions as set forth above.  The Preferred Stock is convertible into a total of 226,000 shares of Common Stock, and Brightline received an additional 339,000 warrants with an exercise price of $1.50 per share.

Between December 15 and 29, 2010, we entered into 2 private placement subscription agreements with investors pursuant to which we sold 333.7291 units consisting of Preferred Stock and warrants, for an aggregate offering price of $3,337,291. Each of the units (individually, a “Unit” and collectively, the “Units”) consists of 2,000 shares of the Series I 8% Convertible Preferred Stock (“Preferred Stock”) at an Original Issue Price of $5.00 per share, with rights to: (i) a dividend which accrues cumulatively on a daily basis at the rate of 8% per annum of the Original Issue Price payable in shares of the Common Stock; (ii) conversion into such a number of shares of Common Stock determined by dividing the Original Issue Price by the Conversion Price, initially, $1.00; (iii) a liquidation preference equal to the sum of the Original Issue Price and an amount equal to 8% of the Original Issue Price for each 12 months that passed since the date of issuance of any of the Preferred Stock; and (iv) mandatory redemption, by the Company, 24 months from the date of issuance of the Preferred Stock at a redemption price equal to the Original Issue Price plus any accrued but unpaid dividends. The dividend component on liquidation and redemption is payable in shares of the Common Stock of the Company. Payment of the dividend, mandatory redemption and any provisions requiring payment on the Preferred Stock are deferred until the 2008 Notes due in 2010 and the 2009 Notes due in 2011 and 2012 are paid in full. Such deferral, even if the maturity dates on the Notes are extended, will not constitute a default under the Preferred Stock terms. The Preferred Stock terms may be amended by the Company and the consent of the holders of the majority of the outstanding shares and such majority may also waive an adjustment to the Conversion Price.
F-13
 
 

 
The Preferred Stock is convertible into a total of 3,337,291 shares of Common Stock. The Investors also received one five-year warrant for each Unit purchased, to purchase 15,000 shares of Common Stock per unit with an exercise price of $1.50 per share (“Warrants”). The total warrants issued to the investors were 5,005,937. Brightline Ventures I, LLC, invested $3,087,291 of the total amount set forth in the preceding paragraph. Current Z Trim Director Edward Smith, III, is a managing partner of Brightline Capital Management, LLC, which is the investment manager of Brightline Ventures I, LLC.
 
We continue to negotiate a registration rights agreement with Brightline pursuant to which we will agree to file with the Securities and Exchange Commission a registration statement covering the resale of the Common Stock underlying the Preferred Stock and Warrants.
 
The descriptions herein are qualified in their entirety by reference to the copies of the forms of the Subscription Agreement, the Warrant, which are attached as exhibits to the Form 8-K filed by the Company on June 7, 2010.
 
We determined that all of the securities sold and issued in the private placement were exempt from registration under the Securities Act of 1933, as amended (the “Act”) pursuant to Section 4(2) of the Act and Rule 506 of Regulation D promulgated under the Act. We based this determination on the non-public manner in which we offered the securities and on the representations of the persons purchasing such securities, which included, in pertinent part, that such persons were “accredited investors” within the meaning of Rule 501 of Regulation D promulgated under the Act, and that such persons were acquiring such securities for investment purposes for their own respective accounts and not as nominees or agents, and not with a view to resale or distribution, and that each such person understood such securities may not be sold or otherwise disposed of without registration under the Act or an applicable exemption therefrom.
 
NOTE 10 - LIQUIDATED DAMAGES

In connection with certain private placements of the Company’s securities (the “Registrable Securities”) effected in 2008 the Company entered into registration rights agreements (the “RRA”) that required the Company to file a registration statement covering the Registrable Securities with the Securities and Exchange Commission no later than thirty days after the final closing as contemplated in the Private Placement Memorandum for the 2008 offering (the “Filing Deadline”).  The Company filed a registration statement on December 14, 2009. However, the statement has not been declared effective as the Company is not S-3 eligible and will need to file an amended filing to convert the S-3 to an S-1. Management filed the S-1 on May 25, 2010. Under the terms of the registration rights agreement, as partial compensation, the Company may be required to make pro rata payments to each Investor in an amount equal to 1.5% of the aggregate amount invested by such Investor for each 30-day period or pro rata for any portion thereof following the Filing Deadline for which no registration statement was filed.  We obtained a release and waiver of the amounts due from 74 of the 2008 investors.  As of December 31, 2010, there are 5 investors who have yet to sign the release and waiver.  Under the terms of the RRA, as of that date we potentially owe, and recognized as liquidated damages, the amount of $111,028.

NOTE 11 –DERIVATIVE LIABILITIES
 
The Company’s warrants and its Convertible 8% Senior Secured Notes issued in 2010, 2009, and 2008 have reset provisions to the exercise price and conversion price if the Company issues equity or other derivatives at a price less than the exercise price set forth in such warrants and notes. This ratchet provision results in a derivative liability in our financial statements.

Our derivative liabilities increased from $10,258,578 at December 31, 2009 to $13,528,355 at December 31, 2010. As of January 1, 2009, the fair value of these warrants of $2,219,530 was recognized and resulted in a cumulative effect adjustment to accumulated deficit of $86,002,406. The change in fair value during the year ended December 31, 2010 resulted in a gain of $2,434,939 of which $507,028 is recorded as a derivative loss for a total change of $1,927,911. The change in fair value during the year ended December 31, 2009 of $4,319,048. $3,623,519 is recorded as a derivative loss, $632,982 is included in selling, general, and administrative expenses for warrants issued for services, and $62,547 is included in settlement loss for warrants issued for accounts payable.
  
The following tabular presentation reflects the components of derivative financial instruments on the Company’s balance sheet at December 31, 2010 and December 31, 2009:
 

 
December 31, 2010
December 31, 2009
         
Common stock warrants
 
9,041,049
 
5,387,788
Embedded conversion features –part of note discount
 
4,487,306
 
4,897,790
         
Total
$
13,528,355
$
10,285,578
 

 
December 31, 2010
December 31, 2009
 
Cumulative Effect
-
 
2,219,530
 
Beginning Balance
10,285,578
 
-
 
Bifurcated Amount
 6,560,569
 
3,747,000
 
 Change in Derivative Liability
(1,927,911)
 
4,319,048
 
 Change in Derivative Liability-Conversion
(1,389,881)
 
4,319,048
 
Total
$         13,528,355
 
$        10,285,578
 
 
NOTE 12–EQUITY
 
COMMON STOCK ISSUED FOR SETTLEMENT
 
On May 1, 2009, we entered into private placement subscription agreements pursuant to which we sold 6 units consisting of shares of common stock and warrants, for an aggregate offering price of $60,000.  Each of the units (individually, a "Unit" and collectively, the "Units") consists of 10,000 shares of unregistered common stock plus one five-year warrant, one to purchase 15,000 shares of Common Stock per unit with an exercise price of $1.50 per share ("Warrants").  A total of 60,000 shares of common stock and 90,000 warrants are to be issued pursuant to the terms of this offering.  All such Units were sold pursuant to an agreement with an equipment supplier whereby the Company agreed to apply $60,000 of unpaid and past due amounts towards the purchase and installation of two boilers, to the purchase of the 6 Units.  The equipment supplier agreed to accept such Units as payment for the $60,000 of unpaid and past due amounts.

We determined that all of the securities issued pursuant to the agreement were exempt from registration under the Securities Act of 1933, as amended (the “Act”) pursuant to Section 4(2) of the Act and Rule 506 of Regulation D promulgated under the Act. We based this determination on the non-public manner in which we offered the securities and on the representations of the persons purchasing such securities, which included, in pertinent part, that such persons were "accredited investors" within the meaning of Rule 501 of Regulation D promulgated under the Act, and that such persons were acquiring such securities for investment purposes for their own respective accounts and not as nominees or agents, and not with a view to resale or distribution, and that each such person understood such securities may not be sold or otherwise disposed of without registration under the Act or an applicable exemption there from. 
 
F-14
 
 

 
COMMON STOCK ISSUED FOR SERVICES
 
In 2010, the Board of Directors approved a grant of 30,000 shares of common stock to each of the Company’s   four external directors.  A tax gross up of up to 35% was included, not to exceed $10,000.  120,000 shares were granted on January 4, 2010, with a fair market value of $234,000   based on the closing price of stock on the grant date.
 
On April 27, 2009, the Company entered into an Investment Banking Agreement with Legend Securities, Inc. ("Legend"), pursuant to which Legend agreed to provide business advisory services to us for a period of up to twelve months. In exchange for Legend's services, we agreed to issue Legend a warrant to purchase 350,000 shares of our common stock at an exercise price per share equal to $1.10 per share. On January 7, 2010 the parties agreed to mutually terminate that agreement, and to cancel the Company's obligation to issue the 350,000 warrants.  In return, the Company has agreed to issue Legends 100,000 shares of Common Stock for a total value of $140,000.
 
Also on January 7, 2010, the parties entered into a new Investment Banking Agreement with Legend, pursuant to which Legend agreed to provide business advisory services for us for a period of up to twelve months.  In exchange for Legend's services, we agreed to pay Legend the sum of $6,250 per month, as well as a onetime fee of 250,000 shares of Common Stock for a total value of $350,000.  Under the Investment Banking Agreement, we also agreed to give Legend unlimited "piggy back" registration rights with respect to the shares of our common stock in any registration statement filed by us in connection with an underwritten offering of our common stock.
 
COMMON STOCK ISSUED FOR DEBT CONVERSION
 
Between January 4 and June 30, 2010, Z Trim Holdings, Inc. (the "Company") issued 1,700,603 shares of  its common stock, $.00005 par value per share, upon conversion to common stock of $1.45 million principal amount of its 8% Convertible Secured Notes Due in 2010 (the "Notes"), as well as interest of $229,841 on such notes. As a result of the conversion of the Notes into common stock, the Company has reduced its total outstanding convertible debt to $8,530,000 and increased its common stock and additional-paid-in capital by an aggregate of $1,700,603.
 
Between July 1 and September 30, 2010, Z Trim Holdings, Inc. (the "Company") issued 2,662,520 shares of  its common stock, $.00005 par value per share, upon conversion to common stock of $2.672 million principal amount of its 8% Convertible Secured Notes Due in 2010 (the "Notes"), as well as interest of $415,120 on such notes. As a result of the conversion of the Notes into common stock, the Company has reduced its total outstanding convertible debt to $6,283,000 and increased its common stock and additional-paid-in capital by an aggregate of $2,662,520.
 
Between October 1 and December 31, 2010, Z Trim Holdings, Inc. (the "Company") issued 49,853 shares of  its common stock, $.00005 par value per share, upon conversion to common stock of $40,000 principal amount of its 8% Convertible Secured Notes Due in 2010 (the "Notes"), as well as interest of $9,853 on such notes. As a result of the conversion of the Notes into common stock, the Company has reduced its total outstanding convertible debt to $6,013,000 and increased its common stock and additional-paid-in capital by an aggregate of $49,853.
 
All debt was converted into Common Stock at the stated conversion price and terms pursuant to the respective convertible debenture agreement therefore, there was no gain or loss recorded at date of conversion.
 
 
COMMON STOCK ISSUED ON THE EXERCISE OF WARRANTS AND/OR OPTIONS
 
During 2010, 108,172 stock warrants were exercised for cash of $17,505, and no options were exercised.  In 2009, 4,365 warrants were exercised for cash, and no options were exercised.
 
 
COMMON STOCK ISSUED ON THE CASHLESS EXERCISE OF WARRANTS
 
During 2010, the company issued 293,742 shares of common stock on the cashless exercise of warrants. 51,927 shares of common stock were issued on the cashless exercise of warrants in 2009.
 
 
NOTE 13 – STOCK OPTION PLAN AND WARRANTS
 
EXERCISING OPTIONS AND WARRANTS
 
During 2010, 108,172 stock warrants were exercised, and no options were exercised.  In 2009, 4,365 stock warrants were exercised and no options were exercised.  During 2010, the company issued 293,742 shares of common stock on the cashless exercise of warrants. During 2009, the company issued 51,927 shares of common stock on the cashless exercise of warrants.
 
A summary of the status of the warrants issued by the Company as of December 31, 2010 and 2009 are as follows:
 

                 
   
Year  Ended
     
Year  Ended
   
   
12/31/2010
     
12/31/2009
   
   
Number of Shares
Weighted Average Exercise Price
Number of Shares
Weighted Average Exercise Price
Outstanding at beginning of year
 
       9,682,380
 
$1.61
 
       1,084,368
 
$7.55
Granted
 
       9,900,437
 
$1.50
 
     10,356,465
 
$1.46
Exercised
 
         (108,172)
 
$0.16
 
             (4,365)
 
$1.00
Cashless
 
         (344,892)
 
$0.19
 
(57,051)
 
$0.09
Expired and Cancelled
 
         (350,000)
 
$1.10
 
(1,697,037)
 
$4.55
   
     18,779,753
     
       9,682,380
   
                 
Outstanding, end of period
 
     18,779,753
 
$1.59
 
       9,682,380
 
$1.61
                 
Unexercisable at end of period
         
           (87,500)
   
Exercisable at end of period
 
     18,779,753
 
$1.62
 
       9,594,880
 
$1.61
 
As of December 31, 2010 and 2009, the Company has warrants outstanding to purchase 18,779,754 and 9,594,880 shares of the Company’s common stock, respectively, at prices ranging from $0.01 to $36.00 per share.  These warrants expire at various dates through December of 2015.   There were 9,900,437 and 10,356,465 warrants issued in 2010 and 2009 respectively.  The fair value of the option granted are included in the derivative liability calculation as the warrant agreements contain reset provisions to the exercise price.
 
F-15
 
 
 

 
STOCK OPTION PLAN
 
The Company has a Stock Option Plan (the Plan) effective January 2, 1999 and amended in 2002 and 2004, which provides for the issuance of qualified options to all employees and non-qualified options to directors, consultants and other service providers.
 
A summary of the status of stock options issued by the Company as of December 31, 2010 and 2009 are as follows:
 
   
12/31/2010
   
12/31/2009
 
     
Weghted
   
Weghted
   
Number
Average
 
Number
Average
   
of
Exercise
 
of
Exercise
   
Shares
Price
 
Shares
Price
Outstanding at beginning of year
 
     1,405,062
 $           0.66
 
        431,073
 $         32.04
Granted
 
     3,767,500
 $           1.21
 
     1,320,000
 $           0.45
Exercised
 
                    -
 $               -
 
                    -
 $               -
Expired and Cancelled
 
   (1,687,729)
 $           2.18
 
      (346,011)
 $         31.24
Outstanding at end of period
 
     3,484,833
 $           0.52
 
     1,405,062
 $           2.56
             
Exercisable at end of period
 
     3,401,333
 $           1.29
 
     1,405,062
 $           0.66
 
At December 31, 2010, the aggregate intrinsic value of all outstanding options was $0 of which 3,401,333 outstanding options are currently exercisable at a weighted average exercise price of $1.29 and a weighted average remaining contractual term of 1.2 years.
 
The fair value of each stock option granted is estimated on the date of grant using the Black-Scholes option valuation model.  This model uses the assumptions listed in the table below.  Expected volatilities are based on the historical volatility of the Company’s stock.  The risk-free rate for periods within the expected life of the option is based on the U.S. Treasury yield curve in effect at the time of grant.
 
 
2010
 
2009
Weighted average fair value per option granted
 $                       0.93
 
 $                       0.43
Risk-free interest rate
0.87%
 
           1.99 - 2.99%
Expected dividend yield
0.00%
 
0.00%
Expected lives
 1 - 2.5
 
 1 - 2.5
Expected volatility
185.39 - 191.63%
 
130.25 - 250.50%
 
During 2010, the Company granted 3,767,500 options to employees of which 1,882,500 shares were reissued after retiring 1,255,000 shares issued in 2009.  55% of the options were fully vested at the grant date.  The remaining 45% vested every three months with the options becoming fully vested August 10, 2011.  At December 31, 2010, the Company recognized a total of $2,882,168 in stock based compensation related to the options granted above.
 
As of December 31, 2010, the Company had reserved 16,271,834 million shares of Common Stock to be issued upon the exercise of qualified options issued under the Plan.  As of December 31, 2009 the Company had 6,117,536 million shares available for grant under the Plan.
 
Stock options outstanding at December 31, 2010 are as follows:                                                                                                           
 
       
Weighted
       
       
Average
 
Weighted
   
Range of
     
Remaining
 
Average
   
Exercise
 
Options
 
Contractual
 
Exercise
 
Options
Prices
 
Outstanding
 
Life
 
Price
 
Exercisable
$0.01-$1.50
 
            3,251,500
 
               6.6
 
 $       1.52
 
            3,168,000
$1.51-$3.00
 
               225,000
 
               3.3
 
 $       1.10
 
               225,000
$3.01 & over
 
                   8,333
 
               1.1
 
 $     40.80
 
                   8,333
   
            3,484,833
 
               5.0
 
          1.29
 
            3,401,333

F-16
 
 

 
 
NOTE 14 – SETTLEMENT LOSSES

On August 4, 2010, the Company was served with a complaint by Daniel Caravette, alleging the Company breached the parties’ settlement agreement dated April 24, 2008 and seeking damages in excess of $75,000.  The was tried in September of 2010 before the Circuit Court of the Nineteenth Judicial District, Lake County, Illinois. The Court awarded a final judgment in favor of Mr. Caravette in the amount of $47,139.81 plus approximately $31,000 in attorneys’ fees and costs.  The Company has filed an appeal of this award however has accrued $78,140 as of December 31, 2010.

On May 1, 2009, we entered into private placement subscription agreements pursuant to which we sold 6 units consisting of shares of common stock and warrants, for an aggregate offering price of $60,000.  Each of the units (individually, a "Unit" and collectively, the "Units") consists of 10,000 shares of unregistered common stock plus one five-year warrant, one to purchase 15,000 shares of Common Stock per unit with an exercise price of $1.50 per share ("Warrants").  A total of 60,000 shares of common stock and 90,000 warrants are to be issued pursuant to the terms of this offering.  All such Units were sold pursuant to an agreement with an equipment supplier whereby the Company agreed to apply $60,000 of unpaid and past due amounts towards the purchase and installation of two boilers, to the purchase of the 6 Units.  The equipment supplier agreed to accept such Units as payment for the $60,000 of unpaid and past due amounts.
 
On June 29, 2009, the Company entered into a Material Definitive Agreement with its landlord, whereby the Company agreed to apply $130,000 of unpaid and past due rent owed to such landlord, to the purchase of 13 Units pursuant to the terms of the offering set forth above. The landlord agreed to accept such Units as payment for the $130,000 of unpaid and past due rent.
 
The amount of the settlement losses for the twelve months ended December 31, 2009 was $103,137, comprised of the fair value of the investments, above the debts owed by the Company, made by the equipment supplier and landlord as set forth above.
 
 
NOTE 15 – INCOME TAXES
 
During 2010 and 2009, the Company incurred net losses, and therefore had no tax liability.  The net deferred tax asset generated by the loss carry forward has been fully reserved.  The cumulative net loss carry forward is approximately $75,736,602 and $64,822,705 for the years ended December 31, 2010 and 2009 respectively, and will expire in the years 2019 through 2030.
 
 
At December 31, 2010, the net deferred tax asset consisted of the following:
 
 
Net Operating Loss                                                       $19,867,291
        Less:  Valuation allowance                                          ($19,867,291)
     Net Deferred tax asset                                               $_____       -
 

After evaluating our own potential tax uncertainties, the Company has determined that there are no material uncertain tax positions that have a greater than 50% likelihood of reversal if the Company were to be audited.  Our tax return for the year ended December 31, 2010 may be subject to IRS audit.
 
NOTE 16 – MAJOR CUSTOMERS AND CONCENTRATIONS
The Company’s customers are food manufacturers, school districts and the general public.  There were three significant customers who accounted for 26%, 24% and 21% of total sales for the year ended December 31, 2010.  There were three significant customers who accounted for 20%, 20% and 14% of total sales for the year ended December 31, 2009.  Further, two significant customers accounted for 57% and 27% of the total accounts receivable for the year ended December 31, 2010.  Two significant customers accounted for 78% and 11% of the total accounts receivable for the year ended December 31, 2009.
 
The Company maintains cash deposits with major banks, which from time to time may exceed federally insured limits.  At December 31, 2010 and 2009, $2,327,013 and $324,874 a, respectively, were in excess of federally insured limits.  The Company periodically assesses the financial condition of the institutions and believes that the risk of any loss is minimal.
 
 
NOTE 17 – COMMITTMENTS
 
Building Lease
 
The Company leases a combined production and office facility located in Mundelein, Illinois.  The facility is approximately 44,000 square feet.  The Company extended the lease until March 2012 and the required monthly rental payments increased to $21,000, exclusive of property taxes.   The Company also is responsible for payment of all property taxes.  Insurance and maintenance are billed when due.  If we were to lose this lease or not be able to extend our lease due to the specific requirements of our Company, the outcome to our operations could be substantial.
 
The Company recognizes escalating lease expense on a straight line basis in accordance with current accounting standards.
 
The future minimum annual rental payments and sub-lease income for the years ended December 31 under the lease terms are as follows:

 
 
Year Ended
Rentals
2011
                  273,035
2012
                    63,000
2013
                           -
2014
                           -
2015
                           -
 
 $               336,035
 
The total rent expense for the years ended December 31, 2010 and 2009, respectively, was $322,308 and $351,472.
 
F-17
 

 
 

 

NOTE 18– PENDING LITIGATION/ CONTINGENT LIABILITY

On July 7, 2007, the Company was served with a complaint by Joseph Sanfilippo and James Cluck for violation of the Consumer Fraud Act and is seeking damages in excess of $200,000.  Management believes that the allegations are frivolous and wholly without merit and will vigorously defend the claim. The Company currently has a Motion to dismiss pending in the Circuit Court, Twentieth Judicial Circuit, St. Clair County, Illinois.  The pleadings are still at issue and discovery is underway.  Thus, the outcome is unknown as of the report date.

On August 4, 2010, the Company was served with a complaint by Daniel Caravette, alleging the Company breached the parties’ settlement agreement dated April 24, 2008 and seeking damages in excess of $75,000.  The was tried in September of 2010 before the Circuit Court of the Nineteenth Judicial District, Lake County, Illinois. The Court awarded a final judgment in favor of Mr. Caravette in the amount of $47,140 plus approximately $31,000 in attorneys’ fees and costs for a total of $78,140.  The Company has filed an appeal of this award.
 
NOTE 19 – GUARANTEES
 
The Company from time to time enters into certain types of contracts that contingently require the Company to indemnify parties against third party claims. These contracts primarily relate to: (i) divestiture agreements, under which the Company may provide customary indemnifications to purchasers of the Company’s businesses or assets; (ii) certain real estate leases, under which the Company may be required to indemnify property owners for environmental and other liabilities, and other claims arising from the Company’s use of the applicable premises; and (iii) certain agreements with the Company's officers, directors and employees, under which the Company may be required to indemnify such persons for liabilities arising out of their employment relationship.  The terms of such obligations vary. Generally, a maximum obligation is not explicitly stated. Because the obligated amounts of these types of agreements often are not explicitly stated, the overall maximum amount of the obligations cannot be reasonably estimated. Historically, the Company has not been obligated to make significant payments for these obligations, and no liabilities have been recorded for these obligations on its consolidated balance sheet as of December 31, 2010.
 
In general, the Company offers a one-year warranty for most of the products it sold.  To date, the Company has not incurred any material costs associated with these warranties.

 
NOTE 20 – RELATED PARTY TRANSACTIONS
 
On April 15, 2009, two of the Company’s external Directors, Mark Hershhorn and Brian Israel each agreed to apply $20,000 of unpaid Directors’ fees (80% of which is past due), to the purchase of Units pursuant to the terms of the convertible notes set forth in Note 8 hereinabove.  Further, our third external director, Morris Garfinkle, also invested $50,000 in the offering at the same time.

Of the total convertible debt principal balance outstanding of $6,013,000 and $8,204,000 at December 31, 2010 and 2009, $3,968,500 and $2,884,500, respectively were issued to related parties.
 
NOTE 21 – SUBSEQUENT EVENTS
 
On January 6, 2011, the Company issued 35,000 shares of the Company’s common stock to each of the four external directors for a total of 140,000 shares for director fees, valued at $147,000 based on the closing price of $1.05 per share at the date of grant.

On January 11, 2011, one investor exercised 20,833 warrants with an exercise price of $0.01 and 7,692 warrants with an exercise price of $0.30 into a total of 28,525 shares of the Company’s common stock valued at $2,520.  Another investor exercised 20,833 warrants with an exercise price of $0.01 into a total of 20,833 shares of the Company’s common stock valued at $208.

On February 9, 2011, the Company entered into an Investment Banking Agreement with Legend Securities, Inc. ("Legend"), pursuant to which Legend agreed to provide business advisory services to us for a period of up to twelve months. In exchange for Legend's services, we agreed to pay Legend the sum of $10,000 per month and to issue Legend a onetime fee of 350,000 shares of Common Stock. Per the agreement, the shares will be issued as follows: 87,500 1 day after the effective date, 87,500 90 days after the effective date, 87,500 180 days after the effective date and 87,500 270 days after the effective date.  Therefore, as of March 23, 2011, 87,500 are recorded in stock payable.  If the Company files a registration statement within the next 6 months, the Company agrees to seek to register such shares on any such registration statement.
 
We determined that all of the securities issued pursuant to the agreement were exempt from registration under the Securities Act of 1933, as amended (the "Act") pursuant to Section 4(2) of the Act and Rule 506 of Regulation D promulgated under the Act. We based this determination on the non-public manner in which we offered the securities and on the representations of the persons purchasing such securities, which included, in pertinent part, that such persons were "accredited investors" within the meaning of Rule 501 of Regulation D promulgated under the Act, and that such persons were acquiring such securities for investment purposes for their own respective accounts and not as nominees or agents, and not with a view to resale or distribution, and that each such person understood such securities may not be sold or otherwise disposed of without registration under the Act or an applicable exemption therefrom.
 
The description of the terms of sale of the securities described in this report is qualified in its entirety by reference to the full text of the underlying document which has been filed as exhibits to the Company’s Form 8-K filed with SEC on February 11, 2011.

On March 1, 2011, an investor converted his 2009 convertible note consisting of $100,000 principal and $12,844 interest at a conversion price of $1.00 into 112,844 shares of the Company’s common stock valued at $112,844.

On March 15, 2011, an investor converted the outstanding interest of his convertible note at a conversion price of $1.00 into 9,567 shares of the Company’s common stock valued at $9,567.

On March 17, 2011, investor converted the outstanding interest of his convertible note at a conversion price of $1.00 into 4,235 shares of the Company’s common stock valued at $4,235.
 
F-18
 
 

 
On March 18, 2011, we entered into a private placement subscription agreement with New York-based investment firm Brightline Ventures I, LLC ("Brightline"), pursuant to which we sold 332.6697 units consisting of Preferred Stock and warrants, for an aggregate offering price of $3,326,697. Each of the units (individually, a “Unit” and collectively, the “Units”) consists of 2,000 shares of the Series II 8% Convertible Preferred Stock (“Series II Preferred Stock”) at an Original Issue Price of $5.00 per share, with rights to: (i) a dividend which accrues cumulatively on a daily basis at the rate of 8% per annum of the Original Issue Price payable in shares of the Common Stock; (ii) conversion into such a number of shares of Common Stock determined by dividing the Original Issue Price by the Conversion Price, initially, $1.00; (iii) a liquidation preference equal to the sum of the Original Issue Price and an amount equal to 8% of the Original Issue Price for each 12 months that passed since the date of issuance of any of the Series II Preferred Stock; and (iv) mandatory redemption, by the Company, 24 months from the date of issuance of the Series II Preferred Stock at a redemption price equal to the Original Issue Price plus any accrued but unpaid dividends. The dividend component on liquidation and redemption is payable in shares of the Common Stock of the Company. Payment of the dividend, mandatory redemption and any provisions requiring payment on the Series II Preferred Stock are deferred until the 2008 Notes due in 2010 and the 2009 8% Senior Secured Convertible Notes due in 2011 and 2012 (the "2009 Notes")  are paid in full or until any such restrictions are waived. Such deferral, even if the maturity dates on the Notes are extended, will not constitute a default under the Series II Preferred Stock terms.
 
The Series II Preferred Stock terms may be amended by the Company and the consent of the holders of the majority of the outstanding shares of Preferred Stock and such majority may also waive an adjustment to the Conversion Price.The Series II Preferred Stock is convertible into a total of 3,326,697 shares of Common Stock, exclusive of the shares of Common Stock issuable in connection with the 8% dividend. Brightline also received one five-year warrant for each Unit purchased, pursuant to which the holder may purchase 15,000 shares of Common Stock per Unit with an exercise price of $1.50 per share (“Warrants”). The total warrants issued were 4,990,046. Current Z Trim Director Edward Smith, III, is a managing partner of Brightline Capital Management, LLC, which is the investment manager of Brightline Ventures I, LLC.
 
We also entered into a registration rights agreement with Brightline pursuant to which we agreed to file with the Securities and Exchange Commission a registration statement covering the resale of the Common Stock underlying the Series II Preferred Stock and Warrants.  In connection with the offering, Brightline, as the holder of a majority of the warrants issued in connection with the 2009 Notes (the "2009 Warrants") waived any price adjustment with respect to the 2009 Warrants.  Brightline also waived any price adjustment with respect to the warrants issued in connection with the Series I 8% Convertible Preferred Stock (the "Series I Preferred Stock Warrants") it purchased from the Company.  The Company is in the process of obtaining similar waivers from the other holders of the Series I Preferred Stock Warrants and the 2009 Warrants.
 
The descriptions herein are qualified in their entirety by reference to the copies of the forms of the Series II terms, Subscription Agreement, the Warrant, and the Registration Rights Agreement which are attached as exhibits hereto.
 
We determined that all of the securities sold and issued in the private placement were exempt from registration under the Securities Act of 1933, as amended (the “Act”) pursuant to Section 4(2) of the Act and Rule 506 of Regulation D promulgated under the Act. We based this determination on the non-public manner in which we offered the securities and on the representations of the persons purchasing such securities, which included, in pertinent part, that such persons were “accredited investors” within the meaning of Rule 501 of Regulation D promulgated under the Act, and that such persons were acquiring such securities for investment purposes for their own respective accounts and not as nominees or agents, and not with a view to resale or distribution, and that each such person understood such securities may not be sold or otherwise disposed of without registration under the Act or an applicable exemption therefrom.

Between March 23 and April 12, the Company received requests from note holders to issue 4,412,923 shares of its common stock, upon conversion to common stock of $3,786,500 principal amount of its 8% Convertible Secured Notes Due in 2011 and 2012, as well as interest of $628,823 on the Notes.  Among those converting debt to equity were the Company’s external Board members, and the Company’s largest investor, Brightline Ventures I, LLC.  Of the approximately $10,000,000 in convertible debt that the Company issued in 2008, 2009 and 2010, the Company has reduced the convertible debt outstanding to $72,500 in Notes that come due in 2011, and $1,904,000 in Notes that come due in 2012.
 

F-19