LSCG Lighting Science Group Corporation (CE)

Note 1. Description of Business and Basis of Presentation

Overview

Lighting Science Group Corporation (the “Company”) was incorporated in Delaware in 1988 and designs, develops and markets general illumination products that exclusively use light emitting diodes (“LEDs”) as their light source. The Company’s product portfolio includes LED-based retrofit lamps (replacement bulbs) used in existing light fixtures and sockets as well as purpose built LED-based luminaires (light fixtures) for many common indoor and outdoor residential, commercial, industrial and public infrastructure lighting applications. The Company assembles and manufactures its products through its contract manufacturers in Asia.

Basis of Financial Statement Presentation

The accompanying unaudited condensed consolidated financial statements are presented pursuant to the rules and regulations of the United States Securities and Exchange Commission (the “SEC”) in accordance with the disclosure requirements for the quarterly report on Form 10-Q and therefore do not include all of the information and footnotes required by generally accepted accounting principles in the United States of America (“GAAP”) for complete financial statements. In the opinion of management, the unaudited condensed consolidated financial statements reflect all adjustments (consisting of normal recurring adjustments) necessary to fairly state the results for the interim periods presented. The condensed consolidated balance sheet as of December 31, 2015 is derived from the Company’s audited financial statements. Operating results for the three and nine months ended September 30, 2016 are not necessarily indicative of the results of the Company that may be expected for the year ending December 31, 2016. These unaudited condensed consolidated financial statements should be read in conjunction with the Company’s audited consolidated financial statements as of and for the year ended December 31, 2015 and notes thereto included in the Company’s Annual Report on Form 10-K filed with the SEC on April 14, 2016, as amended by the Annual Report on Form 10-K/A filed with the SEC on May 31, 2016.

The condensed consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. All significant intercompany accounts and transactions have been eliminated in the accompanying consolidated financial statements.

Note 2. Summary of Significant Accounting Policies

Use of Estimates

The preparation of the accompanying consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions about future events. These estimates and the underlying assumptions affect the amounts of assets and liabilities reported, disclosures about contingent assets and liabilities, and reported amounts of revenue and expenses. Such estimates include the valuation of accounts receivable, inventories, intangible assets and other long-lived assets, legal contingencies, and customer incentives, among others. These estimates and assumptions are based on management’s best estimates and judgment. Management evaluates its estimates and assumptions on an on -going basis using historical experience and other factors, including the current economic environment, which management believes to be reasonable under the circumstances. The Company adjusts such estimates and assumptions when facts and circumstances dictate. Illiquid credit markets, volatile equity, foreign currency and energy markets and declines in consumer spending have combined to increase the uncertainty inherent in such estimates and assumptions. As future events and their effects cannot be determined with precision, actual results could differ significantly from these estimates. Changes in those estimates resulting from continuing changes in the economic environment will be reflected in the financial statements in future periods.

Restricted Cash

As of September 30, 2016 and December 31, 2015, as required by the Company’s five-year term loan (as amended from time to time, the “Medley Term Loan”) with Medley Capital Corporation (“Medley”), the Company was required to maintain a minimum restricted cash balance of $3.0 million to collateralize the Medley Term Loan.

Accounts Receivable

The Company records accounts receivable at the invoiced amount when its products are shipped to customers or upon the completion of specific milestone billing requirements. The Company’s receivable balance is recorded net of allowances for amounts not expected to be collected from customers. This allowance for doubtful accounts is the Company’s best estimate of probable credit losses in the Company’s existing accounts receivable. Estimates used in determining the allowance for doubtful accounts are based on historical collection experience, aging of receivables and known collectability issues. The Company writes off accounts receivable when it becomes apparent, based upon age or customer circumstances that such amounts will not be collected. The Company reviews its allowance for doubtful accounts on a quarterly basis. Recovery of bad debt amounts previously written off is recorded as a reduction of bad debt expense in the period the payment is collected. Generally, the Company does not require collateral for its accounts receivable and does not regularly charge interest on past due amounts. As of September 30, 2016 and December 31, 2015, the Company’s allowance for doubtful accounts was $361,000 and $475,000, respectively.

As of September 30, 2016 and December 31, 2015, $5.8 million and $4.2 million, respectively, of eligible accounts receivable were pledged as collateral for the three-year asset based revolving credit facility (as amended from time to time, the “FCC ABL”) entered into on April 25, 2014 with FCC, LLC d/b/a First Capital (“First Capital”). First Capital sold the FCC ABL to ACF FinCo I LP (“Ares”) in May 2015, and the FCC ABL, as amended from time to time, is hereinafter referred to as the “Ares ABL”.

Revenue Recognition

The Company records revenue when its products are shipped and title passes to customers. When sales of products are subject to certain customer acceptance terms, revenue from such sales is recognized once these terms have been met. The Company also provides its customers with limited rights of return for non-conforming shipments or product warranty claims.

Product Warranties

The Company generally provides a five-year limited warranty covering defective materials and workmanship of its products and such warranty may require the Company to repair, replace or reimburse the purchaser for the purchase price of the product. The estimated costs related to warranties are accrued at the time products are sold based on various factors, including the Company’s stated warranty policies and practices, the historical frequency of claims and the cost to repair or replace its products under warranty. The following table summarizes changes in the warranty liability for the nine months ended September 30, 2016:

Fair Value Measurements

The Company utilizes valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs to the extent possible. The Company determines fair value based on assumptions that market participants would use in pricing an asset or liability in the principal or most advantageous market. When considering market participant assumptions in fair value measurements, the following fair value hierarchy distinguishes between observable and unobservable inputs, which are categorized in one of the following levels:

Fair Value of Financial Instruments

Cash and cash equivalents, accounts receivable, accounts payable, amounts due under lines of credit and other short term borrowings, accrued expenses and note payable are carried at amounts that approximate their fair value due to the short-term maturity of these instruments and/or variable interest rates.

The liabilities under derivative contracts, which represent warrants to purchase shares of the Company’s common stock, par value $0.001 per share (the “Common Stock”) were initially recorded at fair value and are adjusted for changes in fair value at the end of each reporting period. The fair value of the warrant (the THD Warrant”) issued to The Home Depot, Inc. (“The Home Depot”) is determined using the Monte Carlo valuation method and will be adjusted at each reporting date until the underlying shares have been earned for each year . Such adjustments will be recorded as a reduction in the related revenue (sales incentive) from The Home Depot . Once a portion of the THD Warrant vests it is recorded at its fair value at the end of each subsequent reporting period.

Recently Adopted Accounting Pronouncements

In April 2015, the Financial Accounting Standards Board (the “FASB”) issued ASU 2015-03 that intends to simplify the presentation of debt issuance costs. Debt issuance costs related to a recognized debt liability will be presented on the balance sheet as a direct deduction from the debt liability, similar to the presentation of debt discounts. ASU 2015-03 is effective for public business entities for fiscal years beginning after December 15, 2015, and interim periods within those fiscal years. Early adoption is permitted. The cost of issuing debt will no longer be recorded as a separate asset, except when incurred before receipt of the funding from the associated debt liability. The Company retrospectively adopted ASU 2015-03 as of January 1, 2016. The adoption of this guidance did not have a material impact on the condensed consolidated financial statements or notes to condensed consolidated financial statements.

In November 2015, the FASB issued ASU No 2015-17 to simplify the presentation of deferred income taxes by requiring that deferred tax assets and liabilities be classified as non-current in the balance sheet. The new guidance is effective for the annual period ending after December 15, 2016, and interim periods thereafter, with early adoption permitted. The Company retrospectively adopted ASU 2015-17 as of January 1, 2016. The adoption of this guidance did not have a material impact on the condensed consolidated financial statements or notes to condensed consolidated financial statements.

Recently Issued Accounting Pronouncements Not Yet Adopted

In May 2014, the FASB issued ASU 2014-09, which will replace most existing revenue recognition guidance in United States generally accepted accounting principles (“GAAP”) and is intended to improve and converge the financial reporting requirements for revenue from contracts with customers with International Financial Reporting Standards (“IFRS”). The core principle of ASU 2014-09 is that an entity should recognize revenue for the transfer of goods or services equal to the amount that it expects to be entitled to receive for those goods or services. ASU 2014-09 also requires additional disclosures about the nature, timing and uncertainty of revenue and cash flows arising from customer contracts, including significant judgments and changes in judgments. ASU 2014-09 allows for both retrospective and prospective methods of adoption and is effective for annual reporting periods beginning after December 15, 2017, and interim periods within those annual periods. Early application is permitted but not before annual reporting periods beginning after December 15, 2016. The Company is currently evaluating the method of adoption and the impact that the adoption of ASU 2014-09 will have on its consolidated financial statements.

In August 2014, the FASB issued ASU 2014-15 requiring management to perform interim and annual assessments of an entity’s ability to continue as a going concern within one year of the date the financial statements are issued. The standard also provides guidance on determining when and how to disclose going-concern uncertainties in the financial statements. The new guidance is effective for the annual reporting period ending after December 15, 2016, and interim periods thereafter, with early adoption permitted. The Company is currently evaluating the method of adoption and the impact that the adoption of ASU 2014-15 will have on its consolidated financial statements.

In July 2015, the FASB issued ASU 2015-11, “Inventory (Topic 330).” This update requires an entity to measure inventory within the scope of the update at the lower of cost and net realizable value. This update is effective for financial statements issued for fiscal years beginning after December 15, 2016, and interim periods within those fiscal years. The Company is currently evaluating the method of adoption and the impact that the adoption of ASU 2015-11 will have on its consolidated financial statements.

In February 2016, the FASB issued ASU 2016-02, “Leases (Topic 842)”. ASU 2016-02 introduces a lessee model that brings most leases on the balance sheet. The new standard also aligns many of the underlying principles of the new lessor model with those in ASC 606, the FASB's new revenue recognition standard (e.g., those related to evaluating when profit can be recognized). Furthermore, ASU 2016-02 addresses other concerns related to the current leases model. For example, ASU 2016-02 eliminates the requirement in current GAAP for an entity to use bright-line tests in determining lease classification. The standard also requires lessors to increase the transparency of their exposure to changes in value of their residual assets and how they manage that exposure. The Company is required to adopt ASU 2016-02 for periods beginning after December 15, 2018, including interim periods, with early adoption permitted. The Company is currently evaluating the method of adoption and the impact that the adoption of ASU 2016-02 will have on its consolidated financial statements.

Reclassification

Certain prior period amounts in the accompanying consolidated financial statements have been reclassified to conform to the current year presentation. These reclassifications had no effect on previously reported net loss or stockholders’ deficit.

Note 3. Liquidity and Capital Resources 

As shown in the condensed consolidated financial statements, the Company has experienced significant historical net losses as well as negative cash flows from operations since its inception, resulting in an accumulated deficit of $841.3 million and stockholders’ deficit of $565.4 million as of September 30, 2016. As of September 30, 2016, the Company had cash and cash equivalents of $1.5 million. The Company’s cash expenditures primarily relate to procurement of inventory, payment of salaries, employee benefits and other operating costs.

The Company continues to face challenges in its efforts to achieve profitability and positive cash flows from operations. The Company’s ability to continue to meet its obligations in the ordinary course of business, including continued payment to its trade creditors, is dependent upon establishing profitable operations, supplemented by additional funds that the Company may raise through public or private financing or increased borrowing capacity.

The Company’s primary sources of liquidity have historically been borrowings from Ares under the Ares ABL, from Medley under the Medley Term Loan and from other previous lenders, as well as sales of Common Stock and Convertible Preferred Stock to, and short-term loans from, affiliates of Pegasus Capital Advisors, L.P. (“Pegasus Capital”), including Pegasus Partners IV, L.P. (“Pegasus Fund IV”), LSGC Holdings, LLC (“LSGC Holdings”), LSGC Holdings II, LLC (“Holdings II”), LSGC Holdings III LLC (“Holdings III”) and PCA LSG Holdings, LLC (“PCA Holdings” and collectively with Pegasus Capital, Pegasus Fund IV, LSGC Holdings, Holdings II, Holdings III and their affiliates, “Pegasus”). Pegasus is the Company’s controlling stockholder. While Pegasus has led a majority of the Company’s capital raises, certain offerings of Convertible Preferred Stock also involved and/or were led by parties other than Pegasus.

The Company obtained the five-year, $30.5 million Medley Term Loan from Medley on February 19, 2014. Pursuant to the Medley Term Loan, the Company is required to achieve a minimum quarterly fixed charge coverage ratio for the preceding 12-month period and to maintain certain minimum quarterly EBITDA levels. The Company also maintains $3.0 million in restricted cash subject to a cash collateral dominion agreement pursuant to the Medley Term Loan.

The Company also obtained a revolving credit facility with a maximum line amount of $22.5 million from Ares which expires on April 25, 2017, pursuant to a Loan and Security Agreement (as amended from time to time, the “Ares ABL Agreement”). As of September 30, 2016, the Company had $9.2 million in borrowings outstanding under the Ares ABL Agreement and additional borrowing capacity of $861,000 . The maximum borrowing capacity under the Ares ABL Agreement is based on a formula of eligible accounts receivable and inventory. The Ares ABL Agreement also requires the Company to maintain certain minimum quarterly EBITDA levels for the preceding 12-month period.

Since January 1, 2015 , the Company issued an aggregate of 29,525 of its Series J Securities to Holdings III and issued 62 Series J Securities to certain existing preferred stockholders upon exercise of their preemptive rights under the certificates of designation governing the Convertible Preferred Stock. In each case, the Series J Securities were issued at a purchase price of $1,000 per Series J Security, and the Company received aggregate gross proceeds of approximately $29.6 million in connection with these issuances. Each Series J Security consists of (i) one share of Series J Convertible Preferred Stock (“Series J Preferred Stock”) and (ii) a warrant to purchase 2,650 shares of Common Stock, at an exercise price of $0.001 per share (the “Series J Warrants”).

In 2015 , the Company’s largest customer, The Home Depot, performed a periodic product line review relating to its entire private label LED lighting product offering. Following the line review, the Company entered into a new supplier buying agreement with The Home Depot, which went into full effect in the second quarter of 2016. Pursuant to this new supplier buying agreement, The Home Depot has elected to purchase certain products previously supplied by the Company directly from overseas suppliers. Such products represented a significant percentage of the Company’s sales to The Home Depot in 2015 and 2014. The Company was, however, selected to supply certain new products to The Home Depot and will continue to supply certain other products to The Home Depot under its prior agreement. In addition, the terms of the new supplier buying agreement with The Home Depot permit the Company to pursue opportunities to sell products to specified big box and other retailers, which was prohibited under its prior agreement. Notwithstanding the new supplier buying agreement, as was the case under the Company’s prior agreement with The Home Depot, The Home Depot is not required to purchase any minimum amount of products from the Company. As a result of the line review, and based on the Company’s results through the first nine months of 2016, the Company expects 2016 sales to The Home Depot to be significantly lower than in 2015.

RW LSG Holdings LLC (“Riverwood Holdings”) and Pegasus each have the right to cause the Company to redeem their shares of Series H Convertible Preferred Stock (“Series H Preferred Stock”) and Series I Convertible Preferred Stock (“Series I Preferred Stock” and, collectively with the Series H Preferred Stock and the Series J Preferred Stock, the “Convertible Preferred Stock”), respectively, at any time on or after March 27, 2017. If either Riverwood Holdings or Pegasus elects to cause the Company to redeem its shares of Series H Preferred Stock or Series I Preferred Stock, all other holders of the applicable series will similarly have the right to request the redemption of their shares of Convertible Preferred Stock. In addition, Portman Limited (“Portman”) and affiliates of Zouk Holdings Limited, acting together, have a contractual right to require the Company to redeem their respective shares of Series H Preferred Stock on or after March 27, 2017, subject to certain conditions and limitations. The Company is also required to redeem the outstanding shares of its Series J Preferred Stock (a) subject to certain limited exceptions, immediately prior to the redemption of the Series H Preferred Stock, Series I Preferred Stock or any other security that ranks junior to the Series J Preferred Stock and (b) on November 14, 2019, at the election of the holders of Series J Preferred Stock (a “Special Redemption”). Holders of Convertible Preferred Stock would also have the right to require the Company to redeem such shares upon the uncured material breach of the Company’s obligations under its outstanding indebtedness or the uncured material breach of the terms of the certificates of designation governing the Convertible Preferred Stock. Depending on whether the Appeal Bond (as defined below) has been drawn or fully released, the Series K Certificate of Designation requires us to redeem the outstanding shares of Series K Preferred Stock in the event of a liquidation, dissolution or winding up of the Company or an earlier change of control or “junior security redemption,” which includes events triggering a redemption of the outstanding shares of Convertible Preferred Stock. As of September 30, 2016, in the event the Company was required to redeem all of its outstanding shares of Convertible Preferred Stock and Series K Preferred Stock (collectively, the “Preferred Stock”), the Company’s maximum payment obligation would have been $540.2 million. The Company would be required to repay its outstanding obligations under the Medley Term Loan and the Ares ABL prior to the redemption of any shares of Preferred Stock. As of September 30, 2016, the Company had $39.5 million of aggregate borrowings outstanding under these credit facilities that it would be required to repay prior to any redemption of Preferred Stock .

Any redemption of the Preferred Stock would be limited to funds legally available therefor under Delaware law. The certificates of designation governing the Preferred Stock provide that if there is not a sufficient amount of cash or surplus available to pay for a redemption of Preferred Stock, then the redemption must be paid out of the remaining assets of the Company. In addition, the certificates of designation governing the Preferred Stock provide that the Company is not permitted or required to redeem any shares of Preferred Stock for so long as such redemption would result in an event of default under the Company’s credit facilities.

As of September 30, 2016, based solely on a review of the Company’s balance sheet, the Company did not have legally available funds under Delaware law to satisfy a redemption of its Preferred Stock. In addition, based solely on the Company’s projected balance sheet as of March 27, 2017, the Company does not believe that it will have legally available funds on or before March 27, 2017 to satisfy any such redemption of the Preferred Stock.

The certificate of designation governing the Series H Preferred Stock also provides that upon the occurrence of a “control event,” the Company must take any and all actions required and permitted to fix the size of its board of directors to a size that would permit Riverwood Holdings (as the primary investor of the Series H Preferred Stock) to appoint a majority of the directors to the board until the Company satisfies or otherwise cures the obligations giving rise to the control event. A control event occurs if, among other things, Riverwood Holdings exercises its optional redemption right under the certificate of designation governing the Series H Preferred Stock and the Company is unable to redeem Riverwood Holdings’ shares of Series H Preferred Stock. If Riverwood Holdings were to exercise its optional redemption right and a control event were to occur, Riverwood Holdings could take control of the board of directors.

The certificate of designation governing the Series J Preferred Stock provides that if the Company does not have sufficient capital available to redeem the Series J Preferred Stock in connection with a Special Redemption of the Series J Preferred Stock, the Company will be required to issue a non-interest bearing note or notes (payable 180 days after issuance) in the principal amount of the liquidation amount of any shares of Series J Preferred Stock not redeemed by the Company in connection with such Special Redemption, subject to certain limitations imposed by Delaware law governing distributions to stockholders.

As discussed further in Note 14, one of the Company’s stockholders, Geveran Investments Limited (“Geveran”), filed a lawsuit against the Company and certain other defendants seeking, among other things, rescissionary damages in connection with its $25.0 million investment in the Company. On August 28, 2014, the Circuit Court of the Ninth Judicial Circuit in and for Orange County, Florida , the court presiding over the lawsuit, issued an Order Granting Plaintiff’s Motion for Partial Summary Judgment under its First Cause of Action for Violation of the Florida Securities and Investor Protection Act. On November 30, 2015, the Court entered judgment against the defendants, including the Company, on a joint and several basis, in the amount of approximately $40.2 million (including pre-trial interest, attorney’s fees, and statutory post-judgment interest). Accordingly, the Company and certain other related defendants , with the assistance of Pegasus Fund IV, posted an appeal bond in the amount of $20.1 million (the “Appeal Bond”) in support of the Company’s appeal of the partial summary judgment order. In consideration of Pegasus Fund IV’s entry into the Appeal Bond and other related agreements (collectively, the “Appeal Bond Agreements”) and as security for the potential payments to be made to the issuer of the Appeal Bond for draws upon the Appeal Bond, the Company issued 20,106.03 units of its securities (the “Series K Securities”) to Pegasus Fund IV, with each Series K Security consisting of (a) one share of Series K Preferred Stock and (b) a warrant to purchase 735 shares of Common Stock. Although the Company cannot predict the ultimate outcome of this lawsuit, it believes the court’s partial summary judgment award in favor of Geveran was in error and that it has strong defenses against Geveran’s claims. However, in the event that the Company is not successful on appeal, it could be liable for the full amount of the $40.2 million judgment, plus post judgment interest. Accordingly, the ultimate outcome of the lawsuit and disposition of the Appeal Bond could have a material adverse effect on the Company’s liquidity and its ability to raise capital in the future.

Note 4. Detail of Certain Balance Sheet Accounts

Inventories

Inventories consisted of finished goods as of September 30, 2016 and December 31, 2015. As of September 30, 2016 and December 31, 2015, inventories were stated net of inventory reserves of $3.5 million and $6.9 million, respectively. The Company considered a number of factors in estimating the required inventory reserves, including (i) the focus of the business on the next generation of the Company’s products, which utilize lower cost technologies, (ii) the strategic focus on core products to meet the demands of key customers and (iii) the expected demand for the Company’s current generation of products, which is approaching the end of its life-cycle upon the introduction of the next generation of products.

Property and Equipment, Net

Property and equipment, net consisted of the following as of the dates indicated:

Depreciation related to property and equipment was $192,000 and $454,000 for the three months ended September 30, 2016 and 2015, respectively. Depreciation related to property and equipment was $557,000 and $1.4 million for the nine months ended September 30, 2016 and 2015, respectively.

Note 5. Intangible Assets

Intangible assets that have finite lives are amortized over their useful lives. The Company’s intangible assets as of September 30, 2016 and December 31, 2015 are detailed below:

Total intangible asset amortization expense was $27,000 and $21,000 for the three months ended September 30, 2016 and 2015, respectively. Total intangible asset amortization expense was $76,000 and $62,000 for the nine months ended September 30, 2016 and 2015, respectively.

Note 6. Debt Issuance Costs

The Company capitalizes its costs related to the issuance of long-term debt (including amendment fees) and amortizes these costs using the effective interest rate method over the life of the loan. Amortization of debt issuance costs and the accelerated write-off of debt issuance costs in connection with refinancing activities are recorded as a component of interest expense. The Company had net unamortized debt issuance costs of $2.5 million and $3.3 million as of September 30, 2016 and December 31, 2015, respectively. The Company amortized $410,000 and $398,000 of debt issuance costs for the three months ended September 30, 2016 and 2015 . The Company amortized $1.2 million and $1.1 million of debt issuance costs for the nine months ended September 30, 2016 and 2015, respectively .

Ares ABL

On April 25, 2014, the Company, entered into the Ares ABL, which provides the Company with a maximum borrowing capacity of $22.5 million, calculated based on a formula of eligible accounts receivable and inventory. The Ares ABL expires on April 25, 2017. As of September 30, 2016, the Company had $9.2 million in borrowings outstanding under the Ares ABL and additional borrowing capacity of $861,000. As of September 30, 2016, eligible collateral included $$5.8 million of accounts receivable and $10.9 million of inventory. Borrowings under the Ares ABL bear interest at a floating rate equal to one-month LIBOR plus 5.5% per annum. As of September 30, 2016, the interest rate on the Ares ABL was 6.02%.

On July 19, 2016, the Company entered into an amendment to the Ares ABL Agreement (the “Sixth ACF Amendment”). Among other things, the Sixth ACF Amendment (a) replaced the Fixed Charge Covenant (as defined in the Ares ABL Agreement) with EBITDA covenant levels that the Company must meet with respect to each of the 12-month periods ending June 30, 2016, September 30, 2016, December 31, 2016 and March 31, 2017 (collectively, the “Specified Covenant Periods”) and (b) amended the definition of EBITDA to include, for purposes of determining compliance with the EBITDA covenant levels for the relevant Specified Covenant Periods, up to $2,500,000 of cash proceeds from the issuance of equity to Pegasus between July 19, 2016 and March 30, 2017. The Company paid Ares a $60,000 amendment fee in connection with the Sixth ACF Amendment.

Medley Term Loan

On February 19, 2014, the Company entered into the Medley Term Loan, which provided the Company with a $30.5 million term loan facility. The Medley Term Loan bears interest at a floating rate equal to three-month LIBOR plus 12% per annum, and as of September 30, 2016, the interest rate on the Medley Term Loan was 12.84%. Additionally, $3.0 million of the Medley Term Loan was funded directly into a deposit account to which Medley has exclusive access, to further secure the loan. The outstanding principal balance and all accrued and unpaid interest on the Medley Term Loan are due and payable on February 19, 2019. As of September 30, 2016, the balance of the Medley Term Loan was $30.3 million. The Company recognized $195,000 of interest expense for the accretion of the discounts to the balance of the Medley Term Loan related to commitment fees and the Medley Warrants for the three months ended September 30, 2016 and 2015. The Company recognized $584,000 of interest expense for the accretion of the discounts to the balance of the Medley Term Loan related to commitment fees and the Medley Warrants for the nine months ended September 30, 2016 and 2015. The Company also recognized $167,000 and $160,000 of accrued interest for the three months ended September 30, 2016 and 2015, respectively, and $484,000 and $474,000 for the nine months ended September 30, 2016 and 2015, respectively, for the Medley Term Loan.

On July 19, 2016, the Company entered into an amendment to the Medley Term Loan Agreement (the “Fourth Medley Amendment”). Among other things, the Fourth Medley Amendment (x) amended the minimum EBITDA covenant levels with respect to the Specified Covenant Periods and each fiscal quarter thereafter during the term of the Medley Term Loan Agreement, (y) amended the definition of EBITDA to include, for purposes of determining compliance with the EBITDA and Fixed Charge Coverage Ratio (as defined in the Medley Term Loan Agreement) covenant levels for the relevant Specified Covenant Periods, up to $2,500,000 of cash proceeds from the issuance of equity to Pegasus between July 19, 2016 and March 30, 2017 and (z) amended the minimum Fixed Charge Coverage Ratio that the Company must maintain for each of the 12-month periods ending September 30, 2016 and December 31, 2016.

Note 8. Fair Value Measurements

The following table sets forth by level within the fair value hierarchy the Company’s financial assets and liabilities that were accounted for at fair value on a recurring basis as of September 30, 2016, according to the valuation techniques the Company used to determine their fair values:

The following table is a reconciliation of the beginning and ending balances for assets and liabilities that were accounted for at fair value on a recurring basis using Level 3 inputs , as defined in Note 2 above , for the nine months ended September 30, 2016:

The following table is a reconciliation of the beginning and ending balances for assets and liabilities that were accounted for at fair value on a recurring basis using Level 3 inputs , as defined above , for the nine months ended September 30, 2015:

Note 9. Stockholders’ Equity

For the three months ended September 30, 2016 and 2015, the Company recorded expense of $48,000 and $128,000, respectively, related to stock compensation for awards to the Company’s directors. For the nine months ended September 30, 2016 and 2015, the Company recorded expense of $74,000 and $258,000, respectively, related to stock compensation for awards to the Company’s directors.

On June 12, 2014, the Board approved the formation of a Scientific Advisory Board (the “SAB”) and issued restricted stock awards to each of the five members of the SAB as part of their compensation package. For the three and nine months ended September 30, 2015, the Company recorded expense of $0 and $37,000, respectively, related to restricted stock awards to the Company’s SAB. No restricted stock expense associated with restricted stock awards to the Company’s SAB was recorded during the nine months ended September 30, 2016.

On August 10, 2016, 4,000 shares of Series I Redeemable Convertible preferred stock were converted into 4,210,528 shares of common stock by their holders.

Note 10: Earnings (Loss) Per Share

The Company has two classes of Common Stock for financial reporting purposes only, with Common Stock attributable to controlling stockholders representing shares beneficially owned and controlled by Pegasus and the Common Stock attributable to noncontrolling stockholders representing the minority interest stockholders. For the three and nine months ended September 30, 2016 and 2015, the Company computed net loss per share of noncontrolling stockholders and controlling stockholders of Common Stock using the two-class method. Net loss from operations is initially allocated based on the underlying common shares held by controlling and noncontrolling stockholders. The allocation of the net losses attributable to the Common Stock attributable to controlling stockholders is then reduced by the amount of the deemed dividends.

The following table sets forth the computation of basic and diluted net loss per share of Common Stock:

Basic earnings per share is computed by dividing net loss available to common stockholders by the weighted average number of common shares outstanding for the applicable period. The Series J Warrants have an exercise price of $0.001 per share of Common Stock, and are included in the weighted average number of shares of Common Stock outstanding as there are no conditions that must be satisfied before such warrant may be exercised into the shares of Common Stock underlying such warrants. Diluted earnings per share is computed in the same manner as basic earnings per share except the number of shares is increased to assume exercise of potentially dilutive stock options, unvested restricted stock and contingently issuable shares using the treasury stock method and convertible preferred shares using the if-converted method, unless the effect of such increases would be anti-dilutive. The Company had 275.2 million and 213.3 million common stock equivalents for the three months ended September 30 , 2016 and 2015, respectively, and 272.9 million and 209.8 million common stock equivalents for the nine months ended September 30, 2016 and 2015, respectively , which were not included in the diluted net loss per common share as the common stock equivalents were anti-dilutive, as a result of being in a net loss position.

Note 11: Related Party Transactions

Pegasus Capital is an affiliate of Pegasus IV and LSGC Holdings, which are the Company’s largest stockholders. Pegasus beneficially owned approximately 90.4% of the Common Stock as of September 30, 2016.

On February 23, 2016 and July 19, 2016, the Company issued 3,000 and 5,000 Series J Securities, respectively, to Holdings III pursuant to the Preferred Stock Subscription and Support Agreement dated September 11, 2015, among the Company, Pegasus Fund IV and Holdings III (as amended from time to time, the “Subscription and Support Agreement”) for aggregate gross proceeds of $8.0 million.

Note 12. Restructuring Expense

As of September 30, 2016, the accrued liability associated with the restructuring and other related charges consisted of the following:

The remaining accrual of $265,693 as of September 30, 2016 is expected to be paid during the years ending December 31, 2016 through 2018.

Note 13. Concentrations of Credit Risk

For the three months ended September 30, 2016 and 2015, revenue from sales to one customer represented 86% and 89% of the Company’s total revenue, respectively. For the nine months ended September 30, 2016 and 2015, revenue from sales to one customer represented 89% and 88% of the Company’s total revenue, respectively.

As of September 30, 2016 and December 31, 2015, the Company had one customer whose accounts receivable balance represented 70% of accounts receivable, net of allowances.

Note 14. Commitments and Contingencies  

The Company is subject to the possibility of loss contingencies arising in its business and such contingencies are accounted for in accordance with ASC Topic 450, "Contingencies.” In determining loss contingencies, the Company considers the possibility of a loss as well as the ability to reasonably estimate the amount of such loss or liability. An estimated loss is recorded when it is considered probable that a liability has been incurred and when the amount of loss can be reasonably estimated. In the ordinary course of business, the Company is routinely a defendant in or party to various pending and threatened legal claims and proceedings. The Company believes that any probable liability resulting from these various claims will not have a material adverse effect on its results of operations or financial condition; however, it is possible that extraordinary or unexpected legal fees could adversely impact the Company’s financial results during a particular period. During its ordinary course of business, the Company enters into obligations to defend, indemnify and/or hold harmless various customers, officers, directors, employees, and other third parties. These contractual obligations could give rise to additional litigation costs and involvement in court proceedings.

On June 22, 2012, Geveran filed a lawsuit against the Company and several others in the Circuit Court of the Seventeenth Judicial Circuit in and for Broward County, Florida. On October 30, 2012, the court entered an order transferring the lawsuit to the Ninth Judicial Circuit in and for Orange County, Florida. The action, styled Geveran Investments Limited v. Lighting Science Group Corp., et al., Case No. 12-17738 (07), names the Company as a defendant, as well as Pegasus Capital and nine other entities affiliated with Pegasus Capital; Richard Weinberg, our former Director and former interim Chief Executive Officer and a former partner of Pegasus Capital; Gregory Kaiser, a former Chief Financial Officer; J.P. Morgan Securities, LLC (“J.P. Morgan”); and two employees of J.P. Morgan. Geveran seeks rescission of its $25.0 million investment in the Company, as well as recovery of interest, attorneys’ fees and court costs, jointly and severally against the Company, Pegasus Capital, Mr. Weinberg, Mr. Kaiser, J.P. Morgan and the two J.P. Morgan employees, for alleged violations of Florida securities laws. Geveran alternatively seeks unspecified money damages, as well as recovery of court costs, for alleged common law negligent misrepresentation against these same defendants.

On August 28, 2014, the court issued an Order Granting Plaintiff’s Motion for Partial Summary Judgment under its First Cause of Action for Violation of the Florida Securities and Investor Protection Act. On November 30, 2015, the Court entered judgment against the defendants, including the Company, on a joint and several basis, in the amount of approximately $40.2 million (including pre-trial interest, attorney’s fees, and statutory post-judgment interest).

On December 4, 2015, the Company, along with certain other related defendants, filed a Notice of Appeal to the Florida Fifth District Court of Appeal and posted a bond securing the judgment in the amount of approximately $20.1 million. Defendant J.P. Morgan also posted a separate bond in the amount of approximately $20.1 million, resulting in total bonding of approximately $40.2 million. On March 29, 2016, the trial court judge determined that the posted bonds were sufficient security to stay execution of the judgment pending the appeal.

Although we cannot predict the ultimate outcome of this lawsuit, we believe the court’s summary judgment award in favor of Geveran was in error, that we will prevail on the appeal and the judgment will be overturned, and that the case will be remanded to the trial court for further proceedings. Were that to occur, we believe we have strong defenses against Geveran’s claims. However, in the event that we are not successful on appeal, we could be liable for the full amount of the $40.2 million judgment, plus post judgment interest. Such an outcome would have a material adverse effect on our financial position.

The Company believes that, subject to the terms and conditions of the relevant policies (including retention and policy limits), directors’ and officers’ (“D&O”) insurance coverage will be available to cover a substantial majority of its legal fees and costs in this matter. However, insurance coverage may not be available for, or such coverage may not be sufficient to fully pay, a judgment or settlement in favor of Geveran. On July 26, 2016, the Company, along with certain other related defendants, filed a lawsuit in Delaware state court against its D&O carriers, Liberty Insurance, Starr, and Continental Casualty, seeking a declaratory judgment and damages arising out of the defendant carriers’ breach of their coverage obligations under various applicable D&O policies.

Based upon the terms of an indemnification agreement, the Company has also paid, and may be required to pay in the future, reasonable legal expenses incurred by J.P. Morgan and its affiliates in this lawsuit in connection with the engagement of J.P. Morgan as placement agent for the private placement with Geveran. Such payments are not covered by the Company’s insurance coverage. The engagement letter executed with J.P. Morgan provides that the Company will indemnify J.P. Morgan and its affiliates from liabilities relating to J.P. Morgan’s activities as placement agent, unless such activities are finally judicially determined to have resulted from J.P. Morgan’s bad faith, gross negligence or willful misconduct.

In addition, the Company may be a party to a variety of legal actions, such as employment and employment discrimination-related suits, employee benefit claims, breach of contract actions, tort claims, shareholder suits, including securities fraud, intellectual property related litigation, and a variety of legal actions relating to its business operations. In some cases, substantial punitive damages may be sought. The Company currently has insurance coverage for certain of these potential liabilities. Other potential liabilities may not be covered by insurance, insurers may dispute coverage or the amount of insurance may not be sufficient to cover the damages awarded. In addition, certain types of damages, such as punitive damages, may not be covered by insurance and insurance coverage for all or certain forms of liability may become unavailable or prohibitively expensive in the future.