UNITED
STATES SECURITIES AND EXCHANGE COMMISSION


Washington,
D.C. 20549







FORM
10-Q




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




For
the quarterly period ended September 30, 2008


or




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




For
the transition period from
to




Commission
File Number 0-29185




SAVE
THE WORLD AIR, INC.


(Exact
name of registrant as specified in its charter)




Nevada
            52-2088326(State
      or other jurisdiction of
              incorporation
      or organization)
            (I.R.S.
      Employer
              Identification
      No.)




235
Tennant Avenue


Morgan
Hill, California 95037


(Address,
including zip code, of principal executive offices


(408) 778-0101


(Registrant’s
telephone number, including area code)




Securities
registered pursuant to Section 12(b) of the Exchange Act:
None.




Securities
registered pursuant to Section 12(g) of the Exchange Act: Common Stock,
$0.001 par value.




Check
whether the Registrant (1) filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes     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 o
            Accelerated
      filer  oNon-accelerated
      filer  o  (Do
      not check if a smaller reporting company)
            Smaller
      reporting companyo





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




The
number of shares of the Registrant’s Common Stock outstanding as of November 10,
2008 was 58,948,138 shares.













SAVE
THE WORLD AIR, INC.


FORM
10-Q


INDEX




PagePART
      IITEM
      1. Financial StatementsCondensed
      consolidated balance sheets
            
            1Condensed
      consolidated statements of operations (unaudited)
            
            2Condensed
      consolidated statement of changes in stockholders’ deficiency
      (unaudited)
            
            3Condensed
      consolidated statements of cash flows (unaudited)
            
            18Notes
      to condensed consolidated financial statements (unaudited)
            
            20ITEM
      2. Management’s Discussion and Analysis or Plan of
    Operations
            
            35ITEM
      3. Quantitative and Qualitative Disclosure About Market
    Risk
            
            46ITEM
      4. Controls and Procedures
            
            46PART
      IIITEM
      1. Legal Proceedings
            
            47ITEM
      1A. Risk Factors
            
            48ITEM
      2. Unregistered Sales of Equity Securities and Use of
    Proceeds
            
            49ITEM
      3. Defaults Upon Senior Securities
            
            49ITEM
      4. Submission of Matters to a Vote of Security Holders
            
            49ITEM
      5. Other Information
            
            50ITEM
      6. Exhibits
            
            50SIGNATURES
            
            51EXHIBIT
      INDEX
            
            52EXHIBIT
      31.1EXHIBIT
      31.2EXHIBIT
      32









PART
I


Item 1.
Financial Statements


SAVE
THE WORLD AIR, INC. AND SUBSIDIARY


(A
DEVELOPMENT STAGE ENTERPRISE)





CONDENSED
CONSOLIDATED BALANCE SHEETS


September
30, 2008 (UNAUDITED) AND DECEMBER 31, 2007





September
      30, 2008
              (unaudited)
            
            
            December
      31,
              2007ASSETSCurrent
      assetsCash
            
            $
            78,125
            
            
            $
            47,660Accounts
      receivable, net of allowance for doubtful accounts of $1,380 and $0,
      respectively
            
            
            -
            
            
            
            1,380Inventory
            
            
            30,256
            
            
            
            30,256Other
      current assets
            
            
            34,844
            
            
            
            20,552Total
      current assets
            
            
            143,225
            
            
            
            99,848Equipment,
      net
            
            
            145,691
            
            
            
            201,058Other
      assets
            
            
            11,250
            
            
            
            4,500Total
      assets
            
            $
            300,166
            
            
            $
            305,406LIABILITIES
      AND STOCKHOLDERS’ DEFICIENCYCurrent
      liabilitiesAccounts
      payable-related parties
            
            $
            256,880
            
            
            $
            323,413Accounts
      payable-Temple University
            
            
            537,750
            
            
            
            161,250Accounts
      payable-other
            
            
            589,171
            
            
            
            555,736Accrued
      expenses
            
            
            184,618
            
            
            
            172,719Accrued
      salaries-officers and former officer
            
            
            618,333
            
            
            
            570,000Accrued
      research and development fees
            
            
            13,347
            
            
            
            53,347Accrued
      professional fees
            
            
            340,978
            
            
            
            274,499Loan
      payable-related party
            
            
            77,209
            
            
            
            83,596Loans
      and other payable due to Morale/Matthews
            
            
            -
            
            
            
            1,748,452Convertible
      debentures, net-related parties
            
            
            -
            
            
            
            227,136Convertible
      debentures, net-others
            
            
            266,639
            
            
            
            495,044Total
      current liabilities
            
            
            2,884,925
            
            
            
            4,665,192Commitments
      and contingenciesStockholders’
      deficiencyCommon
      stock, $.001 par value: 200,000,000 shares authorized, 58,948,138 and
      46,470,413 shares issued and outstanding at September 30, 2008 and
      December 31, 2007, respectively
            
            
            58,948
            
            
            
            46,471Common
      stock to be issued
            
            
            -
            
            
            
            4,000Additional
      paid-in capital
            
            
            38,501,646
            
            
            
            32,280,083Deficit
      accumulated during the development stage
            
            
            (41,145,353
            )
            
            
            (36,690,340
            )Total
      stockholders’ deficiency
            
            
            (2,584,759
            )
            
            
            (4,359,786
            )Total
      liabilities and stockholders’ deficiency
            
            $
            300,166
            
            
            $
            305,406





See notes
to condensed consolidated financial statements.





1




SAVE
THE WORLD AIR, INC. AND SUBSIDIARY


(A
DEVELOPMENT STAGE ENTERPRISE)





CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)







Three
      months ended
              September
      30,
            
            
            Nine
      months ended
              September
      30,
            
            
            For
      the Period From
              February
      18, 1998 (Date of Inception) through2008
            
            
            2007
            
            
            2008
            
            
            2007
            
            
            September
      30, 2008Net
      sales
            
            $
            -
            
            
            $
            -
            
            
            $
            -
            
            
            $
            22,000
            
            
            $
            69,000Cost
      of goods sold
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            5,360
            
            
            
            24,120Gross
      profit
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            16,640
            
            
            
            44,880Operating
      expenses
            
            
            (1,148,887
            )
            
            
            (873,971
            )
            
            
            (2,428,889
            )
            
            
            (3,177,533
            )
            
            
            (29,288,210
            )Research
      and development expenses
            
            
            (109,822
            )
            
            
            (98,427
            )
            
            
            (432,184
            )
            
            
            (539,610
            )
            
            
            (5,238,414
            )Non-cash
      patent settlement costs
            
            
            -
            
            
            
            -
            
            
            
            
            
            
            
            -
            
            
            
            (1,610,066
            )Loss
      before other income (expense)
            
            
            (1,258,709
            )
            
            
            (972,398
            )
            
            
            (2,861,073
            )
            
            
            (3,700,503
            )
            
            
            (36,091,810
            )Other
      income (expense)Other
      income
            
            
            (30
            )
            
            
            2,271
            
            
            
            533
            
            
            
            2,448
            
            
            
            4,042Interest
      income
            
            
            -
            
            
            
            12
            
            
            
            2
            
            
            
            62
            
            
            
            16,344Interest
      expense
            
            
            (220,400
            )
            
            
            (647,737
            )
            
            
            (1,636,862
            )
            
            
            (1,361,403
            )
            
            
            (6,129,242
            )Loss
      on sale of equipment
            
            
            -
            
            
            
            -
            
            
            
            (9,683
            )
            
            
            -
            
            
            
            (9,683
            )Settlement
      of litigation and debt
            
            
            -
            
            
            
            -
            
            
            
            52,070
            
            
            
            -
            
            
            
            1,069,278Loss
      before provision for income taxes
            
            
            (1,479,139
            )
            
            
            (1,617,852
            )
            
            
            (4,455,013
            )
            
            
            (5,059,396
            )
            
            
            (41,141,071
            )Provision
      for income taxes
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            (800
            )
            
            
            (4,282
            )Net
      loss
            
            $
            (1,479,139
            )
            
            $
            (1,617,852
            )
            
            $
            (4,455,013
            )
            
            $
            (5,060,196
            )
            
            $
            (41,145,353
            )Net
      loss per share, basic and diluted
            
            $
            (0.03
            )
            
            $
            (0.04
            )
            
            $
            (0.10
            )
            
            $
            (0.13
            )Weighted
      average shares outstanding,basic
      and diluted
            
            
            47,312,880
            
            
            
            40,988,308
            
            
            
            45,374,117
            
            
            
            38,265,250




See notes
to condensed consolidated financial statements.




2




SAVE THE WORLD AIR, INC. AND
SUBSIDIARY


(A
DEVELOPMENT STAGE ENTERPRISE)





CONDENSED
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ DEFICIENCY


FROM
INCEPTION (FEBRUARY 18, 1998) TO SEPTEMBER 30, 2008 (Unaudited)




Common
      Stock
                
                
                
                
                
                
                
                
                
                
                
                Deficit Accumulated During the
                
                
                TotalPrice
      per Share
                
                
                Shares
                
                
                Amount
                
                
                Common
      Stock to be Issued
                
                
                Additional
      Paid-in Capital
                
                
                Deferred
      Compensation
                
                
                Development
      Stage
                
                
                Stockholders’
      DeficiencyBalance,
      February 18, 1998 (date of inception)
                
                
                
                
                
                -
                
                
                $
                -
                
                
                $
                -
                
                
                $
                -
                
                
                $
                -
                
                
                $
                -
                
                
                $
                -Issuance
      of common stock on April 18, 1998
                
                
                .0015
      - .01
                
                
                
                10,030,000
                
                
                
                10,030
                
                
                
                -
                
                
                
                14,270
                
                
                
                -
                
                
                
                -
                
                
                
                24,300Net
      loss
                
                
                
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                (21,307
                )
                
                
                (21,307
                )Balance,
      December 31, 1998
                
                
                
                
                
                
                10,030,000
                
                
                $
                10,030
                
                
                $
                -
                
                
                $
                14,270
                
                
                $
                -
                
                
                $
                (21,307
                )
                
                $
                2,993Issuance
      of common stock on May 18, 1999
                
                
                1.00
      - 6.40
                
                
                
                198,003
                
                
                
                198
                
                
                
                -
                
                
                
                516,738
                
                
                
                -
                
                
                
                -
                
                
                
                516,936Issuance
      of common stock for ZEFS on September 14, 1999
                
                
                0.00
                
                
                
                5,000,000
                
                
                
                5,000
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                5,000Stock
      issued for professional services on May 18, 1999
                
                
                0.88
                
                
                
                69,122
                
                
                
                69
                
                
                
                -
                
                
                
                49,444
                
                
                
                -
                
                
                
                -
                
                
                
                49,513Net
      loss
                
                
                
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                (1,075,264
                )
                
                
                (1,075,264
                )Balance,
      December 31, 1999
                
                
                
                
                
                
                15,297,125
                
                
                $
                15,297
                
                
                $
                -
                
                
                $
                580,452
                
                
                $
                -
                
                
                $
                (1,096,571
                )
                
                $
                (500,822
                )Stock
      issued for employee compensation on February 8, 2000
                
                
                1.03
                
                
                
                20,000
                
                
                
                20
                
                
                
                -
                
                
                
                20,580
                
                
                
                -
                
                
                
                -
                
                
                
                20,600Stock
      issued for consulting services on February 8, 2000
                
                
                1.03
                
                
                
                100,000
                
                
                
                100
                
                
                
                -
                
                
                
                102,900
                
                
                
                -
                
                
                
                -
                
                
                
                103,000Stock
      issued for professional services on April 18, 2000
                
                
                3.38
                
                
                
                27,000
                
                
                
                27
                
                
                
                -
                
                
                
                91,233
                
                
                
                -
                
                
                
                -
                
                
                
                91,260Stock
      issued for directors fees on April 18, 2000
                
                
                3.38
                
                
                
                50,000
                
                
                
                50
                
                
                
                -
                
                
                
                168,950
                
                
                
                -
                
                
                
                -
                
                
                
                169,000Stock
      issued for professional services on May 19, 2000
                
                
                4.06
                
                
                
                5,000
                
                
                
                5
                
                
                
                -
                
                
                
                20,295
                
                
                
                -
                
                
                
                -
                
                
                
                20,300Stock
      issued for directors fees on June 20, 2000
                
                
                4.44
                
                
                
                6,000
                
                
                
                6
                
                
                
                -
                
                
                
                26,634
                
                
                
                -
                
                
                
                -
                
                
                
                26,640Stock
      issued for professional services on June 20, 2000
                
                
                4.44
                
                
                
                1,633
                
                
                
                2
                
                
                
                -
                
                
                
                7,249
                
                
                
                -
                
                
                
                -
                
                
                
                7,251Stock
      issued for professional services on June 26, 2000
                
                
                5.31
                
                
                
                1,257
                
                
                
                1
                
                
                
                -
                
                
                
                6,674
                
                
                
                -
                
                
                
                -
                
                
                
                6,675Stock
      issued for employee compensation on June 26, 2000
                
                
                5.31
                
                
                
                22,000
                
                
                
                22
                
                
                
                -
                
                
                
                116,798
                
                
                
                -
                
                
                
                -
                
                
                
                116,820Stock
      issued for consulting services on June 26, 2000
                
                
                5.31
                
                
                
                9,833
                
                
                
                10
                
                
                
                -
                
                
                
                52,203
                
                
                
                -
                
                
                
                -
                
                
                
                52,213Stock
      issued for promotional services on July 28, 2000
                
                
                4.88
                
                
                
                9,675
                
                
                
                9
                
                
                
                -
                
                
                
                47,205
                
                
                
                -
                
                
                
                -
                
                
                
                47,214Stock
      issued for consulting services on July 28, 2000
                
                
                4.88
                
                
                
                9,833
                
                
                
                10
                
                
                
                -
                
                
                
                47,975
                
                
                
                -
                
                
                
                -
                
                
                
                47,985





(Continued)




3




SAVE
THE WORLD AIR, INC. AND SUBSIDIARY


(A
DEVELOPMENT STAGE ENTERPRISE)





CONDENSED
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ DEFICIENCY (Continued)


FROM
INCEPTION (FEBRUARY 18, 1998) TO SEPTEMBER 30, 2008




Common
      Stock
              
              
              
              
              
              
              
              
              
              
              
              Deficit Accumulated During
      the
              
              
              TotalPrice
      per Share
              
              
              Shares
              
              
              Amount
              
              
              Common
      Stock to be Issued
              
              
              Additional
      Paid-in Capital
              
              
              Deferred
      Compensation
              
              
              Development
      Stage
              
              
              Stockholders’
      DeficiencyStock
      issued for consulting services on August 4, 2000
              
              
              2.13
              
              
              
              35,033
              
              
              
              35
              
              
              
              -
              
              
              
              74,585
              
              
              
              -
              
              
              
              -
              
              
              
              74,620Stock
      issued for promotional services on August 16, 2000
              
              
              2.25
              
              
              
              25,000
              
              
              
              25
              
              
              
              -
              
              
              
              56,225
              
              
              
              -
              
              
              
              -
              
              
              
              56,250Stock
      issued for consulting services on September 5, 2000
              
              
              2.25
              
              
              
              12,833
              
              
              
              13
              
              
              
              -
              
              
              
              28,861
              
              
              
              -
              
              
              
              -
              
              
              
              28,874Stock
      issued for consulting services on September 10, 2000
              
              
              1.50
              
              
              
              9,833
              
              
              
              10
              
              
              
              -
              
              
              
              14,740
              
              
              
              -
              
              
              
              -
              
              
              
              14,750Stock
      issued for consulting services on November 2, 2000
              
              
              0.88
              
              
              
              9,833
              
              
              
              10
              
              
              
              -
              
              
              
              8,643
              
              
              
              -
              
              
              
              -
              
              
              
              8,653Stock
      issued for consulting services on November 4, 2000
              
              
              0.88
              
              
              
              9,833
              
              
              
              10
              
              
              
              -
              
              
              
              8,643
              
              
              
              -
              
              
              
              -
              
              
              
              8,653Stock
      issued for consulting services on December 20, 2000
              
              
              0.50
              
              
              
              19,082
              
              
              
              19
              
              
              
              -
              
              
              
              9,522
              
              
              
              -
              
              
              
              -
              
              
              
              9,541Stock
      issued for filing services on December 20, 2000
              
              
              0.50
              
              
              
              5,172
              
              
              
              5
              
              
              
              -
              
              
              
              2,581
              
              
              
              -
              
              
              
              -
              
              
              
              2,586Stock
      issued for professional services on December 26, 2000
              
              
              0.38
              
              
              
              12,960
              
              
              
              13
              
              
              
              -
              
              
              
              4,912
              
              
              
              -
              
              
              
              -
              
              
              
              4,925Other
      stock issuance on August 24, 2000
              
              
              2.13
              
              
              
              2,000
              
              
              
              2
              
              
              
              -
              
              
              
              4,258
              
              
              
              -
              
              
              
              -
              
              
              
              4,260Common
      shares cancelled
              
              
              
              
              
              
              (55,000
              )
              
              
              (55
              )
              
              
              -
              
              
              
              (64,245
              )
              
              
              -
              
              
              
              -
              
              
              
              (64,300
              )Net
      loss
              
              
              
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (1,270,762
              )
              
              
              (1,270,762
              )Balance,
      December 31, 2000
              
              
              
              
              
              
              15,645,935
              
              
              $
              15,646
              
              
              $
              -
              
              
              $
              1,437,873
              
              
              $
              -
              
              
              $
              (2,367,333
              )
              
              $
              (913,814
              )Stock
      issued for consulting services on January 8, 2001
              
              
              0.31
              
              
              
              9,833
              
              
              
              10
              
              
              
              -
              
              
              
              3,038
              
              
              
              -
              
              
              
              -
              
              
              
              3,048Stock
      issued for consulting services on February 1, 2001
              
              
              0.33
              
              
              
              9,833
              
              
              
              10
              
              
              
              -
              
              
              
              3,235
              
              
              
              -
              
              
              
              -
              
              
              
              3,245Stock
      issued for consulting services on March 1, 2001
              
              
              0.28
              
              
              
              9,833
              
              
              
              10
              
              
              
              -
              
              
              
              2,743
              
              
              
              -
              
              
              
              -
              
              
              
              2,753Stock
      issued for legal services on March 13, 2001
              
              
              0.32
              
              
              
              150,000
              
              
              
              150
              
              
              
              -
              
              
              
              47,850
              
              
              
              -
              
              
              
              -
              
              
              
              48,000Stock
      issued for consulting services on April 3, 2001
              
              
              0.25
              
              
              
              9,833
              
              
              
              10
              
              
              
              -
              
              
              
              2,448
              
              
              
              -
              
              
              
              -
              
              
              
              2,458Stock
      issued for legal services on April 4, 2001
              
              
              0.25
              
              
              
              30,918
              
              
              
              31
              
              
              
              -
              
              
              
              7,699
              
              
              
              -
              
              
              
              -
              
              
              
              7,730





(Continued)




4




SAVE
THE WORLD AIR, INC. AND SUBSIDIARY


(A
DEVELOPMENT STAGE ENTERPRISE)





CONDENSED
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ DEFICIENCY (Continued)


FROM
INCEPTION (FEBRUARY 18, 1998) TO SEPTEMBER 30, 2008




Common
      Stock
              
              
              
              
              
              
              
              
              
              
              
              Deficit Accumulated During
      the
              
              
              TotalPrice
      per Share
              
              
              Shares
              
              
              Amount
              
              
              Common
      Stock to be Issued
              
              
              Additional
      Paid-in Capital
              
              
              Deferred
      Compensation
              
              
              Development
      Stage
              
              
              Stockholders’
      DeficiencyStock
      issued for professional services on April 4, 2001
              
              
              0.25
              
              
              
              7,040
              
              
              
              7
              
              
              
              -
              
              
              
              1,753
              
              
              
              -
              
              
              
              -
              
              
              
              1,760Stock
      issued for consulting services on April 5, 2001
              
              
              0.25
              
              
              
              132,600
              
              
              
              132
              
              
              
              -
              
              
              
              33,018
              
              
              
              -
              
              
              
              -
              
              
              
              33,150Stock
      issued for filing fees on April 30, 2001
              
              
              1.65
              
              
              
              1,233
              
              
              
              1
              
              
              
              -
              
              
              
              2,033
              
              
              
              -
              
              
              
              -
              
              
              
              2,034Stock
      issued for filing fees on September 19, 2001
              
              
              0.85
              
              
              
              2,678
              
              
              
              2
              
              
              
              -
              
              
              
              2,274
              
              
              
              -
              
              
              
              -
              
              
              
              2,276Stock
      issued for professional services on September 28,
2001
              
              
              0.62
              
              
              
              150,000
              
              
              
              150
              
              
              
              -
              
              
              
              92,850
              
              
              
              -
              
              
              
              -
              
              
              
              93,000Stock
      issued for directors services on October 5, 2001
              
              
              0.60
              
              
              
              100,000
              
              
              
              100
              
              
              
              -
              
              
              
              59,900
              
              
              
              -
              
              
              
              -
              
              
              
              60,000Stock
      issued for legal services on October 17, 2001
              
              
              0.60
              
              
              
              11,111
              
              
              
              11
              
              
              
              -
              
              
              
              6,655
              
              
              
              -
              
              
              
              -
              
              
              
              6,666Stock
      issued for consulting services on October 18, 2001
              
              
              0.95
              
              
              
              400,000
              
              
              
              400
              
              
              
              -
              
              
              
              379,600
              
              
              
              -
              
              
              
              -
              
              
              
              380,000Stock
      issued for consulting services on October 19, 2001
              
              
              1.25
              
              
              
              150,000
              
              
              
              150
              
              
              
              -
              
              
              
              187,350
              
              
              
              -
              
              
              
              -
              
              
              
              187,500Stock
      issued for exhibit fees on October 22, 2001
              
              
              1.35
              
              
              
              5,000
              
              
              
              6
              
              
              
              -
              
              
              
              6,745
              
              
              
              -
              
              
              
              -
              
              
              
              6,751Stock
      issued for directors
              
              
              0.95
              
              
              
              1,000,000
              
              
              
              1,000
              
              
              
              -
              
              
              
              949,000
              
              
              
              -
              
              
              
              -
              
              
              
              950,000Stock
      issued for consulting services on November 7, 2001
              
              
              0.85
              
              
              
              20,000
              
              
              
              20
              
              
              
              -
              
              
              
              16,980
              
              
              
              -
              
              
              
              -
              
              
              
              17,000Stock
      issued for consulting services on November 20, 2001
              
              
              0.98
              
              
              
              43,000
              
              
              
              43
              
              
              
              -
              
              
              
              42,097
              
              
              
              -
              
              
              
              -
              
              
              
              42,140Stock
      issued for consulting services on November 27, 2001
              
              
              0.98
              
              
              
              10,000
              
              
              
              10
              
              
              
              -
              
              
              
              9,790
              
              
              
              -
              
              
              
              -
              
              
              
              9,800Stock
      issued for consulting services on November 28, 2001
              
              
              0.98
              
              
              
              187,000
              
              
              
              187
              
              
              
              -
              
              
              
              183,073
              
              
              
              -
              
              
              
              -
              
              
              
              183,260Intrinsic
      value of options issued to employees
              
              
              
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              2,600,000
              
              
              
              (2,600,000
              )
              
              
              -
              
              
              
              -Fair
      value of options issued to non-employees for services
              
              
              
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              142,318
              
              
              
              -
              
              
              
              -
              
              
              
              142,318Amortization
      of deferred compensation
              
              
              
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              191,667
              
              
              
              -
              
              
              
              191,667Net
      loss
              
              
              
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (2,735,013
              )
              
              
              (2,735,013
              )Balance,
      December 31, 2001
              
              
              
              
              
              
              18,085,847
              
              
              $
              18,086
              
              
              $
              -
              
              
              $
              6,220,322
              
              
              $
              (2,408,333
              )
              
              $
              (5,102,346
              )
              
              $
              (1,272,271
              )





(continued)




5




SAVE
THE WORLD AIR, INC. AND SUBSIDIARY


(A
DEVELOPMENT STAGE ENTERPRISE)





CONDENSED
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ DEFICIENCY (Continued)


FROM
INCEPTION (FEBRUARY 18, 1998) TO SEPTEMBER 30, 2008




Common
      Stock
              
              
              
              
              
              
              
              
              
              
              
              Deficit Accumulated During
      the
              
              
              TotalPrice
      per Share
              
              
              Shares
              
              
              Amount
              
              
              Common
      Stock to be Issued
              
              
              Additional
      Paid-in Capital
              
              
              Deferred
      Compensation
              
              
              Development
      Stage
              
              
              Stockholders’
      DeficiencyStock
      issued for directors services on December 10, 2002
              
              
              0.40
              
              
              
              2,150,000
              
              
              
              2,150
              
              
              
              -
              
              
              
              857,850
              
              
              
              -
              
              
              
              -
              
              
              
              860,000Common
      stock paid for, but not issued (2,305,000 shares)
              
              
              0.15-0.25
              
              
              
              -
              
              
              
              -
              
              
              
              389,875
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              389,875Fair
      value of options issued to non-employees for services
              
              
              
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              54,909
              
              
              
              (54,909
              )
              
              
              -
              
              
              
              -Amortization
      of deferred compensation
              
              
              
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              891,182
              
              
              
              -
              
              
              
              891,182Net
      loss for the year ended December 31, 2002
              
              
              
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (2,749,199
              )
              
              
              (2,749,199
              )Balance,
      December 31, 2002
              
              
              
              
              
              
              20,235,847
              
              
              $
              20,236
              
              
              $
              389,875
              
              
              $
              7,133,081
              
              
              $
              (1,572,060
              )
              
              $
              (7,851,545
              )
              
              $
              (1,880,413
              )Common
      stock issued, previously paid for
              
              
              0.15
              
              
              
              1,425,000
              
              
              
              1,425
              
              
              
              (213,750
              )
              
              
              212,325
              
              
              
              -
              
              
              
              -
              
              
              
              -Common
      stock issued, previously paid for
              
              
              0.25
              
              
              
              880,000
              
              
              
              880
              
              
              
              (220,000
              )
              
              
              219,120
              
              
              
              -
              
              
              
              -
              
              
              
              -Stock
      issued for cash on March 20, 2003
              
              
              0.25
              
              
              
              670,000
              
              
              
              670
              
              
              
              -
              
              
              
              166,830
              
              
              
              -
              
              
              
              -
              
              
              
              167,500Stock
      issued for cash on April 4, 2003
              
              
              0.25
              
              
              
              900,000
              
              
              
              900
              
              
              
              -
              
              
              
              224,062
              
              
              
              -
              
              
              
              -
              
              
              
              224,962Stock
      issued for cash on April 8, 2003
              
              
              0.25
              
              
              
              100,000
              
              
              
              100
              
              
              
              -
              
              
              
              24,900
              
              
              
              -
              
              
              
              -
              
              
              
              25,000Stock
      issued for cash on May 8, 2003
              
              
              0.25
              
              
              
              1,150,000
              
              
              
              1,150
              
              
              
              -
              
              
              
              286,330
              
              
              
              -
              
              
              
              -
              
              
              
              287,480Stock
      issued for cash on June 16, 2003
              
              
              0.25
              
              
              
              475,000
              
              
              
              475
              
              
              
              -
              
              
              
              118,275
              
              
              
              -
              
              
              
              -
              
              
              
              118,750Stock
      issued for cash on June 16, 2003
              
              
              0.25
              
              
              
              475,000
              
              
              
              475
              
              
              
              -
              
              
              
              118,275
              
              
              
              -
              
              
              
              -
              
              
              
              118,750Stock
      issued for legal services on June 27, 2003
              
              
              0.55
              
              
              
              83,414
              
              
              
              83
              
              
              
              -
              
              
              
              45,794
              
              
              
              -
              
              
              
              -
              
              
              
              45,877Debt
      converted to stock on June 27, 2003
              
              
              0.25
              
              
              
              2,000,000
              
              
              
              2,000
              
              
              
              -
              
              
              
              498,000
              
              
              
              -
              
              
              
              -
              
              
              
              500,000Stock
      and warrants issued for cash on July 11, 2003
              
              
              0.25
              
              
              
              519,000
              
              
              
              519
              
              
              
              -
              
              
              
              129,231
              
              
              
              -
              
              
              
              -
              
              
              
              129,750Stock
      and warrants issued for cash on September 29, 2003
              
              
              0.25
              
              
              
              1,775,000
              
              
              
              1,775
              
              
              
              -
              
              
              
              441,976
              
              
              
              -
              
              
              
              -
              
              
              
              443,751Stock
      and warrants issued for cash on October 21, 2003
              
              
              0.25
              
              
              
              1,845,000
              
              
              
              1,845
              
              
              
              -
              
              
              
              459,405
              
              
              
              -
              
              
              
              -
              
              
              
              461,250Stock
      and warrants issued for cash on October 28, 2003
              
              
              0.25
              
              
              
              1,570,000
              
              
              
              1,570
              
              
              
              -
              
              
              
              390,930
              
              
              
              -
              
              
              
              -
              
              
              
              392,500Stock
      and warrants issued for cash on November 19, 2003
              
              
              0.25
              
              
              
              500,000
              
              
              
              500
              
              
              
              -
              
              
              
              124,500
              
              
              
              -
              
              
              
              -
              
              
              
              125,000Finders'
      fee related to stock issuances
              
              
              
              
              
              
              -
              
              
              
              -
              
              
              
              43,875
              
              
              
              (312,582
              )
              
              
              -
              
              
              
              -
              
              
              
              (268,707
              )Common
      stock paid for, but not issued (25,000 shares)
              
              
              0.25
              
              
              
              -
              
              
              
              -
              
              
              
              6,250
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              6,250





(continued)




6




SAVE
THE WORLD AIR, INC. AND SUBSIDIARY


(A
DEVELOPMENT STAGE ENTERPRISE)





CONDENSED
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ DEFICIENCY (Continued)


FROM
INCEPTION (FEBRUARY 18, 1998) TO SEPTEMBER 30, 2008




Common
      Stock
              
              
              
              
              
              
              
              
              
              
              
              Deficit Accumulated During
      the
              
              
              TotalPrice
      per Share
              
              
              Shares
              
              
              Amount
              
              
              Common Stock to be
      Issued
              
              
              Additional
      Paid-in Capital
              
              
              Deferred
      Compensation
              
              
              Development
      Stage
              
              
              Stockholders’
      DeficiencyAmortization
      of deferred comp
              
              
              
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              863,727
              
              
              
              -
              
              
              
              863,727Net
      loss for year ended December 31, 2003
              
              
              
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (2,476,063
              )
              
              
              (2,476,063
              )Balance,
      December 31, 2003
              
              
              
              
              
              
              34,128,261
              
              
              $
              34,128
              
              
              $
              6,250
              
              
              $
              10,162,177
              
              
              $
              (708,333
              )
              
              $
              (10,327,608
              )
              
              $
              (833,386
              )Common
      stock issued, previously paid for
              
              
              0.25
              
              
              
              25,000
              
              
              
              25
              
              
              
              (6,250
              )
              
              
              6,225
              
              
              
              -
              
              
              
              -
              
              
              
              -Stock
      issued for director services on March 31, 2004
              
              
              1.50
              
              
              
              50,000
              
              
              
              50
              
              
              
              -
              
              
              
              74,950
              
              
              
              -
              
              
              
              -
              
              
              
              75,000Stock
      issued for finders fees on March 31, 2004
              
              
              0.15
              
              
              
              82,500
              
              
              
              82
              
              
              
              -
              
              
              
              12,293
              
              
              
              -
              
              
              
              -
              
              
              
              12,375Stock
      issued for finders fees on March 31, 2004
              
              
              0.25
              
              
              
              406,060
              
              
              
              407
              
              
              
              -
              
              
              
              101,199
              
              
              
              -
              
              
              
              -
              
              
              
              101,606Stock
      issued for services on April 2, 2004
              
              
              1.53
              
              
              
              65,000
              
              
              
              65
              
              
              
              -
              
              
              
              99,385
              
              
              
              -
              
              
              
              -
              
              
              
              99,450Debt
      converted to stock on April 2, 2004
              
              
              1.53
              
              
              
              60,000
              
              
              
              60
              
              
              
              -
              
              
              
              91,740
              
              
              
              -
              
              
              
              -
              
              
              
              91,800Stock
      issued upon exercise of warrants on May 21, 2004
              
              
              0.20
              
              
              
              950,000
              
              
              
              950
              
              
              
              -
              
              
              
              189,050
              
              
              
              -
              
              
              
              -
              
              
              
              190,000Stock
      issued for directors services on June 8, 2004
              
              
              1.70
              
              
              
              600,000
              
              
              
              600
              
              
              
              -
              
              
              
              1,019,400
              
              
              
              -
              
              
              
              -
              
              
              
              1,020,000Stock
      issued for cash on August 25, 2004
              
              
              1.00
              
              
              
              550,000
              
              
              
              550
              
              
              
              -
              
              
              
              549,450
              
              
              
              -
              
              
              
              -
              
              
              
              550,000Stock
      issued upon exercise of options on August 30, 2004
              
              
              0.40
              
              
              
              4,000
              
              
              
              4
              
              
              
              -
              
              
              
              1,596
              
              
              
              -
              
              
              
              -
              
              
              
              1,600Stock
      issued for cash on September 8, 2004
              
              
              1.00
              
              
              
              25,000
              
              
              
              25
              
              
              
              -
              
              
              
              24,975
              
              
              
              -
              
              
              
              -
              
              
              
              25,000Stock
      issued for consulting services on September 15, 2004
              
              
              1.31
              
              
              
              50,000
              
              
              
              49
              
              
              
              -
              
              
              
              65,451
              
              
              
              -
              
              
              
              -
              
              
              
              65,500Stock
      issued for patent settlement on September 22, 2004
              
              
              1.24
              
              
              
              20,000
              
              
              
              20
              
              
              
              -
              
              
              
              24,780
              
              
              
              -
              
              
              
              -
              
              
              
              24,800Stock
      issued for research and development on October 6,
2004
              
              
              1.40
              
              
              
              65,000
              
              
              
              65
              
              
              
              -
              
              
              
              90,935
              
              
              
              -
              
              
              
              -
              
              
              
              91,000Stock
      issued for cash on October 6, 2004
              
              
              1.00
              
              
              
              25,000
              
              
              
              25
              
              
              
              -
              
              
              
              24,975
              
              
              
              -
              
              
              
              -
              
              
              
              25,000Stock
      issued for cash on October 15, 2004
              
              
              1.00
              
              
              
              150,000
              
              
              
              150
              
              
              
              -
              
              
              
              149,850
              
              
              
              -
              
              
              
              -
              
              
              
              150,000Stock
      issued upon exercise of stock options on October 21,
    2004
              
              
              0.40
              
              
              
              6,500
              
              
              
              6
              
              
              
              -
              
              
              
              2,594
              
              
              
              -
              
              
              
              -
              
              
              
              2,600Stock
      issued for cash on November 3, 2004
              
              
              1.00
              
              
              
              25,000
              
              
              
              25
              
              
              
              -
              
              
              
              24,975
              
              
              
              -
              
              
              
              -
              
              
              
              25,000Stock
      issued for cash on November 18, 2004
              
              
              1.00
              
              
              
              172,500
              
              
              
              173
              
              
              
              -
              
              
              
              172,327
              
              
              
              -
              
              
              
              -
              
              
              
              172,500





(continued)




7




SAVE
THE WORLD AIR, INC. AND SUBSIDIARY


(A
DEVELOPMENT STAGE ENTERPRISE)





CONDENSED
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ DEFICIENCY (Continued)


FROM
INCEPTION (FEBRUARY 18, 1998) TO SEPTEMBER 30, 2008




Common
      Stock
                
                
                
                
                
                
                
                
                
                
                
                Deficit
      Accumulated During the
                
                
                TotalPrice
      Per Share
                
                
                Shares
                
                
                Amount
                
                
                Common
      Stock to be Issued
                
                
                Additional
      Paid-in Capital
                
                
                Deferred
      Compensation
                
                
                Development
      Stage
                
                
                Stockholders’
      DeficiencyStock
      issued for cash on December 9, 2004
                
                
                1.00
                
                
                
                75,000
                
                
                
                75
                
                
                
                -
                
                
                
                74,925
                
                
                
                -
                
                
                
                -
                
                
                
                75,000Stock
      issued for cash on December 23, 2004
                
                
                1.00
                
                
                
                250,000
                
                
                
                250
                
                
                
                -
                
                
                
                249,750
                
                
                
                -
                
                
                
                -
                
                
                
                250,000Finders
      fees related to stock issuances
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                (88,384
                )
                
                
                -
                
                
                
                -
                
                
                
                (88,384
                )Common
      stock paid for, but not issued (119,000 shares)
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                119,000
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                119,000Intrinsic
      value of options issued to employees
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                248,891
                
                
                
                -248,891
                
                
                
                -
                
                
                
                -Fair
      value of options issued to non-employees for services
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                55,381
                
                
                
                (55,381
                )
                
                
                -
                
                
                
                -Fair
      value of warrants issued for settlement costs
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                1,585,266
                
                
                
                -
                
                
                
                -
                
                
                
                1,585,266Fair
      value of warrants issued to non-employees for services
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                28,872
                
                
                
                -
                
                
                
                -
                
                
                
                28,872Amortization
      of deferred compensation
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                936,537
                
                
                
                -
                
                
                
                936,537Net
      loss for year ended December 31, 2004
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                (6,803,280
                )
                
                
                (6,803,280
                )Balance,
      December 31, 2004
                
                
                
                
                
                
                37,784,821
                
                
                $
                37,784
                
                
                $
                119,000
                
                
                $
                15,043,028
                
                
                $
                (76,068
                )
                
                $
                (17,130,888
                )
                
                $
                (2,007,144
                )Common
      stock issued, previously paid for
                
                
                1.00
                
                
                
                69,000
                
                
                
                69
                
                
                
                (69,000
                )
                
                
                68,931
                
                
                
                -
                
                
                
                -
                
                
                
                -Stock
      issued upon exercise of warrants, previously paid for
                
                
                1.00
                
                
                
                50,000
                
                
                
                50
                
                
                
                (50,000
                )
                
                
                49,950
                
                
                
                -
                
                
                
                -
                
                
                
                -Stock
      issued for cash on January 20, 2005
                
                
                1.00
                
                
                
                25,000
                
                
                
                25
                
                
                
                -
                
                
                
                24,975
                
                
                
                -
                
                
                
                -
                
                
                
                25,000Stock
      issued upon exercise of warrants on January 31, 2005
                
                
                0.40
                
                
                
                500
                
                
                
                1
                
                
                
                -
                
                
                
                199
                
                
                
                -
                
                
                
                -
                
                
                
                200Stock
      issued for cash on February 17, 2005
                
                
                1.00
                
                
                
                325,000
                
                
                
                325
                
                
                
                -
                
                
                
                324,675
                
                
                
                -
                
                
                
                -
                
                
                
                325,000Stock
      issued for cash on March 31, 2005
                
                
                1.00
                
                
                
                215,000
                
                
                
                215
                
                
                
                -
                
                
                
                214,785
                
                
                
                -
                
                
                
                -
                
                
                
                215,000Stock
      issued for cash on May 17, 2005
                
                
                1.00
                
                
                
                5,000
                
                
                
                5
                
                
                
                -
                
                
                
                4,995
                
                
                
                -
                
                
                
                -
                
                
                
                5,000Stock
      issued for cash on June 7, 2005
                
                
                1.00
                
                
                
                300,000
                
                
                
                300
                
                
                
                -
                
                
                
                299,700
                
                
                
                -
                
                
                
                -
                
                
                
                300,000Stock
      issued for cash on August 5, 2005
                
                
                1.00
                
                
                
                480,500
                
                
                
                480
                
                
                
                -
                
                
                
                480,020
                
                
                
                -
                
                
                
                -
                
                
                
                480,500Stock
      issued for cash on August 9, 2005
                
                
                1.00
                
                
                
                100,000
                
                
                
                100
                
                
                
                -
                
                
                
                99,900
                
                
                
                -
                
                
                
                -
                
                
                
                100,000Stock
      issued for cash on October 27, 2005
                
                
                1.00
                
                
                
                80,000
                
                
                
                80
                
                
                
                -
                
                
                
                79,920
                
                
                
                -
                
                
                
                -
                
                
                
                80,000Common
      stock cancelled on December 7, 2005
                
                
                
                
                
                
                (8,047,403
                )
                
                
                (8,047
                )
                
                
                -
                
                
                
                8,047
                
                
                
                -
                
                
                
                -
                
                
                
                -




(continued)




8




SAVE
THE WORLD AIR, INC. AND SUBSIDIARY


(A
DEVELOPMENT STAGE ENTERPRISE)





CONDENSED
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ DEFICIENCY (Continued)


FROM
INCEPTION (FEBRUARY 18, 1998) TO SEPTEMBER 30, 2008




Price
      per
                
                
                Common
      Stock
                
                
                Common
      Stock to be
                
                
                Additional
                  Paid-in
                
                
                Deferred
                
                
                Deficit
                  Accumulated
                  During
      the
                  Development
                
                
                Total
                  Stockholders'Share
                
                
                Shares
                
                
                Amount
                
                
                Issued
                
                
                Capital
                
                
                Compensation
                
                
                Stage
                
                
                DeficiencyStock
      to be issued for settlement of payables on December 21,
      2005
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                57,092
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                57,092Stock
      to be  issued for settlement of payables on December 31,
      2005
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                555,429
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                555,429Finders
      fees related to stock issuances
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                (109,840
                )
                
                
                -
                
                
                
                -
                
                
                
                (109,840
                )Intrinsic
      value of options issued to employees
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                243,750
                
                
                
                (243,750
                )
                
                
                -
                
                
                
                -Fair
      value of options issued for settlement costs
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                31,500
                
                
                
                -
                
                
                
                -
                
                
                
                31,500Fair
      value of warrants issued for settlement costs
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                4,957
                
                
                
                -
                
                
                
                -
                
                
                
                4,957Fair
      value of warrants issued to non-employees for services
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                13,505
                
                
                
                -
                
                
                
                -
                
                
                
                13,505Amortization
      of deferred compensation
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                177,631
                
                
                
                -
                
                
                
                177,631Warrants
      issued with convertible notes
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                696,413
                
                
                
                -
                
                
                
                -
                
                
                
                696,413Intrinsic
      value of beneficial conversion associated with convertible
      notes
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                756,768
                
                
                
                -
                
                
                
                -
                
                
                
                756,768Net
      loss for year ended December 31, 2005
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                -
                
                
                
                (3,115,186
                )
                
                
                (3,115,186
                )Balance,
      December 31, 2005
                
                
                -
                
                
                
                31,387,418
                
                
                $
                31,387
                
                
                $
                612,521
                
                
                $
                18,336,178
                
                
                $
                (142,187
                )
                
                $
                (20,246,074
                )
                
                $
                (1,408,175
                )Stock
      issued, for previously settled payables
                
                
                -
                
                
                
                846,549
                
                
                
                847
                
                
                
                (612,521
                )
                
                
                611,674
                
                
                
                -
                
                
                
                -
                
                
                
                -Stock
      issued upon exercise of warrants on March 23, 2006
                
                
                1.50
                
                
                
                25,000
                
                
                
                25
                
                
                
                -
                
                
                
                37,475
                
                
                
                -
                
                
                
                -
                
                
                
                37,500Stock
      issued upon exercise of warrants on March 27, 2006
                
                
                1.50
                
                
                
                50,000
                
                
                
                50
                
                
                
                -
                
                
                
                74,950
                
                
                
                -
                
                
                
                -
                
                
                
                75,000Stock
      issued upon exercise of warrants on March 27, 2006
                
                
                0.50
                
                
                
                25,000
                
                
                
                25
                
                
                
                -
                
                
                
                12,475
                
                
                
                -
                
                
                
                -
                
                
                
                12,500Stock
      issued upon exercise of warrants on March 30, 2006
                
                
                1.00
                
                
                
                10,000
                
                
                
                10
                
                
                
                -
                
                
                
                9,990
                
                
                
                -
                
                
                
                -
                
                
                
                10,000Stock
      issued upon exercise of warrants on April 10, 2006
                
                
                0.50
                
                
                
                36,250
                
                
                
                36
                
                
                
                -
                
                
                
                18,089
                
                
                
                -
                
                
                
                -
                
                
                
                18,125Common
      stock issued for convertible debt on April 10, 2006
                
                
                0.70
                
                
                
                269,600
                
                
                
                270
                
                
                
                -
                
                
                
                188,450
                
                
                
                -
                
                
                
                -
                
                
                
                188,720Stock
      issued for cash on April 24, 2006
                
                
                1.56
                
                
                
                473,000
                
                
                
                473
                
                
                
                -
                
                
                
                737,408
                
                
                
                -
                
                
                
                -
                
                
                
                737,881






(continued)




9




SAVE
THE WORLD AIR, INC. AND SUBSIDIARY


(A
DEVELOPMENT STAGE ENTERPRISE)





CONDENSED
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ DEFICIENCY (Continued)


FROM
INCEPTION (FEBRUARY 18, 1998) TO SEPTEMBER 30, 2008




Common
      Stock
            
            
            
            
            
            
            
            
            
            
            
            Deficit Accumulated During
      the
            
            
            TotalPrice
      per Share
            
            
            Shares
            
            
            Amount
            
            
            Common
      Stock to be Issued
            
            
            Additional
      Paid-in Capital
            
            
            Deferred
      Compensation
            
            
            Development
      Stage
            
            
            Stockholders'
      DeficiencyStock
      issued upon exercise of warrants on April 26, 2006
            
            
            0.50
            
            
            
            125,000
            
            
            
            125
            
            
            
            -
            
            
            
            62,375
            
            
            
            -
            
            
            
            -
            
            
            
            62,500Stock
      issued upon exercise of warrants on April 26, 2006
            
            
            1.50
            
            
            
            100,000
            
            
            
            100
            
            
            
            -
            
            
            
            149,900
            
            
            
            -
            
            
            
            -
            
            
            
            150,000Common
      stock issued for convertible debt on April 26, 2006
            
            
            0.70
            
            
            
            35,714
            
            
            
            36
            
            
            
            -
            
            
            
            24,964
            
            
            
            -
            
            
            
            -
            
            
            
            25,000Stock
      issued upon exercise of warrants on May 6, 2006
            
            
            0.50
            
            
            
            200,000
            
            
            
            200
            
            
            
            -
            
            
            
            99,800
            
            
            
            -
            
            
            
            -
            
            
            
            100,000Stock
      issued upon exercise of warrants on May 15, 2006
            
            
            1.50
            
            
            
            25,000
            
            
            
            25
            
            
            
            -
            
            
            
            37,475
            
            
            
            -
            
            
            
            -
            
            
            
            37,500Stock
      issued upon exercise of warrants on May 15, 2006
            
            
            0.50
            
            
            
            50,000
            
            
            
            50
            
            
            
            -
            
            
            
            24,950
            
            
            
            -
            
            
            
            -
            
            
            
            25,000Stock
      issued for cash on June 7, 2006
            
            
            1.89
            
            
            
            873,018
            
            
            
            872
            
            
            
            -
            
            
            
            1,649,136
            
            
            
            -
            
            
            
            -
            
            
            
            1,650,008Common
      stock issued for convertible debt on June 7, 2006
            
            
            0.70
            
            
            
            1,535,716
            
            
            
            1,536
            
            
            
            -
            
            
            
            1,073,464
            
            
            
            -
            
            
            
            -
            
            
            
            1,075,000Stock
      issued upon exercise of warrants on June 8, 2006
            
            
            0.50
            
            
            
            900,000
            
            
            
            900
            
            
            
            -
            
            
            
            449,100
            
            
            
            -
            
            
            
            -
            
            
            
            450,000Stock
      issued upon exercise of warrants on June 9, 2006
            
            
            0.50
            
            
            
            9,000
            
            
            
            9
            
            
            
            -
            
            
            
            4,491
            
            
            
            -
            
            
            
            -
            
            
            
            4,500Stock
      issued upon exercise of warrants on June 23, 2006
            
            
            0.50
            
            
            
            150,000
            
            
            
            150
            
            
            
            -
            
            
            
            74,850
            
            
            
            -
            
            
            
            -
            
            
            
            75,000Stock
      issued upon exercise of warrants on June 23, 2006
            
            
            1.50
            
            
            
            15,000
            
            
            
            15
            
            
            
            -
            
            
            
            22,485
            
            
            
            -
            
            
            
            -
            
            
            
            22,500Common
      stock issued for convertible debt on June 30, 2006
            
            
            0.70
            
            
            
            219,104
            
            
            
            219
            
            
            
            -
            
            
            
            153,155
            
            
            
            -
            
            
            
            -
            
            
            
            153,374Common
      stock issued for convertible debt on July 11, 2006
            
            
            0.70
            
            
            
            14,603
            
            
            
            15
            
            
            
            -
            
            
            
            10,207
            
            
            
            -
            
            
            
            -
            
            
            
            10,222Common
      stock issued for convertible debt on August 7, 2006
            
            
            0.70
            
            
            
            1,540,160
            
            
            
            1,540
            
            
            
            -
            
            
            
            1,076,572
            
            
            
            -
            
            
            
            -
            
            
            
            1,078,112Common
      stock issued upon exercise of warrants on August 7, 2006
            
            
            1.50
            
            
            
            175,000
            
            
            
            175
            
            
            
            -
            
            
            
            262,325
            
            
            
            -
            
            
            
            -
            
            
            
            262,500Common
      stock issued upon exercise of warrants on August 21, 2006
            
            
            1.50
            
            
            
            50,000
            
            
            
            50
            
            
            
            -
            
            
            
            74,950
            
            
            
            -
            
            
            
            -
            
            
            
            75,000




(continued)




10




SAVE
THE WORLD AIR, INC. AND SUBSIDIARY


(A
DEVELOPMENT STAGE ENTERPRISE)





CONDENSED
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ DEFICIENCY (Continued)


FROM
INCEPTION (FEBRUARY 18, 1998) TO SEPTEMBER 30, 2008




Common
      Stock
            
            
            
            
            
            
            
            
            
            
            
            Deficit Accumulated During
      the
            
            
            TotalPrice
      per Share
            
            
            Shares
            
            
            Amount
            
            
            Common
      Stock to be Issued
            
            
            Additional
      Paid-in Capital
            
            
            Deferred
      Compensation
            
            
            Development
      Stage
            
            
            Stockholders'
      DeficiencyCommon
      stock issued for cash on August 22, 2006
            
            
            1.00
            
            
            
            14,519
            
            
            
            15
            
            
            
            -
            
            
            
            14,504
            
            
            
            -
            
            
            
            -
            
            
            
            14,519Common
      stock issued upon exercise of warrants on August 23, 2006
            
            
            1.00
            
            
            
            3,683
            
            
            
            4
            
            
            
            -
            
            
            
            3,679
            
            
            
            -
            
            
            
            -
            
            
            
            3,683Common
      stock issued upon exercise of warrants on August 28, 2006
            
            
            1.50
            
            
            
            5,000
            
            
            
            5
            
            
            
            -
            
            
            
            7,495
            
            
            
            -
            
            
            
            -
            
            
            
            7,500Common
      stock issued for convertible debt on September 13, 2006
            
            
            0.70
            
            
            
            4,286
            
            
            
            4
            
            
            
            -
            
            
            
            2,996
            
            
            
            -
            
            
            
            -
            
            
            
            3,000Common
      stock issued upon exercise of warrants on September 13,
    2006
            
            
            0.50
            
            
            
            150,000
            
            
            
            150
            
            
            
            -
            
            
            
            74,850
            
            
            
            -
            
            
            
            -
            
            
            
            75,000Common
      stock issued for convertible debt on October 16, 2006
            
            
            0.70
            
            
            
            66,654
            
            
            
            67
            
            
            
            -
            
            
            
            46,591
            
            
            
            -
            
            
            
            -
            
            
            
            46,658Common
      stock issued upon exercise of warrants on November 3, 2006
            
            
            0.50
            
            
            
            210,000
            
            
            
            210
            
            
            
            -
            
            
            
            104,790
            
            
            
            -
            
            
            
            -
            
            
            
            105,000Common
      stock issued for put on equity line of credit on November 7,
      2006
            
            
            1.22
            
            
            
            944,700
            
            
            
            94
            
            
            
            -
            
            
            
            115,368
            
            
            
            -
            
            
            
            -
            
            
            
            115,462Common
      stock issued for put on equity line of credit on November 14,
      2006
            
            
            1.14
            
            
            
            7,300
            
            
            
            7
            
            
            
            -
            
            
            
            8,349
            
            
            
            -
            
            
            
            -
            
            
            
            8,356Common
      stock issued for put on equity line of credit on November 27,
      2006
            
            
            0.83
            
            
            
            27,500
            
            
            
            28
            
            
            
            -
            
            
            
            22,913
            
            
            
            -
            
            
            
            -
            
            
            
            22,941Common
      stock issued for put on equity line of credit on November 28,
      2006
            
            
            0.82
            
            
            
            36,500
            
            
            
            36
            
            
            
            -
            
            
            
            30,059
            
            
            
            -
            
            
            
            -
            
            
            
            30,095Common
      stock issued for put on equity line of credit on December 6,
      2006
            
            
            0.78
            
            
            
            73,863
            
            
            
            74
            
            
            
            -
            
            
            
            57,244
            
            
            
            -
            
            
            
            -
            
            
            
            57,318Common
      stock issued for put on equity line of credit on December 26,
      2006
            
            
            0.55
            
            
            
            18,800
            
            
            
            19
            
            
            
            -
            
            
            
            10,377
            
            
            
            -
            
            
            
            -
            
            
            
            10,396Common
      stock issued for put on equity line of credit on December 31,
      2006
            
            
            0.59
            
            
            
            229,050
            
            
            
            229
            
            
            
            -
            
            
            
            135,300
            
            
            
            -
            
            
            
            -
            
            
            
            135,529Common
      stock paid for, but not issued
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            60,000
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            60,000Fair
      value of options issued to employees and officers
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            2,253,263
            
            
            
            -
            
            
            
            -
            
            
            
            2,253,263Fair
      value of warrants issued for services
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            401,130
            
            
            
            -
            
            
            
            -
            
            
            
            401,130Write
      off of deferred compensation
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            (142,187
            )
            
            
            142,187
            
            
            
            -
            
            
            
            -Warrants
      issued for consulting
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            62,497
            
            
            
            -
            
            
            
            -
            
            
            
            62,497




(continued)




11




SAVE
THE WORLD AIR, INC. AND SUBSIDIARY


(A
DEVELOPMENT STAGE ENTERPRISE)





CONDENSED
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ DEFICIENCY (Continued)


FROM
INCEPTION (FEBRUARY 18, 1998) TO SEPTEMBER 30, 2008




Common
      Stock
              
              
              
              
              
              
              
              
              
              
              
              Deficit Accumulated During
      the
              
              
              Total
      Stockholders'Price per
      Share
              
              
              Shares
              
              
              Amount
              
              
              Common
      Stock to be Issued
              
              
              Additional
      Paid-in Capital
              
              
              Deferred
      Compensation
              
              
              Development
      Stage
              
              
              DeficiencyWarrants
      issued with convertible notes
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              408,596
              
              
              
              -
              
              
              
              -
              
              
              
              408,596Intrinsic
      value of beneficial conversion associated with convertible
      notes
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              851,100
              
              
              
              -
              
              
              
              -
              
              
              
              851,100Finders
      fees related to stock issuances
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (284,579
              )
              
              
              -
              
              
              
              -
              
              
              
              (284,579
              )Fees
      paid on equity line of credit
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (30,402
              )
              
              
              -
              
              
              
              -
              
              
              
              (30,402
              )Net
      loss for year ended December 31, 2006
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (10,181,523
              )
              
              
              (10,181,523
              )Balance,
      December 31, 2006
              
              
              
              
              
              
              40,081,757
              
              
              $
              40,082
              
              
              $
              60,000
              
              
              $
              29,430,821
              
              
              $
              -
              
              
              $
              (30,427,597
              )
              
              $
              (896,694
              )Common
      stock issued for put on equity line of credit on January 11,
      2007
              
              
              0.63
              
              
              
              63,000
              
              
              
              63
              
              
              
              -
              
              
              
              39,659
              
              
              
              -
              
              
              
              -
              
              
              
              39,722Common
      stock issued for put on equity line of credit on January 22,
      2007
              
              
              0.73
              
              
              
              58,150
              
              
              
              58
              
              
              
              -
              
              
              
              42,246
              
              
              
              -
              
              
              
              -
              
              
              
              42,304Common
      stock issued for put on equity line of credit on February 9,
      2007
              
              
              0.73
              
              
              
              35,800
              
              
              
              36
              
              
              
              -
              
              
              
              26,009
              
              
              
              -
              
              
              
              -
              
              
              
              26,045Common
      stock issued for put on equity line of credit on February 16,
      2007
              
              
              0.70
              
              
              
              162,000
              
              
              
              162
              
              
              
              -
              
              
              
              112,979
              
              
              
              -
              
              
              
              -Common
      stock issued for put on equity line of credit on February 26,
      2007
              
              
              0.66
              
              
              
              71,000
              
              
              
              71
              
              
              
              -
              
              
              
              46,761
              
              
              
              -
              
              
              
              -Common
      stock issued for put on equity line of credit on March 5,
    2007
              
              
              0.66
              
              
              
              42,600
              
              
              
              43
              
              
              
              -
              
              
              
              28,056
              
              
              
              -
              
              
              
              -Common
      stock issued for put on equity line of credit on March 12,
      2007
              
              
              0.67
              
              
              
              92,900
              
              
              
              93
              
              
              
              -
              
              
              
              62,085
              
              
              
              -
              
              
              
              -Common
      stock issued for put on equity line of credit on March 19,
      2007
              
              
              0.64
              
              
              
              47,500
              
              
              
              48
              
              
              
              -
              
              
              
              30,362
              
              
              
              -
              
              
              
              -Common
      stock issued for put on equity line of credit on March 26,
      2007
              
              
              0.63
              
              
              
              7,500
              
              
              
              7
              
              
              
              -
              
              
              
              4,722
              
              
              
              -
              
              
              
              -Common
      stock issued for put on equity line of credit on March 31,
      2007
              
              
              0.61
              
              
              
              25,500
              
              
              
              25
              
              
              
              -
              
              
              
              15,558
              
              
              
              -
              
              
              
              -Fees
      paid on equity line of credit
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (32,723
              )
              
              
              -
              
              
              
              -Warrants
      issued with convertible notes
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              291,936
              
              
              
              -
              
              
              
              -Common
      stock issued for put on equity line of credit on April 9,
    2007
              
              
              0.63
              
              
              
              56,300
              
              
              
              56
              
              
              
              -
              
              
              
              35,441
              
              
              
              -
              
              
              
              -
              
              
              
              35,497





(continued)




12




SAVE
THE WORLD AIR, INC. AND SUBSIDIARY


(A
DEVELOPMENT STAGE ENTERPRISE)





CONDENSED
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ DEFICIENCY (Continued)


FROM
INCEPTION (FEBRUARY 18, 1998) TO SEPTEMBER 30, 2008




Common
      Stock
            
            
            
            
            
            
            
            
            
            
            
            Deficit Accumulated During the
            
            
            TotalPrice
      per Share
            
            
            Shares
            
            
            Amount
            
            
            Common
      Stock to be Issued
            
            
            Additional
      Paid-in Capital
            
            
            Deferred
      Compensation
            
            
            Development
      Stage
            
            
            Stockholders'
      EquityCommon
      stock issued for put on equity line of credit on April 17,
      2007
            
            
            0.56
            
            
            
            73,835
            
            
            
            74
            
            
            
            -
            
            
            
            41,466
            
            
            
            -
            
            
            
            -
            
            
            
            41,540Common
      stock issued for put on equity line of credit on April 24,
      2007
            
            
            0.56
            
            
            
            122,857
            
            
            
            123
            
            
            
            -
            
            
            
            68,996
            
            
            
            -
            
            
            
            -
            
            
            
            69,119Common
      stock issued for put on equity line of credit on May 1,
    2007
            
            
            0.55
            
            
            
            226,081
            
            
            
            226
            
            
            
            -
            
            
            
            124,774
            
            
            
            -
            
            
            
            -
            
            
            
            125,000Common
      stock issued for put on equity line of credit on May 8,
    2007
            
            
            0.66
            
            
            
            29,400
            
            
            
            29
            
            
            
            -
            
            
            
            19,363
            
            
            
            -
            
            
            
            -
            
            
            
            19,392Common
      stock issued for put on equity line of credit on May 15,
    2007
            
            
            0.43
            
            
            
            403,502
            
            
            
            404
            
            
            
            -
            
            
            
            171,811
            
            
            
            -
            
            
            
            -
            
            
            
            172,215Common
      stock issued for put on equity line of credit on May 22,
    2007
            
            
            0.39
            
            
            
            119,800
            
            
            
            120
            
            
            
            -
            
            
            
            46,362
            
            
            
            -
            
            
            
            -
            
            
            
            46,482Common
      stock issued for put on equity line of credit on May 30,
    2007
            
            
            0.33
            
            
            
            80,996
            
            
            
            81
            
            
            
            -
            
            
            
            26,631
            
            
            
            -
            
            
            
            -
            
            
            
            26,712Common
      stock issued for put on equity line of credit on June 6,
    2007
            
            
            0.32
            
            
            
            54,700
            
            
            
            55
            
            
            
            -
            
            
            
            17,454
            
            
            
            -
            
            
            
            -
            
            
            
            17,509Common
      stock issued for put on equity line of credit on June 15,
    2007
            
            
            0.27
            
            
            
            94,500
            
            
            
            95
            
            
            
            -
            
            
            
            25,571
            
            
            
            -
            
            
            
            -
            
            
            
            25,666Common
      stock issued for put on equity line of credit on June 21,
    2007
            
            
            0.31
            
            
            
            12,500
            
            
            
            12
            
            
            
            -
            
            
            
            3,868
            
            
            
            -
            
            
            
            -
            
            
            
            3,880Fees
      paid on equity line of credit
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            (46,641
            )
            
            
            -
            
            
            
            -
            
            
            
            (46,641
            )Warrants
      issued with convertible notes
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            260,718
            
            
            
            -
            
            
            
            -
            
            
            
            260,718Fair
      value of options issued to an officer
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            8,898
            
            
            
            -
            
            
            
            -
            
            
            
            8,898Common
      stock issued, previously paid for
            
            
            -
            
            
            
            2,597,524
            
            
            
            2,597
            
            
            
            (60,000
            )
            
            
            57,403
            
            
            
            -
            
            
            
            -
            
            
            
            -Fair
      value of options issued to  officers
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            20,574
            
            
            
            -
            
            
            
            -
            
            
            
            20,574Warrants
      issued with convertible notes
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            267,930
            
            
            
            -
            
            
            
            -
            
            
            
            267,930Common
      stock issued for convertible debt on October 5, 2007
            
            
            0.53
            
            
            
            51,887
            
            
            
            52
            
            
            
            -
            
            
            
            27,448
            
            
            
            -
            
            
            
            -
            
            
            
            27,500Common
      stock issued for convertible debt on November 12, 2007
            
            
            0.37
            
            
            
            255,081
            
            
            
            255
            
            
            
            -
            
            
            
            94,125
            
            
            
            -
            
            
            
            -
            
            
            
            94,380Common
      stock issued for convertible debt on November 12, 2007
            
            
            0.53
            
            
            
            51,887
            
            
            
            52
            
            
            
            -
            
            
            
            27,448
            
            
            
            -
            
            
            
            -
            
            
            
            27,500





(continued)





13




SAVE
THE WORLD AIR, INC. AND SUBSIDIARY


(A
DEVELOPMENT STAGE ENTERPRISE)





CONDENSED
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ DEFICIENCY (Continued)


FROM
INCEPTION (FEBRUARY 18, 1998) TO SEPTEMBER 30, 2008




Common
      Stock
              
              
              
              
              
              
              
              
              
              
              
              Deficit Accumulated During
      the
              
              
              TotalPrice
      per Share
              
              
              Shares
              
              
              Amount
              
              
              Common
      Stock to be Issued
              
              
              Additional
      Paid-in Capital
              
              
              Deferred
      Compensation
              
              
              Development
      Stage
              
              
              Stockholders'
      EquityCommon
      stock issued for convertible debt on November 14, 2007
              
              
              0.34
              
              
              
              80,882
              
              
              
              81
              
              
              
              -
              
              
              
              27,419
              
              
              
              -
              
              
              
              -
              
              
              
              27,500Common
      stock issued for convertible debt on November 14, 2007
              
              
              0.37
              
              
              
              95,227
              
              
              
              95
              
              
              
              -
              
              
              
              35,105
              
              
              
              -
              
              
              
              -
              
              
              
              35,200Common
      stock issued for convertible debt on November 15, 2007
              
              
              0.37
              
              
              
              163,514
              
              
              
              164
              
              
              
              -
              
              
              
              60,336
              
              
              
              -
              
              
              
              -
              
              
              
              60,500Common
      stock issued for convertible debt on November 16, 2007
              
              
              0.37
              
              
              
              71,351
              
              
              
              71
              
              
              
              -
              
              
              
              26,329
              
              
              
              -
              
              
              
              -
              
              
              
              26,400Common
      stock issued for convertible debt on November 16, 2007
              
              
              0.34
              
              
              
              80,882
              
              
              
              81
              
              
              
              -
              
              
              
              27,419
              
              
              
              -
              
              
              
              -
              
              
              
              27,500Warrants
      issued with convertible notes
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              158,652
              
              
              
              -
              
              
              
              -
              
              
              
              158,652Common
      stock to be issued for consulting services
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              4,000
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              4,000Common
      stock issued for convertible debt on December 28, 2007
              
              
              0.17
              
              
              
              1,060,000
              
              
              
              1,060
              
              
              
              -
              
              
              
              198,940
              
              
              
              -
              
              
              
              -
              
              
              
              200,000Fair
      value of options issued to an officer
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              21,818
              
              
              
              -
              
              
              
              -
              
              
              
              21,818Net
      loss for year ended December 31, 2007
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (6,262,743
              )
              
              
              (6,262,743
              )Balance,
      December 31, 2007
              
              
              
              
              
              
              46,470,413
              
              
              $
              46,471
              
              
              $
              4,000
              
              
              $
              32,280,083
              
              
              $
              -
              
              
              $
              (36,690,340
              )
              
              $
              (4,359,786
              )Fair
      value of warrants issued with convertible notes
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              116,913
              
              
              
              -
              
              
              
              -
              
              
              
              116,913Common
      stock issued for convertible debt on January 31,
2008
              
              
              0.37
              
              
              
              118,918
              
              
              
              119
              
              
              
              -
              
              
              
              43,881
              
              
              
              -
              
              
              
              -
              
              
              
              44,000Common
      stock issued for convertible debt on January 31, 2008
              
              
              0.39
              
              
              
              279,232
              
              
              
              279
              
              
              
              -
              
              
              
              108,621
              
              
              
              -
              
              
              
              -
              
              
              
              108,900Common
      stock issued for convertible debt on March 10, 2008
              
              
              0.39
              
              
              
              442,820
              
              
              
              443
              
              
              
              -
              
              
              
              172,257
              
              
              
              -
              
              
              
              -
              
              
              
              172,700Common
      stock issued for convertible debt on march 10, 2008
              
              
              0.38
              
              
              
              5,450,848
              
              
              
              5,451
              
              
              
              -
              
              
              
              2,039,243
              
              
              
              -
              
              
              
              -
              
              
              
              2,044,694Common
      stock issued on March 10, 2008 for settlement of loan on January 31,
      2008
              
              
              0.37
              
              
              
              80,000
              
              
              
              80
              
              
              
              -
              
              
              
              29,603
              
              
              
              -
              
              
              
              -
              
              
              
              29,683





(continued)




14




SAVE
THE WORLD AIR, INC. AND SUBSIDIARY


(A
DEVELOPMENT STAGE ENTERPRISE)





CONDENSED
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ DEFICIENCY (Continued)


FROM
INCEPTION (FEBRUARY 18, 1998) TO SEPTEMBER 30, 2008




Common
      Stock
            
            
            
            
            
            
            
            
            
            
            
            Deficit
      Accumulated During the
            
            
            TotalPrice per
      Share
            
            
            Shares
            
            
            Amount
            
            
            Common
      Stock to be Issued
            
            
            Additional
      Paid-in Capital
            
            
            Deferred
      Compensation
            
            
            Development
      Stage
            
            
            Stockholders'
      DeficiencyCommon
      stock issued on March 10, 2008 for settlement of payable on January 31,
      2008
            
            
            0.38
            
            
            
            1,891,048
            
            
            
            1,891
            
            
            
            -
            
            
            
            707,443
            
            
            
            -
            
            
            
            -
            
            
            
            709,334Common
      stock issued on March 10, 2008 for settlement of consulting services on
      December 13, 2007
            
            
            0.40
            
            
            
            10,000
            
            
            
            10
            
            
            
            (4,000
            )
            
            
            3,990
            
            
            
            -
            
            
            
            -
            
            
            
            -Common
      stock issued on March 10, 2008 for settlement of payable on February 1,
      2008
            
            
            0.37
            
            
            
            7,838
            
            
            
            8
            
            
            
            -
            
            
            
            2,892
            
            
            
            -
            
            
            
            -
            
            
            
            2,900Common
      stock to be issued for settlement of payable
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            25,375
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            25,375Common
      stock to be issued upon exercise of warrants on March 18,
    2008
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            3,000
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            3,000Common
      stock to be issued upon exercise of warrants on March 19,
    2008
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            50,000
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            50,000Common
      stock to be issued upon exercise of warrants on March 20,
    2008
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            50,000
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            50,000Common
      stock to be issued upon exercise of warrants on March 21,
    2008
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            50,000
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            50,000Common
      stock to be issued upon exercise of warrants on March 26,
    2008
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            15,130
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            15,130Common
      stock to be issued upon exercise of warrants on March 27,
    2008
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            2,700
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            2,700Common
      stock to be issued for notes converted on March 10, 2008
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            11,000
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            11,000Common
      stock to be issued for notes converted on March 17, 2008
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            82,500
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            82,500Common
      stock to be issued for notes converted on March 20, 2008
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            158,400
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            158,400Common
      stock to be issued for notes converted on March 21, 2008
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            11,000
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            11,000Fair
      value of options issued to an officer
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            21,818
            
            
            
            -
            
            
            
            -
            
            
            
            21,818





(continued)





15





SAVE
THE WORLD AIR, INC. AND SUBSIDIARY


(A
DEVELOPMENT STAGE ENTERPRISE)





CONDENSED
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ DEFICIENCY (Continued)


FROM
INCEPTION (FEBRUARY 18, 1998) TO SEPTEMBER 30, 2008




Common
      Stock
            
            
            
            
            
            
            
            
            
            
            
            Deficit
      Accumulated During the
            
            
            TotalPrice per
      Share
            
            
            Shares
            
            
            Amount
            
            
            Common
      Stock to be Issued
            
            
            Additional
      Paid-in Capital
            
            
            Deferred
      Compensation
            
            
            Development
      Stage
            
            
            Stockholders'
      DeficiencyBeneficial
      conversion associated with issuance of convertible notes
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            367,737
            
            
            
            -
            
            
            
            -
            
            
            
            367,737Common
      stock issued for previously exercised warrants
            
            
            0.50
            
            
            
            341,660
            
            
            
            342
            
            
            
            (170,830
            )
            
            
            170,488
            
            
            
            -
            
            
            
            -
            
            
            
            -Common
      stock issued for previous settlement of payable
            
            
            0.30
            
            
            
            84,583
            
            
            
            85
            
            
            
            (25,375
            )
            
            
            25,290
            
            
            
            -
            
            
            
            -
            
            
            
            -Common
      stock issued for previously converted notes
            
            
            0.39
            
            
            
            28,206
            
            
            
            28
            
            
            
            (11,000
            )
            
            
            10,972
            
            
            
            -
            
            
            
            -
            
            
            
            -Common
      stock issued for previously converted notes
            
            
            0.50
            
            
            
            503,800
            
            
            
            504
            
            
            
            (251,900
            )
            
            
            251,396
            
            
            
            -
            
            
            
            -
            
            
            
            -Common
      stock issued upon exercise of warrants on April 1, 2008
            
            
            0.50
            
            
            
            100,000
            
            
            
            100
            
            
            
            -
            
            
            
            49,900
            
            
            
            -
            
            
            
            -
            
            
            
            50,000Common
      stock issued upon exercise of warrants on April 4, 2008
            
            
            0.50
            
            
            
            100,000
            
            
            
            100
            
            
            
            -
            
            
            
            49,900
            
            
            
            -
            
            
            
            -
            
            
            
            50,000Common
      stock issued upon exercise of warrants on April 4, 2008
            
            
            0.50
            
            
            
            22,990
            
            
            
            23
            
            
            
            -
            
            
            
            11,472
            
            
            
            -
            
            
            
            -
            
            
            
            11,495Common
      stock issued upon exercise of warrants on April 14, 2008
            
            
            0.50
            
            
            
            100,000
            
            
            
            100
            
            
            
            -
            
            
            
            49,900
            
            
            
            -
            
            
            
            -
            
            
            
            50,000Common
      stock issued upon exercise of warrants on June 24, 2008
            
            
            0.50
            
            
            
            80,000
            
            
            
            80
            
            
            
            -
            
            
            
            39,920
            
            
            
            -
            
            
            
            -
            
            
            
            40,000Common
      stock issued for convertible debt on April 24, 2008
            
            
            0.41
            
            
            
            132,769
            
            
            
            133
            
            
            
            -
            
            
            
            54,867
            
            
            
            -
            
            
            
            -
            
            
            
            55,000Common
      stock issued for convertible debt on April 24, 2008
            
            
            0.50
            
            
            
            44,000
            
            
            
            44
            
            
            
            -
            
            
            
            21,956
            
            
            
            -
            
            
            
            -
            
            
            
            22,000Common
      stock issued for convertible debt on June 17, 2008
            
            
            0.34
            
            
            
            760,295
            
            
            
            760
            
            
            
            -
            
            
            
            257,740
            
            
            
            -
            
            
            
            -
            
            
            
            258,500Common
      stock issued for convertible debt on June 17, 2008
            
            
            0.39
            
            
            
            112,820
            
            
            
            113
            
            
            
            -
            
            
            
            43,887
            
            
            
            -
            
            
            
            -
            
            
            
            44,000Common
      stock issued for convertible debt on June 17, 2008
            
            
            0.50
            
            
            
            198,000
            
            
            
            198
            
            
            
            -
            
            
            
            98,802
            
            
            
            -
            
            
            
            -
            
            
            
            99,000Common
      stock issued for settlement of payable on June 20, 2008
            
            
            0.33
            
            
            
            71,429
            
            
            
            71
            
            
            
            -
            
            
            
            23,533
            
            
            
            -
            
            
            
            -
            
            
            
            23,604





(continued)





16




SAVE
THE WORLD AIR, INC. AND SUBSIDIARY


(A
DEVELOPMENT STAGE ENTERPRISE)





CONDENSED
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ DEFICIENCY (Continued)


FROM
INCEPTION (FEBRUARY 18, 1998) TO SEPTEMBER 30, 2008








Price
      per
                
                
                Common
      Stock
                
                
                Common
                  Stock
                  to
      be
                
                
                Additional
                  Paid-in
                
                
                Deferred
                
                
                Deficit
                  Accumulated
                  During
      the
                  Development
                
                
                Total
                  Stockholders'Share
                
                
                Shares
                
                
                Amount
                
                
                Issued
                
                
                Capital
                
                
                Compensation
                
                
                Stage
                
                
                DeficiencyCommon
      stock issued upon exercise of warrants on June 23, 2008
                
                
                0.50
                
                
                
                320,000
                
                
                
                320
                
                
                
                —
                
                
                
                159,680
                
                
                
                —
                
                
                
                —
                
                
                
                160,000Fair
      value of options issued to an officer
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                21,818
                
                
                
                —
                
                
                
                —
                
                
                
                21,818Common
      stock issued for convertible debt on August 12, 2008
                
                
                0.34
                
                
                
                59,460
                
                
                
                59
                
                
                
                —
                
                
                
                21,941
                
                
                
                —
                
                
                
                —
                
                
                
                22,000Common
      stock issued for convertible debt on August 12, 2008
                
                
                0.39
                
                
                
                28,206
                
                
                
                28
                
                
                
                —
                
                
                
                10,972
                
                
                
                —
                
                
                
                —
                
                
                
                11,000Common
      stock issued for convertible debt on August 12, 2008
                
                
                0.50
                
                
                
                132,000
                
                
                
                132
                
                
                
                —
                
                
                
                65,868
                
                
                
                —
                
                
                
                —
                
                
                
                66,000Common
      stock issued for convertible debt on August 25, 2008
                
                
                0.39
                
                
                
                564,102
                
                
                
                564
                
                
                
                —
                
                
                
                219,436
                
                
                
                —
                
                
                
                —
                
                
                
                220,000Common
      stock issued for convertible debt on September 25, 2008
                
                
                0.34
                
                
                
                106,677
                
                
                
                107
                
                
                
                —
                
                
                
                38,393
                
                
                
                —
                
                
                
                —
                
                
                
                38,500Common
      stock issued for convertible debt on September 25, 2008
                
                
                0.39
                
                
                
                70,512
                
                
                
                70
                
                
                
                —
                
                
                
                27,430
                
                
                
                —
                
                
                
                —
                
                
                
                27,500Common
      stock issued for convertible debt on September 25, 2008
                
                
                0.50
                
                
                
                132,000
                
                
                
                132
                
                
                
                —
                
                
                
                65,868
                
                
                
                —
                
                
                
                —
                
                
                
                66,000Common
      stock issued for convertible debt on September 30, 2008
                
                
                0.39
                
                
                
                70,512
                
                
                
                70
                
                
                
                —
                
                
                
                27,430
                
                
                
                —
                
                
                
                —
                
                
                
                27,500Common
      stock issued for convertible debt on September 30, 2008
                
                
                0.50
                
                
                
                33,000
                
                
                
                33
                
                
                
                —
                
                
                
                16,467
                
                
                
                —
                
                
                
                —
                
                
                
                16,500Fair
      value of options issued to an officer
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                5,453
                
                
                
                —
                
                
                
                —
                
                
                
                5,453Fair
      value of warrants issued with convertible notes
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                215,721
                
                
                
                —
                
                
                
                —
                
                
                
                215,721Fair
      value of options issued to employees and officers
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                550,665
                
                
                
                —
                
                
                
                —
                
                
                
                550,665Net
      loss for the nine months ended September 30, 2008, 2008
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                (4,455,013
                )
                
                
                (4,455,013
                )Balance,
      September 30, 2008
                
                
                
                
                
                
                58,948,138
                
                
                $
                58,948
                
                
                $
                —
                
                
                $
                38,501,646
                
                
                $
                —
                
                
                $
                (41,145,353
                )
                
                $
                (2,584,759
                )




17





SAVE
THE WORLD AIR, INC. AND SUBSIDIARY


(A
DEVELOPMENT STAGE ENTERPRISE)





CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)


NINE
MONTHS ENDED SEPTEMBER 30, 2008 AND 2007 AND FOR THE PERIOD


FEBRUARY 18, 1998 (DATE OF INCEPTION)
TO SEPTEMBER 30, 2008




CumulativeSeptember
      30,
            
            
            September
      30,
            
            
            since2008
            
            
            2007
            
            
            inceptionCash
      flows from operating activitiesNet
      loss
            
            $
            (4,455,013
            )
            
            $
            (5,060,196
            )
            
            $
            (41,145,353
            )Adjustments
      to reconcile net loss to net cash used in operating
      activities:Write
      off of intangible assets
            
            
            -
            
            
            
            -
            
            
            
            505,000Settlement
      of litigation and debt
            
            
            -
            
            
            
            -
            
            
            
            (1,017,208
            )Fair
      value of stock compensation expense
            
            
            599,754
            
            
            
            45,774
            
            
            
            3,521,826Fair
      value of common stock issued for services
            
            
            51,879
            
            
            
            -
            
            
            
            4,723,981Fair
      value of warrants issued
            
            
            116,913
            
            
            
            -
            
            
            
            116,913Non-cash
      legal expense
            
            
            236,572
            
            
            
            -
            
            
            
            236,572Non-cash
      interest expense
            
            
            691,331
            
            
            
            -
            
            
            
            691,331Non-cash
      increase in convertible notes recorded as interest expense
            
            
            89,470
            
            
            
            -
            
            
            
            163,962Issuance
      of options for legal settlement
            
            
            -
            
            
            
            -
            
            
            
            31,500Issuance
      of warrants for legal settlement
            
            
            -
            
            
            
            -
            
            
            
            4,957Issuance
      of warrants for financing fees
            
            
            -
            
            
            
            47,104
            
            
            
            82,444Patent
      acquisition cost
            
            
            -
            
            
            
            -
            
            
            
            1,610,066Amortization
      of issuance costs and original issue debt
            
            
            733,805
            
            
            
            1,244,461
            
            
            
            5,106,706Amortization
      of deferred compensation
            
            
            -
            
            
            
            -
            
            
            
            3,060,744Loss
      on sale of equipment
            
            
            9,683
            
            
            
            -
            
            
            
            9,683Depreciation
            
            
            28,551
            
            
            
            155,483
            
            
            
            384,150Bad
      debt
            
            
            1,380
            
            
            
            -
            
            
            
            1,380Changes
      in operating assets and liabilities:Accounts
      receivable
            
            
            -
            
            
            
            -
            
            
            
            (1,380
            )Inventory
            
            
            -
            
            
            
            (20,147
            )
            
            
            (30,256
            )Prepaid
      expenses and other
            
            
            (14,292
            )
            
            
            24,436
            
            
            
            (34,844
            )Other
      assets
            
            
            (6,750
            )
            
            
            -
            
            
            
            (11,250
            )Accounts
      payable and accrued expenses
            
            
            430,111
            
            
            
            907,104
            
            
            
            3,824,220Net
      cash used in operating activities
            
            
            (1,486,606
            )
            
            
            (2,655,981
            )
            
            
            (18,164,856
            )Cash
      flows from investing activitiesPurchase
      of property and equipment
            
            
            (345
            )
            
            
            (45,713
            )
            
            
            (553,452
            )Proceeds
      from sale of equipment
            
            
            17,478
            
            
            
            -
            
            
            
            17,478Net
      cash provided by (used in) investing activities
            
            
            17,133
            
            
            
            (45,713
            )
            
            
            (535,974
            )Cash
      flows from financing activitiesNet
      proceeds under equity line of credit
            
            
            -
            
            
            
            912,691
            
            
            
            1,262,386Increase
      (decrease) in payables to related parties and shareholder
            
            
            (6,387
            )
            
            
            81,404
            
            
            
            588,659Advances
      from founding executive officer
            
            
            -
            
            
            
            -
            
            
            
            517,208Net
      proceeds from issuance of convertible notes and warrants
            
            
            974,000
            
            
            
            1,591,800
            
            
            
            5,849,678Repayment
      of convertible notes
            
            
            -
            
            
            
            (26,250
            )
            
            
            (226,250
            )Net
      proceeds from issuance of common stock and common stock
      issuable
            
            
            532,325
            
            
            
            -
            
            
            
            10,787,274Net
      cash provided by financing activities
            
            
            1,499,938
            
            
            
            2,559,645
            
            
            
            18,778,955Net
      increase (decrease) in cash
            
            
            30,465
            
            
            
            (142,049
            )
            
            
            78,125Cash, beginning of
      period
            
            
            47,660
            
            
            
            244,228
            
            
            
            —Cash, end of
      period
            
            $
            78,125
            
            
            $
            102,179
            
            
            $
            78,125




See notes
to condensed consolidated financial statements.





18




SAVE
THE WORLD AIR, INC. AND SUBSIDIARY


(A
DEVELOPMENT STAGE ENTERPRISE)





CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)


NINE
MONTHS ENDED SEPTEMBER 30, 2008 AND 2007 AND FOR THE PERIOD


FEBRUARY 18, 1998 (DATE OF
INCEPTION) TO SEPTEMBER 30, 2008




September
      30,
              
              
              September
      30,
              
              
              Cumulative
      since2008
              
              
              2007
              
              
              inceptionSupplemental
      disclosures of cash flow informationCash
      paid during the period forInterest
              
              $
              988
              
              
              
              
              
              $
              136,032Income
      taxes
              
              $
              
              
              
              $
              
              
              
              $
              4,282Non-cash
      investing and financing activitiesAcquisition
      of intangible asset through advance from related party and issuance of
      common stock
              
              $
              
              
              
              $
              
              
              
              $
              505,000Deferred
      compensation for stock options issued for services
              
              
              
              
              
              
              
              
              
              
              3,202,931Purchase
      of property and equipment financed by advance from related
      party
              
              
              
              
              
              
              
              
              
              
              3,550Conversion
      of related party debt to equity
              
              
              
              
              
              
              
              
              
              
              515,000Issuance
      of common stock in settlement of payable
              
              
              
              
              
              
              
              
              
              
              113,981Cancellation
      of stock
              
              
              
              
              
              
              
              
              
              
              8,047Conversion
      of accounts payable and accrued expenses to common stock
      issued
              
              
              
              
              
              
              
              
              
              
              612,521Conversion
      of related party debt to convertible debentures
              
              
              
              
              
              
              
              
              
              
              45,000Conversion
      of convertible debentures to common stock
              
              
              
              
              
              
              
              
              
              
              2,973,414Issuance
      of shares for settlement of loans and other payable to
      Morale/Matthews
              
              
              2,783,711
              
              
              
              
              
              
              
              2,783,711Write
      off of deferred compensation
              
              
              
              
              
              
              
              
              
              
              142,187Non-cash
      equity-warrant valuation and intrinsic value of beneficial conversion
      associated with convertible notes
              
              
              314,460
              
              
              
              
              
              
              
              4,280,885




See notes
to condensed consolidated financial statements.





19





SAVE
THE WORLD AIR, INC. AND SUBSIDIARY


(A
DEVELOPMENT STAGE ENTERPRISE)





NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


NINE
MONTHS ENDED SEPTEMBER 30, 2008 (UNAUDITED)









1.
Organization and basis of presentation





Basis
of presentation





The
accompanying unaudited condensed consolidated financial statements of Save the
World Air, Inc. (the "Company") have been prepared in accordance with accounting
principles generally accepted in the United States of America for interim
financial information and pursuant to the requirements for reporting on Form
10-Q and Regulation S-K for scaled disclosures for smaller reporting companies.
Accordingly, they do not include all the information and footnotes required by
accounting principles generally accepted in United States of America for
complete financial statements. However, such information reflects all
adjustments (consisting solely of normal recurring adjustments), which are, in
the opinion of management, necessary for the fair presentation of the
consolidated financial position and the consolidated results of operations.
Results shown for interim periods are not necessarily indicative of the results
to be obtained for a full fiscal year.





The
condensed consolidated balance sheet information as of December 31, 2007 was
derived from the audited consolidated financial statements included in the
Company's Annual Report on Form 10-KSB filed with the SEC. These interim
financial statements should be read in conjunction with that
report.




Going
Concern




The
accompanying condensed consolidated financial statements have been prepared on a
going concern basis, which contemplates the realization of assets and the
settlement of liabilities and commitments in the normal course of business. As
reflected in the accompanying condensed consolidated financial statements, the
Company had a net loss of $4,455,013 and a negative cash flow from operations of
$1,486,606 for the nine months ended September 30, 2008, and had a working
capital deficiency of $2,741,700 and a stockholders’ deficiency of $2,584,759 at
September 30, 2008. These factors raise substantial doubt about the Company’s
ability to continue as a going concern. The ability of the Company to continue
as a going concern is dependent upon the Company’s ability to raise additional
funds and implement its business plan. The condensed consolidated financial
statements do not include any adjustments that might be necessary if the Company
is unable to continue as a going concern.




Description
of business





Save the
World Air, Inc. (the "Company") is a green technology company that leverages a
suite of patented, patent-pending and licensed intellectual properties related
to the treatment of fuels. These technologies utilize either magnetic or uniform
electrical fields to alter physical characteristics of fuels and are designed to
create a cleaner combustion. Cleaner combustion has been shown to improve
performance, enhance fuel economy and/or reduce harmful emissions in laboratory
testing.





The
Company was incorporated in Nevada on February 18, 1998 under the name
Mandalay Capital Corp.  The Company changed its name to Save the World
Air, Inc. on February 11, 1999 following the purchase of the worldwide
exclusive manufacturing, marketing and distribution rights for the ZEFS
technology.





During
the past several years, the Company has been acquiring new technologies,
developing prototype products using the Company’s technologies and conducting
scientific tests regarding the technologies and prototype products. The
Company‘s ECO ChargRTM and MAG ChargRTM products, use fixed magnetic fields to
alter some physical properties of fuel, by incorporating our patented and
patent-pending ZEFS, MK IV technologies.  When fitted to an internal
combustion engine, these products are expected to increase power and improve
mileage and may also reduce carbon monoxide, hydrocarbons and nitrous oxide
emissions and to.  The Company also has developed certain products
incorporating its CAT-MATE technology, although at this time the Company does
not intend to devote significant effort to the commercialization of products
incorporating the CAT-MATE technology.





The
Company’s focus is on product development and marketing of proprietary devices
that are designed to reduce harmful emissions, and improve fuel efficiency and
engine performance on equipment and vehicles driven by internal combustion
engines and has not yet generated meaningful revenues. The technologies are
called “ZEFS”, “MK IV”, “ELEKTRA” and “CAT-MATE”. The Company is currently
marketing its ECO and MAG ChargR products incorporating ZEFS and MK IV
technologies in the United States and certain countries in Asia; and the Company
is in the early stages of developing ELEKTRA products. Expenses have been funded
primarily through the sale of company stock, convertible notes and the exercise
of warrants.





The
Company has taken actions to secure the intellectual property rights to the
ZEFS, MK IV and CAT-MATE devices and is the worldwide exclusive licensee for
patent pending technologies associated with the development of
ELEKTRA.





The
accompanying condensed consolidated financial statements of Save the World Air,
Inc. and Subsidiary include the accounts of Save the World Air, Inc. and its
wholly-owned subsidiary STWA Asia Pte. Limited.  Inter-company
transactions and balances have been eliminated in consolidation




20





License
and research and development agreements with Temple University





The
Company has entered into two License Agreements with Temple University, one
covering Temple University’s current patent application concerning certain
electric field effects on gasoline, kerosene and diesel fuel particle size
distribution, and the other covering Temple University’s current patent
application concerning electric field effects on crude oil and edible oil
viscosity, and any and all United States and foreign patents issuing in respect
of the technologies described in such applications. Initially, the License
Agreements are exclusive and the territory licensed to the Company is worldwide.
Pursuant to the License Agreements, the Company will pay to Temple University
(i) license fees in the aggregate amount of $250,000, payable in three
installments of 100,000, the first installment of which was paid in March 2007,
and $75,000 on each of February 2, 2008, which has not been paid, and
February 2, 2009, respectively; and (ii) annual maintenance fees of
$125,000 annually commencing January 1, 2008, which has not been paid. In
addition, each License Agreement separately provides that the Company will pay
royalties to Temple University on net sales of products incorporating the
technology licensed under that License Agreement in an amount equal to 7% of the
first $20 million of net sales, 6% of the next $20 million of net
sales and 5% of net sales in excess of $40 million. Sales under the two
License Agreements are not aggregated for purposes of calculating the royalties
payable to Temple University. In addition, the Company has agreed to bear all
costs of obtaining and maintaining patents in any jurisdiction where the Company
directs Temple University to pursue a patent for either of the licensed
technologies. Should the Company not wish to pursue a patent in a particular
jurisdiction, that jurisdiction would not be included in the territory licensed
to the Company.




The
Company is in default in connection with its payment obligations under the
License Agreements.  On November 10, 2008, the Company received
written notice from Temple University of a material breach relating to required
payments under the License Agreements.  The notice provides the
Company with 60 days’ notice to cure the material breach.  The
Company’s failure to cure could result in a termination of the License
Agreements. If the termination occurs, the Company estimates this would have a
material adverse impact on the Company’s financial condition and
operations.  Under the License Agreements the Company is subject to a
penalty of 1% per month of the amounts due and unpaid under the License
Agreements.  At September 30, 2008, the Company estimates the penalty
to be $15,250, and has accrued this in the accompanying financial
statements.




The
Company has also entered into a research and development agreement (R&D
Agreement) with Temple University to conduct further research on the ELEKTRA
technology. Under the R&D Agreement Temple University will conduct a
24-month research project towards expanding the scope of, and developing
products utilizing, the technologies covered under the License Agreements,
including design and manufacture of prototypes utilizing electric fields to
improve diesel, gasoline and kerosene fuel injection in engines using such fuels
and a device utilizing a magnetic field to reduce crude oil viscosity for crude
oil (paraffin and mixed base) and edible oil flow in pipelines. Pursuant to the
R&D Agreement, the Company will make payments to Temple University in the
aggregate amount of $500,000, payable in eight non-refundable installments
commencing with $123,750, which was paid in March 2007, and seven payments
of $53,750 every three months thereafter until paid in full. The payments of
$53,750 due in June, September, December 2007, March 2008, June 2008 and
September 2008 have not been paid.  The Company is in default under
the R&D Agreement.  On November 10, 2008, the Company received
written notice of default from Temple University. The notice provides the
Company with 60 days to cure the material breach.  The Company’s
failure to cure the breach could result in the termination of the R&D
Agreement.  If the termination occurs, the Company estimates this
would have a material adverse impact on the Company’s financial condition and
operations.  If the research project yields results within the scope
of the technologies licensed pursuant to the License Agreements, those results
will be deemed included as rights licensed to the Company pursuant to the
License Agreements. If the research project yields results outside of the scope
of the technologies covered by the License Agreements, the Company has a
six-month right of first negotiation to enter into a new worldwide, exclusive
license agreement with Temple University for the intellectual property covered
by those results.





At
September 30, 2008, the Company owed Temple University $537,750, which is
included in accounts payable-Temple Univeristy. During the three and nine month
periods ended September 30, 2008, the Company recorded $59,750 and $376,500,
respectively, of fees due to Temple University.





2.  Significant
Accounting Policies





Revenue
Recognition





The
Company has adopted Staff Accounting Bulletin 104, “Revenue Recognition” and
therefore recognizes revenue based upon meeting four criteria:




●
            Persuasive
      evidence of an arrangement exists;●
            Delivery
      has Delivery has occurred or services rendered;●
            The
      seller’s price to the buyer is fixed or determinable;
  and●
            Collectability
      is reasonably assured.





The
Company contract manufactures fixed magnetic field products and sells them to
various original equipment manufacturers in the motor vehicle and small utility
motor markets. The Company negotiates an initial contract with the customer
fixing the terms of the sale and then receives a letter of credit or full
payment in advance of shipment. Upon shipment, the Company recognizes the
revenue associated with the sale of the products to the customer.




21





Development stage
enterprise





The
Company is a development stage enterprise as defined by Statement of Financial
Accounting Standards (SFAS) No. 7, “Accounting and Reporting by
Development Stage Enterprises.” All losses accumulated since the inception of
the Company have been considered as part of the Company’s development stage
activities.





Inventories





Inventories
are valued at the lower of cost (first-in, first-out) or market and consist of
finished goods.





Estimates





The
preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Certain significant estimates were made in connection with preparing the
Company’s financial statements. Actual results could differ from those
estimates.




Stock-based
compensation





The
Company periodically issues stock options and warrants to employees and
non-employees in capital raising transactions, for services and for financing
costs. The Company adopted SFAS No. 123R effective January 1, 2006, and is using
the modified prospective method in which compensation cost is recognized
beginning with the effective date (a) based on the requirements of SFAS No. 123R
for all share-based payments granted after the effective date and (b) based on
the requirements of SFAS No. 123R for all awards granted to employees prior to
the effective date of SFAS No. 123R that remain unvested on the effective date.
The Company accounts for stock option and warrant grants issued and vesting to
non-employees in accordance with EITF No. 96-18: “Accounting for Equity
Instruments that are Issued to Other Than Employees for Acquiring, or in
Conjunction with Selling, Goods or Services” and EITF No. 00-18 “Accounting
Recognition for Certain Transactions involving Equity Instruments Granted to
Other Than Employees” whereas the value of the stock compensation is based upon
the measurement date as determined at either a) the date at which a performance
commitment is reached, or b) at the date at which the necessary performance to
earn the equity instruments is complete.





Stock-based
compensation expense recognized under SFAS 123(R) for employee and directors for
the nine months ended September 30, 2008 and 2007 was $599,754 and $45,774
respectively.





Financial Assets and
Liabilities Measured at Fair Value





Effective
January 1, 2008, the Company adopted Statement of Financial Accounting Standards
(SFAS) No. 157, Fair Value Measurements. This Statement defines fair value
for certain financial and nonfinancial assets and liabilities that are recorded
at fair value, establishes a framework for measuring fair value, and expands
disclosures about fair value measurements. This guidance applies to other
accounting pronouncements that require or permit fair value measurements. On
February 12, 2008, the FASB finalized FASB Staff Position (FSP) No. 157-2,
Effective Date of FASB Statement No. 157. This Staff Position delays the
effective date of SFAS No. 157 for nonfinancial assets and liabilities to
fiscal years beginning after November 15, 2008 and interim periods within those
fiscal years, except for those items that are recognized or disclosed at fair
value in the financial statements on a recurring basis (at least annually). The
adoption of SFAS No. 157 had no effect on the Company’s consolidated
financial position or results of operations.





SFAS
No. 157 establishes a fair value hierarchy that prioritizes the inputs used
to measure fair value into three broad levels, considering the relative
reliability of the inputs. The fair value hierarchy assigns the highest priority
to quoted prices in active markets for identical assets or liabilities
(Level 1) and the lowest priority to unobservable inputs (Level 3). A
financial instrument's categorization within the fair value hierarchy is based
upon the lowest level of an input to the valuation that is significant to the
fair value measurement.





Loss per
share





Basic
earnings (loss) per share is computed by dividing net income
(loss) available to common stockholders by the weighted average number of
common shares outstanding during the period. Diluted earnings per share reflects
the potential dilution, using the treasury stock method, that could occur if
securities or other contracts to issue common stock were exercised or converted
into common stock or resulted in the issuance of common stock that then shared
in the earnings of the Company. In computing diluted earnings per share, the
treasury stock method assumes that outstanding options and warrants are
exercised and the proceeds are used to purchase common stock at the average
market price during the period. Options and warrants may have a dilutive effect
under the treasury stock method only when the average market price of the common
stock during the period exceeds the exercise price of the options and warrants.
For the nine months ended September 30, 2008 and 2007, the dilutive impact of
outstanding stock options of 4,301,225 and 4,203,238 respectively, and
outstanding warrants of 11,676,034 and 18,798,227 have been excluded because
their impact on the loss per share is anti-dilutive.




22


Recent Accounting
Pronouncements




In
December 2007, the FASB issued FASB Statement No. 141 (R), “Business
Combinations” (FAS 141(R)), which establishes accounting principles and
disclosure requirements for all transactions in which a company obtains control
over another business. Statement 141 (R) applies prospectively to business
combinations for which the acquisition date is on or after the beginning of the
first annual reporting period beginning on or after December 15, 2008. Earlier
adoption is prohibited.




In
December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in
Consolidated Financial Statements, and an amendment of ARB No. 51”. SFAS No. 160
establishes accounting and reporting standards that require that the ownership
interests in subsidiaries held by parties other than the parent be clearly
identified, labeled, and presented in the consolidated statement of financial
position within equity, but separate from the parent’s equity; the amount of
consolidated net income attributable to the parent and to the noncontrolling
interest be clearly identified and presented on the face of the consolidated
statement of income; and changes in a parent’s ownership interest while the
parent retains its controlling financial interest in its subsidiary be accounted
for consistently. SFAS No. 160 also requires that any retained noncontrolling
equity investment in the former subsidiary be initially measured at fair value
when a subsidiary is deconsolidated. SFAS No. 160 also sets forth the disclosure
requirements to identify and distinguish between the interests of the parent and
the interests of the noncontrolling owners. SFAS No. 160 applies to all entities
that prepare consolidated financial statements, except not-for-profit
organizations, but will affect only those entities that have an outstanding
noncontrolling interest in one or more subsidiaries or that deconsolidate a
subsidiary. SFAS No. 160 is effective for fiscal years, and interim periods
within those fiscal years, beginning on or after December 15, 2008. Earlier
adoption is prohibited. SFAS No. 160 must be applied prospectively as of the
beginning of the fiscal year in which it is initially applied, except for the
presentation and disclosure requirements. The presentation and disclosure
requirements are applied retrospectively for all periods
presented.




In March
2008, the FASB issued SFAS No. 161, “Disclosures about Derivative
Instruments and Hedging Activities—an amendment of FASB Statement No. 133,”
(SFAS No.161). SFAS No.161 requires enhanced disclosures about an entity’s
derivative and hedging activities, including (i) how and why an entity uses
derivative instruments, (ii) how derivative instruments and related hedged
items are accounted for under SFAS No. 133, and (iii) how derivative
instruments and related hedged items affect an entity’s financial position,
financial performance, and cash flows. This standard becomes effective for
financial statements issued for fiscal years and interim periods beginning after
November 15, 2008. Earlier adoption of SFAS 161 and, separately, comparative
disclosures for earlier periods at initial adoption are encouraged. As SFAS
No.161 only requires enhanced disclosures, this standard will have no impact on
the Financial Statements





The
Company does not believe that the adoption of the above recent pronouncements
will have a material effect on the Company’s consolidated results of operations,
financial position, or cash flows.




Reclassifications





Certain
reclassifications of the prior period amounts and presentation have been made to
conform to the presentation adopted for the current period. The following
reclassifications and presentation changes were made to the December 31, 2007
consolidated balance sheet to conform to the current period presentation: (a)
the amounts previously presented for the Morale 2006 Note of $671,992 presented
as Convertible Debenture, Net-Other - Default, (b) the Morale 2007 Note of
$583,364 included with Convertible Debentures, Net-Other, (c) the Morale Loan of
$20,334 presented as Loan Payable-Other, and (d) the fees due to Matthews of
$472,762 included in Accounts Payable-Other were reclassified to the separate
line item Loans and Other Payable Due to Morale/Matthews. These
reclassifications have no effect on total assets, total shareholder's
deficiency, net loss or cash flows as previously presented.





3.
Certain relationships and related transactions





Loans
from related parties





In
May of 2007, a former officer and director of the Company loaned $31,404 to pay
a Company obligation and in August 2007, the same party loaned $50,000 to the
Company so that it could pay certain operating expenses. These amounts are
unsecured, bear interest at 6% per annum and are due on demand.  At
September 30, 2008 and December 31, 2007, the balance of these loans including
interest was $77,209 and $83,596, respectively.





Lease
agreement with related party




During
2003, the Company entered into a sublease agreement with Scottish Glen Golf
Company, Inc. (SGGC) to lease office space in North Hollywood, California for
its principal executive offices.  Bruce McKinnon, the former Chief
Executive Officer and former Director of the Company, is a beneficial owner of
the lessor.




In August
2005, the Company amended this sublease agreement. The original lease term was
from November 1, 2003 through October 16, 2005 and carried an option
to renew for two additional years with a 10 percent increase in the rental
rate. Monthly rent under this lease is $3,740 per month under this
lease.  The Company exercised its option to renew the lease through
October 15, 2007.




23




In
January 2006, the Company further amended this sublease agreement, as a result
of taking more space and obtaining expanded support services. The term of the
sublease was amended to July 31, 2007 and carries an option to renew for
two additional years with a 10 percent increase in the rental rate. Monthly
rent is $6,208 per month under this amended sublease agreement.
Additionally, the Company began leasing two additional office
spaces for $964 per month beginning July 2006 on a month-to-month
basis.  The Company did not exercise its option to renew this
sublease.





On July
12, 2007, SGGC presented to the Company a Three-Day Notice to Pay or Quit,
demanding payment of unpaid rent, additional rent and penalties.  On
July 19, 2007, SGGC sued the Company in Los Angeles Superior Court, alleging
unlawful detainer by the Company of its then-leased corporate offices at 5125
Lankershim Boulevard, North Hollywood, California, and failure to pay past due
rent and penalties in the aggregate amount of $104,413, of which $103,069 was
accrued by the Company at December 31, 2007.  The Company vacated the
premises on July 25, 2007.





On April
30, 2008 the Company and SGGC settled their pending litigation relating to the
Company’s prior offices.  The Company agreed to pay SGGC $51,000 in full
settlement of SGGC’s claims.  On May 28, 2008 the initial payment of
$34,000 was made and on July 9, 2008 the final payment of $17,000 was made and
the Complaint was dismissed, with prejudice.   The Company
recorded $52,069 as other income and as a reduction of accounts
payable.




Investments
from related parties




In June
2007, the Company received $100,000 proceeds for investment in the 2007 Spring
Offering, from an investor who is more than a 5% beneficial owner of
STWA.  (See Note 5-Convertible Debentures).




In
December 2007, the Company received $200,000 proceeds for investment in the 2007
Fall Offering from a Director  of STWA.  (See Note 5-Convertible
Debentures).





In
February 2008, the Company received $90,000 proceeds for investment in the 2008
Winter Offering from an investor who is more than a 5% beneficial owner of
STWA.  (See Note 5-Convertibel Debentures).




Accounts
Payable to related parties




As
of September 30, 2008, the Company had accounts payable to related parties
in the amount of $256,880, which is composed of $165,455 in unpaid
Directors Fees and  $91,425 in unreimbursed fees and expenses incurred
by Officers and Directors.




Marketing
and promotional services agreement with related party




In July
2006, the Company entered into an agreement with SS Sales and Marketing Group
(“SS Sales”), to provide exclusive marketing and promotional services in the
western United States and western Canada  (the “Territory”) for the
Company’s products. SS Sales will also provide advice, assistance and
information on marketing the Company’s products in the automotive after-market,
and will seek to recruit and establish a market with distributors, wholesalers
and others. SS Sales will be paid a commission equal to 5% of the gross amount
actually collected on contracts the Company entered into during the term of the
agreement for existing or future customers introduced by SS Sales in the
Territory. The agreement has a term of five years unless sooner terminated by
either party on 30 days’ notice. In the event of termination, SS Sales will be
entitled to receive all commissions payable through the date of termination. No
amount was due or paid under this agreement as of September 30,
2008.  SS Sales is owned by Nathan Shelton, who is a director of the
Company.





4.  Loans
and other payable due to Morale/Matthews





Loans
and other payable to Morale/Matthews consist of the following:


Maturity
      dates
            
            September
      30, 2008
              (unaudited)
            
            
            December
      31, 2007Note
      payable Morale Orchards, LLC, 2006 Note
            December
      5, 2006
            
            $
            -
            
            
            $
            671,992Note
      payable Morale Orchards, LLC, 2007 Note
            January
      10, 2007
            
            
            -
            
            
            
            601,250Discount
      on Morale Orchards, LLC 2007 Note
            
            
            
            -
            
            
            
            (17,886
            )Loan
      payable to Morale Orchards, LLC
            Due
      on demand
            
            
            -
            
            
            
            20,334Fees
      due to Matthews & Partners
            -
            
            
            -
            
            
            
            472,762Total
            
            
            $
            -
            
            
            $
            1,748,452




Leodis
Matthews, through his law firm, Matthews & Partners, (“Matthews”) serves as
outside legal counsel to the Company.  Morale Orchards LLC (“Morale”)
is beneficially owned by Jacqueline Alexander, the wife of Leodis
Matthews.




24




Morale
had previously purchased two convertible promissory notes.  Each note
was for $612,500.  One note was purchased December 5, 2006 (the “2006
Morale Note”) and another was purchased January 10, 2007 (the “2007 Morale
Note”).  The notes were unsecured, due one year from the date issued,
had an implied interest rate of 22.5%, and warrants were issued with the
notes.  The aggregate purchase price for the notes and warrants was
$1,000,000.





The 2006
Morale Note was convertible at the rate of $0.85 per share into 720,588 shares
of the Company’s common stock, and the 2007 Morale Note was convertible at the
rate of $0.70 per share into 875,000 shares of the Company’s common
stock.  The warrant issued with the 2006 Note was exercisable at $0.85
per share, for 360,294 shares of the Company’s common stock.  The
warrant issued with the 2007 Morale Note was exercisable at $.70 per share, for
437,500 shares of the Company’s common stock.





As of
January 31, 2008, both the 2006 and 2007 Morale Notes were in
default.  The note agreements provided if the notes are not paid when
due, the principal balance shall be increased by 10% and the Company shall pay
interest at 2.5% per month (30% per annum) until the note is paid.  At
January 31, 2008, the total amount due for the 2006 Morale Note and the 2007
Morale Note was $689,327 and $672,885 respectively.




In
addition to the 2006 and 2007 Morale Notes, the Company borrowed $20,000 from
Morale on October 30, 2007 (the “$20,000 Note”), at an interest rate of ten
percent (10%) per annum. Principal and accrued interest under the Morale Note is
due on demand, and no payments there under have been made by the Company. At
January 31, 2008, the Company was also indebted to Matthews $472,762 for past
legal fee.





Effective
January 31, 2008, the Company, Morale, and Matthews agreed to a settlement of
the Company’s loans due Morale and fees due Matthews.   Morale
agreed to waive all accrued interest on the notes after January 31, 2008, and
Morale and Matthews agreed to accept 7,421,896 shares of common stock of the
Company as payment of the notes payable and fees.





On March
10, 2008, the Company issued 5,530,848 shares of the Company’s common stock
valued at $2,101,722 to Morale for the conversion of the 2006 and 2007 Morale
Notes (totaling $1,362,212) and cancellation of $20,000
Note.   Also on March 10, 2008, the Company issued 1,891,048
shares of the Company’s common stock valued at $718,598 to Matthews in exchange
for settlement of the legal fees due Matthews of $472,762.





The fair
value of the shares of common stock issued was determined to be $0.38 per share,
based on the closing price of the Company’s common stock on January 31, 2008,
for a total settlement of $2,820,320.  As a result of the issuance of
shares of common stock, the Company incurred additional non-cash interest
expense of $719,510 and non-cash legal expense of $245,836 which was recorded in
the first quarter of 2008.





5.  Convertible
Debentures





Convertible
debentures consist of the following:





Maturity
      dates
            
            September
      30, 2008
              (unaudited)
            
            
            December
      31, 20072007
      Spring Offering
            June
      26, 2008
            
            $
            27,500
            
            
            $
            341,0002007
      Summer Offering
            
            
            
            -
            
            
            
            93,5002007
      Fall Offering
            
            
            
            -
            
            
            
            622,6002008
      Winter Offering
            February
      29, 2009
            
            
            66,000
            
            
            
            -2008
      Summer Offering
            August
      31, 2009
            
            
            473,000
            
            
            
            -Less,
      remaining debt discount
            
            
            
            (299,861
            )
            
            
            (334,920
            )Total
            
            
            
            266,639
            
            
            
            722,180Convertible
      debentures, net, related parties
            
            
            
            -
            
            
            
            (227,136
            )Convertible
      debentures, net, others
            
            
            $
            266,639
            
            
            $
            495,044







25


2007
Spring Offering





From
June 13, 2007 through June 26, 2007, the Company conducted a private
offering (the “Spring 2007 Offering”) of up to $550,000 aggregate face amount of
its convertible notes (the “Spring 2007 Notes”) with a small number of
accredited investors. Of this amount, $451,000 aggregate face amount of the
Spring 2007 Notes were sold for an aggregate purchase price of $410,000 net
proceeds. Therefore, while the stated interest rate on the Spring 2007 Notes is
0%, the implied interest rate on the Spring 2007 Notes is 10%. The Spring 2007
Notes mature on the first anniversary of their date of issuance. The Spring 2007
Notes are convertible, at the option of the noteholders, into shares of common
stock of the Company (the “Conversion Shares”) at an initial conversion price
equal to the average of the closing bid price of the Company’s common stock for
the five trading days preceding the closing dates of the Spring 2007 Offering
(the “Conversion Prices”). On the first closing, 1,002,941 Conversion Shares are
issuable at Conversion Price of $0.34 per share. On the second closing,
207,548 conversion shares are issuable at a conversion price of $0.53 per
share. The per share price of the Company’s common stock on the Pink Sheets
during this period ranged from a low bid price (intraday) of $0.35 to a high bid
price (intraday) of $0.59.




Each of
the investors in the Spring 2007 Offering also received a warrant (the
“Spring 2007 Warrants”), entitling the holder to purchase a number of shares of
the Company’s common stock equal to 50% of the number of shares of common stock
into which the Spring 2007 Notes are convertible (the “Warrant Shares”). Each
Spring 2007 Warrant is exercisable on a cash basis only at an initial price of
$0.50 per share, and is exercisable immediately upon issuance and for a period
of two years from the date of issuance. A total of 605,242 Warrant Shares were
issued.  As of September 30, 2008, investors have converted $423,500
of the Convertible Notes into 1,158,602 shares of the Company’s common
stock.  The outstanding balance at September 30, 2008 is
$27,500.





The
aggregate value of the Spring 2007 Offering Warrants issued in connection with
the June 13, 2007 closing were valued at $59, 296 using the Black-Scholes option
valuation model with the following assumptions; risk-free interest rate of
5.11%; dividend yield of 0%; volatility factors of the expected market price of
common stock of 113.56%; and an expected life of two years (statutory term) and
vest immediately upon issuance.  The Company also determined that the
notes contained a beneficial conversion feature of $119,472.  The
value of the Spring 2007 Offering Warrants of $59,296, the conversion option of
$119,472, and the transaction fees of $31,000 are considered as debt discount
and are being amortized over the life of the Note.




The
aggregate value of the Spring 2007 Offering Warrants issued in connection with
the June 26, 2007 closing were valued at $19, 580 using the Black-Scholes option
valuation model with the following assumptions; risk-free interest rate of
5.11%; dividend yield of 0%; volatility factors of the expected market price of
common stock of 117.65%; and an expected life of two years (statutory term) and
vest immediately upon issuance.  The Company also determined that the
notes contained a beneficial conversion feature of $21,655.  The value
of the Spring 2007 Offering Warrants of $19,580, the conversion option of
$21,655 and the transaction fees of $112,500 are considered as debt discount and
are being amortized over the life of the Note.





26




2007
Summer Offering





From
August 8, 2007 through September 27, 2007, the Company conducted a private
offering (the "Summer 2007 Offering") of up to $330,000 aggregate face amount of
its convertible notes (the "Summer 2007 Notes") with a small number of
accredited investors. Of this amount, $309,980 aggregate face amount of the
Summer 2007 Notes were sold for an aggregate purchase price of $281,800 net
proceeds. While the stated interest rate on the Summer 2007 Notes is 0%, the
implied interest rate on the Summer 2007 Notes is 10%. The Summer 2007 Notes
mature on the first anniversary of their date of issuance. The Summer 2007 Notes
are convertible, at the option of the noteholder, into shares of common stock of
the Company (the "Conversion Shares") at a conversion price equal to the average
of the closing bid price of the Company's common stock for the five trading days
preceding the closing date of the Summer 2007 Offering (the "Conversion
Prices"). Up to 837,784 Conversion Shares are issuable at a Conversion Price of
$0.37 per share.





Each of
the investors in the Summer 2007 Offering also received a warrant (the
"Summer 2007 Warrants"), entitling the holder to purchase a number of shares of
the Company's common stock equal to 50% of the number of shares of common stock
into which the Summer 2007 Notes are convertible (the "Warrant Shares"). Each
Summer 2007 Warrant is exercisable on a cash basis only at a price of $0.50 per
share, and is exercisable for a period of two years from the date of issuance. A
total of 418,892 Warrant Shares were issued. As of September 30, 2008, all
investors have converted $309,980 Convertible Notes into 837,784 shares of the
Company’s common stock.   There was no outstanding balance at
September 30, 2008.




The
aggregate value of the Summer 2007 Offering Warrants issued in connection with
the September 28, 2007 closing were valued at $60,678 using the Black-Scholes
option valuation model with the following assumptions; risk-free interest rate
of 4.87%; dividend yield of 0%; volatility factors of the expected market price
of common stock of 124.83%; and an expected life of two years (statutory term)
and vest immediately upon issuance.  The Company also determined that
the notes contained a beneficial conversion feature of $69,055.  The
value of the Summer 2007 Offering Warrants of $60,678, the conversion option of
$69,055 and the transaction fees of $28,180 are considered as debt discount and
are being amortized over the life of the Note.




2007
Fall Offering





From November 14, 2007
through December 17, 2007, the Company conducted a private offering (the "Fall
2007 Offering") of up to $1,100,000 aggregate face amount of its convertible
notes (the "Fall 2007 Notes") with a small number of accredited investors. Of
this amount, $622,600 aggregate face amount of the Fall 2007 Notes were sold for
an aggregate purchase price of $566,000 net proceeds. While the stated interest
rate on the Fall 2007 Notes is 0%, the implied interest rate on the Fall 2007
Notes is 10%. The Fall 2007 Notes mature on the first anniversary of their date
of issuance. The Fall 2007 Notes are convertible, at the option of the
noteholder, into shares of common stock of the Company (the "Conversion Shares")
at a conversion price equal to the average of the closing bid price of the
Company's common stock for the five trading days preceding the closing date of
the Fall 2007 Offering (the "Conversion Prices"). Up to 1,596,410 Conversion
Shares are issuable at a Conversion Price of $0.39 per share.




27





Each of
the investors in the Fall 2007 Offering also received a warrant (the "Fall
2007 Warrants"), entitling the holder to purchase a number of shares of the
Company's common stock equal to 50% of the number of shares of common stock into
which the (Fall 2007 Notes) are convertible (the "Warrant Shares"). Each Fall
2007 Warrant is exercisable on a cash basis only at a price of $0.50 per share,
and is exercisable for a period of two years from the date of issuance. Up to
796,205 Warrant Shares are initially issuable on exercise of the Fall 2007
Warrants.





As of
September 30, 2008, 1,596,410 shares of the Company’s common stock were issued
to noteholders in the 2007 Fall Offering who converted and cancelled Convertible
Notes in the amount of $622,600. There was no outstanding balance at September
30, 2008.




2007-2008
Winter Offering





From
December 27, 2007 to February 29, 2008  the Company conducted an
offering (the “2008 Winter Offering”) of up to $1,000,000 aggregate face amount
of its convertible notes (the “ 2008 Winter Notes”) with a small number of
accredited investors.  Of this amount, $521,400 aggregate face amount
of the 2008 Winter Notes were sold for an aggregate purchase price of $474,000
net proceeds.  Therefore, while the stated interest rate on the 2008
Winter Notes is 0%, the implied interest rate on the 2008 Winter Notes is
10%.  The 2008 Winter Notes mature on the first anniversary of their
date of issuance.  The 2008 Winter Notes are convertible, at the
option of the noteholder, into shares of common stock of the Company (the
“Conversion Shares”) at a conversion price equal to the average of the closing
bid price of the Company’s common stock for the five trading days preceding the
closing date of the 2008 Winter Offering (the “Conversion Price”).  Up
to $1,042,800 Conversion Shares are issuable at a Conversion Price of $0.50 per
share.




Each of
the investors in the 2008 Winter Offering received, for no additional
consideration, a warrant (the “ 2008 Winter Warrants”), entitling the holder to
purchase a number of shares of the Company’s common stock equal to 50% of the
number of shares of common stock into which the ( 2008 Winter Notes) are
convertible (the “2008 Warrant Shares”)  Each  2008 Winter
Warrant is exercisable on a cash basis only at a Price of $0.50 per share, and
is exercisable for a period of two years from the date of
issuance.  Up to 521,400 2008 Warrant Shares are initially issuable on
exercise of the 2008 Winter Warrants.  As of September 30, 2008,
investors have converted $455,400 of the Convertible Notes into 910,800 shares
of the Company’s common stock.  The outstanding balance at September
30, 2008 is $66,000.





2008
Spring Offering





On May
27, 2008,  the Company made an offering (the “2008 Spring Offering”)
with a certain investor of which, $66,000 face amount of the 2008 Spring
Note was sold for $60,000 net proceeds.  Therefore, while the stated
interest rate on the 2008 Spring Note is 0%, the implied interest rate on the
2008 Spring Note is 10%. The 2008 Spring Note will mature on the first
anniversary of the date of issuance.  The 2008 Spring Note is
convertible, at the option of the noteholder, into shares of common stock of the
Company (the “Conversion Shares”) at a conversion price equal to the average of
the closing bid price of the Company’s common stock for the five trading days
preceding the closing date of the 2008 Spring Offering (the “Conversion
Price”).  The 132,000 Conversion Shares are issuable at a Conversion
Price of $0.50 per share.




The
investor in the 2008 Spring Offering received, for no additional consideration,
a warrant (the “ 2008 Spring Warrants”), entitling the holder to purchase a
number of shares of the Company’s common stock equal to 50% of the number of
shares of common stock into which the ( 2008 Spring Notes) are convertible (the
“2008 Spring Warrant Shares”).  The 2008 Spring Warrant Shares is
exercisable on a cash basis only at a Price of $0.50 per share, and is
exercisable for a period of two years from the date of issuance.  The
66,000 2008 Spring Warrant Shares are initially issuable upon exercise of the
2008 Spring Warrants.  As of September 30, 2008, investors have
converted $66,000 of the Convertible Notes into 132,000 shares of the Company’s
common stock.  There   was no outstanding balance at
September 30, 2008.





2008
Summer Offering





From July
17, 2008 to August 31, 2008,  the Company conducted an offering (the
“2008 Summer Offering”) of up to $600,000 aggregate face amount of its
convertible notes “the”2008 Summer Offering) with a small number of accredited
investors. Of this amount $484,000 aggregate face amount of the 2008 Summer
Notes were sold for an aggregate purchase price of $440,000 net
proceeds.  Therefore, while the stated interest rate on the 2008
Summer Notes is 0%, the implied interest rate on the 2008 Summer Notes is
10%.  The 2008 Summer Notes will mature on the first anniversary of the
date of issuance.  The 2008 Summer Notes are convertible, at the
option of the noteholders, into shares of common stock of the Company (the
“Conversion Shares”) at a conversion price equal to the average of the closing
bid price of the Company’s common stock for the five trading days preceding the
closing date of the 2008 Summer Offering (the “Conversion Price”).  Up
to 1,423,530 Conversion Shares are issuable at a Conversion Price of $0.34 per
share.




Each of
the investors in the 2008 Summer Offering received, for no additional
consideration, a warrant (the “ 2008 Summer Warrants”), entitling the holder to
purchase a number of shares of the Company’s common stock equal to 50% of the
number of shares of common stock into which the ( 2008 Summer Notes) are
convertible (the “2008 Summer Warrant Shares”). Each 2008 Summer Warrant is
exercisable on a cash basis only at a price of $0.50 per share, and is
exercisable for a period of two years from the date of issuance.  Up
to 711,764 2008 Summer Warrant Shares are initially issuable upon exercise of
the 2008 Summer Warrants.  As of September 30, 2008, investors have
converted $11,000of the Convertible Notes into 32,353shares of the Company’s
common stock.  The outstanding balance at September 30, 2008 was
$473,000.




28




2007
PIPE Offering





During
the year ended December 31, 2007, the Company conducted an offering (the “2007
PIPE Offering”), through Spencer Clarke LLC, as exclusive placement agent, of up
to $2,000,000 principal amount of its 10% convertible notes (the “2007 PIPE
Notes”).  Interest on the 2007 PIPE Notes, at a rate of 10% per annum,
is payable quarterly.  The Notes are due nine months from date of
issuance.  The 2007 PIPE Notes are convertible into shares of common
stock at an initial conversion price of $0.70 per share (the “Conversion
Shares”).  There is no reset to the conversion price for any
beneficial conversion feature.




The
Company has the right to redeem any or all of the outstanding 2007 PIPE Notes in
its sole discretion anytime after the termination of the 2007 PIPE Offering and
prior to the maturity date of the 2007 PIPE Notes. The redemption price shall be
the face amount of the redeemed 2007 PIPE Notes plus accrued and unpaid interest
thereon.  Subject to the following sentence, at any time prior to the
maturity date of the 2007 PIPE Notes, for each additional $1,000,000 of gross
proceeds raised from one or more offerings of the Company’s equity or
quasi-equity securities, the Company shall redeem 2007 PIPE Notes with a minimum
face value of $500,000 together with accrued and unpaid interest, until the
entire outstanding 2007 PIPE Note is redeemed. Certain financings that the
Company may conduct outside of North America are exempt from this provision to
redeem the 2007 PIPE Notes in whole or in part.





Investors
in the 2007 PIPE Offering also received a warrant (the “2007 PIPE
Warrant”), entitling the holder to purchase a number of shares of the Company’s
common stock equal to 150% of the number of shares of common stock into which
the 2007 PIPE Notes are convertible (the “Warrant Shares”). The 2007 PIPE
Warrant will be exercisable on a cash basis only and will have registration
rights.  The 2007 PIPE Warrant is exercisable at an initial price of
$1.00 per share, and is exercisable immediately upon issuance and for a period
of three years from the date of issuance.




Promptly,
but no later than 90 days following the closing date of the 2007 PIPE Offering,
the Company is required to file a Registration Statement with the SEC to
register the Conversion Shares and the Warrant Shares. The Company shall use its
best efforts to ensure that such Registration Statement is declared effective
within 120 days after filing




Pursuant
to the terms of the PIPE Notes, if a Registration Statement is not filed on
the 91st day following the closing date, (i) the interest rate on the PIPE Notes
increased from 10% to 18% per annum until the event of default is cured and (ii)
the holders of the PIPE Notes became entitled to receive additional warrants in
an amount equal to 25% of the PIPE Warrants originally issued, for each 60-day
period that the Company remains in default.




During
the year ended December 31, 2007, the Company issued $400,000 of the PIPE Notes
which could be converted into 571,429 shares of the Company’s common stock and
2007 PIPE Warrants to purchase 857,144 shares of the Company’s common stock.
These warrants expire March 1, March 30 and April 2, 2010 and are exercisable at
a price of $1.00 per share. The Company had related transaction fees of $48,000,
resulting in net proceeds to the Company of $352,000. In addition to the
transaction fees, warrants to purchase 57,143 shares of the Company’s common
stock were issued to Spencer Clarke LLC, the Company’s exclusive placement agent
for the 2007 PIPE Offering. These warrants expire March 1, March 30 and April 2,
2012 and are exercisable at a price of $0.70 per share.




The
aggregate value of the 2007 PIPE Warrants issued in connection with this
offering and the warrants issued to the placement agent were valued at $256,533
using the Black-Scholes option valuation model with the following assumptions:
risk-free interest rate of 4.40% to 5.16%; dividend yield of 0%; volatility
factors of the expected market price of common stock of 100.28% to 114.98%; and
an expected life of two years (statutory term). The Company also determined that
the notes contained a beneficial conversion feature of $62,857




The
Company was unable to meet its obligations to file the Registration Statement
required under the terms of the 2007 PIPE Offering in a timely manner. In early
July 2007, the Company began discussions with Spencer Clarke, acting on behalf
of the holders of the PIPE Notes and PIPE Warrants, for an extension of time to
file the Registration Statement. Notwithstanding such discussions, Spencer
Clarke issued a Notice of Default dated August 1, 2007 (the "Notice") to the
Company for its failure to file the Registration Statement in a timely
manner.





On August
29, 2007, the Company entered into a Modification Agreement with the 2007 PIPE
note holders. The Modification Agreement was entered into as a result of
negotiations between the Company and Spencer Clarke, LLC ("Spencer Clarke"), the
Company's exclusive placement agent for the 2007 PIPE Offering, after the
Company failed to file with the Securities and Exchange Commission (the "SEC")
in a timely manner a Registration Statement to register the shares of the
Company's common stock into which the PIPE Notes are convertible and for which
the PIPE Warrants may be exercised.




Pursuant
to the Modification Agreement, the parties have agreed as follows:




●
            Promptly,
      but no later than November 30, 2007 (instead of on or before July 2,
      2007), the Company shall file the Registration Statement with the SEC to
      register the Conversion Shares and the Warrant Shares.●
            Effective
      August 1, 2007, the interest rate on the PIPE Notes shall be increased
      from 10% per annum to 18% per annum until such time as the Registration
      Statement is declared effective by the SEC.●
            The
      price at which the PIPE Notes may be converted into Conversion Shares (the
      "Conversion Price") shall be reduced from $0.70 to $0.45 per
      share.   29
  ●
            Each
      Investor shall receive, for no additional consideration, additional
      warrants ("Additional Warrants") in an amount equal to an additional 50%
      of the PIPE Warrants originally issued pursuant to the terms of the 2007
      PIPE Offering. These Additional Warrants total 428,575 and shall have the
      same registration rights as are described in the Private Placement
      Memorandum dated January 12, 2007 (the "Offering Memorandum") used in
      connection with the 2007 PIPE Offering applicable to the PIPE Warrants;
      shall be exercisable immediately upon issuance; shall remain exercisable
      for a period of five years from the date of the Modification Agreement, on
      a cash basis only, at an initial exercise price of $0.45 per share; and
      shall, in all other respects, have the same terms and conditions, and be
      in the same form, as the PIPE Warrants.●
            If
      the Company does not file the Registration Statement with the SEC by
      November 30, 2007, each Investor shall receive, for no additional
      consideration, warrants ("Delay Warrants") in an amount equal to an
      additional 50% of the PIPE Warrants originally issued pursuant to the
      terms of the Offering Memorandum. The Delay Warrants shall have the same
      registration rights as are described in the Offering Memorandum applicable
      to the PIPE Warrants; shall be exercisable immediately upon issuance;
      shall remain exercisable for a period of five years from the date of this
      Agreement, on a cash basis only, at an initial exercise price of $0.45 per
      share; and shall, in all other respects, have the same terms and
      conditions, and be in the same form, as the PIPE
  Warrants.




The terms
and conditions of the Offering Memorandum, the PIPE Notes and the PIPE Warrants,
to the extent not expressly amended in the Modification Agreement, remain in
full force and effect. The issuance of the Additional Warrants (“Delay
Warrants”), if any, and the reduction of the Conversion Price of the PIPE Notes,
has the potential to dilute the percentage ownership interest of the Company's
existing shareholders.




The
aggregate value of the 2007 PIPE Warrants issued in connection with this
Modification Agreement were valued at $138,107 using the Black-Scholes valuation
model with the following assumptions: risk-free interest rate of 4.43%; dividend
yield of 0%; volatility factors of the expected market price of common stock of
113.55%; and an expected life of two years (statutory term).




On
November 30, 2007, the Company and the Investors entered into the Second
Modification Agreement and pursuant to this agreement have agreed as follows:




●
            The
      Investors have agreed to forgive all accrued interest on their PIPE Notes,
      from the date of issuance thereof through December 14,
      2007.




●
            On
      December 14, 2007, the Company agreed to pay all Investors 50% of the
      principal amount of their original PIPE Notes which equals a total cash
      repayment of $200,000.  Additionally, in repayment of the other
      50% of the principal amount of the original PIPE Notes, the Company, on
      December 14, 2007, agreed to issue to Investors a total of 1,060,000
      shares of the Company’s common stock (the “Conversion
      Shares”).





●
            Concurrently
      with the cash payment and the issuance of the Conversion Shares as noted
      in paragraph 2 above, the Investors agreed to deliver to the Company the
      original of the PIPE Notes, which will be marked and deemed cancelled and
      of no further force or effect.





●
            In
      further consideration of the above terms and conditions, the Investors
      have agreed that the Company shall not be required to, and shall not, file
      a Registration Statement with the Securities and Exchange Commission or
      any state securities agency to register or qualify the PIPE Notes, the
      Conversion Shares, the PIPE Warrants, or any shares issuable pursuant to
      the PIPE Warrants (the Warrant Shares”).  The Conversion Shares
      and Warrant Shares when issued will be deemed restricted securities and
      bear appropriate legends.




●
            The
      terms and conditions of the PIPE Warrants, to the extent not expressly
      amended in the Second Modification Agreement, shall remain in full force
      and effect in furtherance of the terms and conditions set forth in the
      Modification Agreement.




Payment
of $200,000 was made by the Company in accordance with the Second Modification
Agreement, the Original Notes were surrendered by the Investors and 1,060,000
shares of common stock were issued to the Investors on December 27,
2007.  Included in interest expense is the excess of the cost to
settle the obligation over the carrying value at the settlement date totaling
$222,368.





The
aggregate value of the 2007 PIPE warrants in connection with the Second
Modification Agreement were valued at $116,913 using the Black-Scholes valuation
model with the following assumptions: risk-free interest rate of 4.39%; dividend
yield of 0%; volatility factors of the expected market price of common stock of
116.75%; and an expected life of five years (statutory term).  The
Company recorded and issued these warrants in January 2008.




6.
Capital stock





As of
September 30, 2008, the Company has authorized 200,000,000 shares of its common
stock, of which 58,948,138 shares were issued and outstanding.





In
September 2006, the Company entered into an equity arrangement with an
investment banking firm.  Under the arrangement the Company
may sell (put) shares of common stock from time to time over a
36-month period, at a purchase price calculated at 97% of the lowest best
closing bid for the Company’s common stock for the five trading days following
the put notice for cash.  The Company may draw up to $10,000,000.
Because the price of the common stock fluctuates, the number of shares of common
stock that the Company may issue when the Company exercises the put
rights will vary, the Company does not know how many shares will actually
be issued under the put. On October 6, 2006, the Company filed a
Registration Statement which was effective October 30, 2006 which registered and
made available 7,000,000 shares of common stock for possible future draws
under the line of credit.




30




During
the year ended December 31, 2007 the Company drew down $ 992,055 ($912,683 net
of closing costs) and issued 1,880,421 shares of common stock.  As
of September 30, 2008 the Company has drawn down $1,372,150 ($1,262,378)
net of closing costs) of this commitment and issued 2,367,905 shares at an
average price of $0.58 per share, leaving 4,632,095 shares available under the
equity line of credit.





In August
2007, the Company issued 2,597,524 shares in connection with the exercise of
options that were originally granted to the late Edward L. Masry.





During
the year ended December 31, 2007, the Company issued 1,910,711 shares of common
stock in exchange for conversion of $526,480 of Convertible
Notes.





During
the nine months ended September 30, 2008, the Company issued 7,421,896 shares of
common stock in exchange for $1,855,474 conversion of Convertible Notes and
settlement of loan and payable in accordance with the Morale Orchards-Matthews
Modification Agreement.  The Company incurred and recorded additional
non-cash interest and legal expense in the amount of $928,237.





During
the nine months ended September 30, 2008, the Company issued 3,817.329 shares of
common stock in exchange for conversion of $1,562,000 of other Convertible
Notes.





During
the nine months ended September 30, 2008, the Company issued 7,838 shares of
common stock in exchange for consulting services in the amount of $2,900. 
Also during the nine months ended September 30, 2008, the Company issued 10,000
shares of common stock for shares issuable related to consulting services
recorded in 2007.





During
the nine months ended September 30, 2008, the Company issued 156,012 shares of
common stock for settlement of $48,979 in payables.




During
the nine months ended September 30, 2008, the Company issued 661,660 shares of
common stock for exercise of warrants for which the Company received
$330,830.





7.
Stock options and warrants





Options





The
Company currently issues stock options to employees, directors and consultants
under the 2004 Stock Plan (the “Plan”). As of December 31, 2005, the
Company could issue options under the Plan to acquire up to 5,000,000 shares of
common stock. In February 2006, the board approved an amendment to the
Plan, increasing the authorized shares by 2,000,000 shares to 7,000,000 shares.
At September 30, 2008, 2,948,775 shares of common stock were available to be
granted under the Plan. Prior to 2004, the Company granted to officers of the
Company outside the Plan options to purchase 3,250,000 options outside the Plan
to officers of the Company of which 250,000 are still
outstanding.




31


Employee
options vest according to the terms of the specific grant and expire from 5 to
10 years from date of grant. Non-employee option grants to date are vested
upon issuance. The weighted-average, remaining contractual life of employee
options outstanding at September 30, 2008 and December 31, 2007 was
11.5 years and 7.1 years, respectively. Stock option activity for the
nine months ended September 30, 2008 and the year ended December 31, 2007
was as follows, which includes 250,000 options granted outside the
Plan:




Weighted
      Avg.
            
            
            Weighted
      Avg.Options
            
            
            Exercise
      PriceOptions,
      January 1, 2004
            
            
            13,250,000
            
            
            
            0.11Options
      granted
            
            
            1,172,652
            
            
            
            1.03Options
      exercised
            
            
            —
            
            
            
            —Options
      cancelled
            
            
            —
            
            
            
            —Options,
      December 31, 2004
            
            
            14,422,652
            
            
            
            0.18Options
      granted
            
            
            2,085,909
            
            
            
            0.92Options
      exercised
            
            
            —
            
            
            
            —Options
      cancelled
            
            
            (10,000,000
            )
            
            
            0.10Options,
      December 31, 2005
            
            
            6,508,561
            
            
            
            0.53Options
      granted
            
            
            1,313,605
            
            
            
            1.21Options
      exercised
            
            
            (2,860,000
            )
            
            
            0.10Options
      forfeited
            
            
            (962,607
            )
            
            
            0.84Options
      cancelled
            
            
            —
            
            
            
            —Options,
      December 31, 2006
            
            
            3,999,559
            
            
            
            0.99Options
      granted
            
            
            238,679
            
            
            
            0.55Options
      exercised
            
            
            —
            
            
            
            —Options
      forfeited
            
            
            (49,793)
            
            
            
            1.96Options
      cancelled
            
            
            —
            
            
            
            —Options,
      December 31, 2007
            
            
            4,188,445
            
            
            $
            0.95Options
      granted (unaudited)
            
            
            2,400,000
            
            
            
            0.27Options
      exercised (unaudited)
            
            
            —
            
            
            
            —Options
      forfeited (unaudited)
            
            
            (2,287,220
            )
            
            
            1.00Options
      cancelled (unaudited)
            
            
            —
            
            
            
            —Options,
      September 30, 2008 (unaudited)
            
            
            4,301,225
            
            
            $
            0.55




During
the nine months ended September 30, 2008, 2,400,000 options were
granted.




Number
              of
              Shares
            
            
            Weighted
              Average
              Exercise
              Price
            
            
            Weighted
              Average
              Remaining
              Contractual
              Life
      (Years)As
      of September 30, 2008:Options
      Outstanding
            
            
            4,301,225
            
            
            $
            0.55
            
            
            
            11.52Unvested
      Options
            
            
            -
            
            
            $
            -
            
            
            
            -Options
      Exercisable
            
            
            4,301,225
            
            
            $
            0.55
            
            
            
            11.52





As
of September 30, 2008, the exercise price of all options outstanding exceeds the
market price of the Company’s stock, and therefore there was no intrinsic
value.  The total deferred compensation expense on the outstanding
value of unvested options at September 30, 2008 is $0, which will be recognized
over a weighted average period of 12 months.





Stock-based
compensation during the nine month period ended September 30, 2008 was $599,754,
compared to $45,774 for the nine month period ended September 30,
2007.




32




The
following table summarizes certain information about the Company’s stock
purchase warrants.


Warrants
            
            
            Weighted
      Avg.
              Exercise
      PriceWarrants
      outstanding, January 1, 2004
            
            
            14,252,414
            
            
            
            0.48Warrants
      granted
            
            
            2,372,500
            
            
            
            1.27Warrants
      exercised
            
            
            (960,500
            )
            
            
            0.20Warrants
      cancelled
            
            
            —
            
            
            
            —Warrants
      outstanding, December 31, 2004
            
            
            15,664,414
            
            
            
            0.62Warrants
      granted
            
            
            5,198,574
            
            
            
            1.16Warrants
      exercised
            
            
            (50,500
            )
            
            
            0.99Warrants
      cancelled
            
            
            (20,000
            )
            
            
            1.50Warrants
      outstanding, December 31, 2005
            
            
            20,792,488
            
            
            
            0.75Warrants
      granted
            
            
            3,624,894
            
            
            
            1.28Warrants
      exercised
            
            
            (2,328,452
            )
            
            
            0.68Warrants
      cancelled
            
            
            (1,191,619
            )
            
            
            1.46Warrants
      outstanding, December 31, 2006
            
            
            20,897,311
            
            
            $
            0.81Warrants
      granted
            
            
            3,602,701
            
            
            
            0.64Warrants
      exercised
            
            
            —
            
            
            
            —Warrants
      cancelled
            
            
            (6,580,984
            )
            
            
            1.06Warrants
      outstanding, December 31, 2007
            
            
            17,919,028
            
            
            $
            0.67Warrants
      granted
            
            
            1,727,739
            
            
            
            0.49Warrants
      exercised
            
            
            (1,064,650
            )
            
            
            0.50Warrants
      cancelled
            
            
            (6,906,083
            )
            
            
            0.59Warrants
      outstanding, September 30, 2008
            
            
            11,676,034
            
            
            $
            0.70





8.
Research and development





The
Company has a research and development facility in Morgan Hill, California. The
Company has expanded the research and development to include application of the
ZEFS, MK IV, CAT-MATE and ELECTRA technologies for diesel engines, motorbikes,
boats, generators, lawnmowers and other small engines. The Company has purchased
test vehicles, test engines and testing equipment. The Company has completed
testing on products incorporating its ZEFS, MK IV and CAT-MATE technologies for
multiple automobiles, trucks motorcycles, off-road vehicles and stationary
engines. The Company has entered into a Research & Development Agreement
with Temple University in connection with the ELECTRA technology. The Company
spent $376,500 and $331,250 for the nine months ended September 30, 2008 and
2007, respectively.





9.
Commitments and contingencies





Patent
Infringement Claims by Jeffrey A. Muller




In
April 2005, Jeffrey A. Muller, the Company’s former sole director and
executive officer, filed a complaint against the Company in the Federal District
Court for the Central District of California, seeking declaratory and injunctive
relief and alleging unfair competition in connection with a claimed prior patent
interest in the ZEFS device and stock option rights. In seeking declaratory
relief, Mr. Muller is seeking to have the patent rights in the ZEFS device
that were previously transferred to the Company by Mr. Muller’s bankruptcy
trustee declared null and void.




This
lawsuit brought by Mr. Muller arose out of the same claims that were the
subject of litigation in the Federal District Court for the Southern District of
New York, in which the Court entered judgment against Mr.
Muller.  Those claims are pending further
proceedings.  While the Company believes that the Company has valid
claims and defenses, there can be no assurance that an adverse result or outcome
on the pending motions or a trial of this case would not have a material adverse
effect on the Company’s financial position or cash flow.




Litigation
Involving Scottish Glen Golf Company




We are
involved in litigation with Scottish Glen Golf Company, Inc. (SGGC) doing
business as KZ Golf, Inc., the Company’s previous landlord on claims in the
aggregate amount of $104,413 of which $103,069 was accrued by the
Company.   STWA does not dispute the fact that certain amounts of
unpaid past rent are due but does dispute that it owes the aggregate of $104,413
demanded by SGGC; more than half of which are purported “late fees” which was
assessed at the rate of $100 per day.  It is the company’s position
that the late fees are void and unenforceable and that STWA is entitled to a
set-off for office space that reverted back to SGGC.




While the
Company believes that it has valid claims and defenses, given the inherent
uncertainties of litigation, the Company cannot predict the outcome of this
matter.  Accordingly, there can be no assurance that an adverse result
or outcome of this matter would not have a material adverse effect on the
Company’s financial position or cash flow.  The Company believes that
these claims arose from acts of a related party involving a former officer and
director and his wife as a beneficial owners of SGGC.




Effective
April 30, 2008 the Company and Scottish Glen Golf Company, Inc., dba KZG settled
their pending litigation relating to the Company’s prior offices.  In
the interest of avoiding further litigation costs and expenses, the Company and
SGGC executed a “Settlement and Mutual Release Agreement effective April 30,
2008. and agreed to pay $51,000 for the settlement of this matter.




33




Upon
settlement by the Company  the Complaint was dismissed, with
prejudice.




Employment
agreement





EffectiveJuly 25, 2007, the
Company entered into an employment agreement with Mr. Charles R. Blum to serve
as the Company’s President and Chief Executive Officer.  Pursuant to
the Employment Agreement, Mr. Blum’s employment is for a one-year term, subject
to automatic one-year extensions and provides for annual base compensation of
$200,000 per year, subject to periodic review and adjustment. On July 25, 2008,
Mr. Blum’s contract was automatically renewed for one additional year.  In
addition, Mr. Blum will receive an automobile allowance of $900 per month and
four weeks of paid vacation annually.  Also, Mr. Blum is entitled to
participate in all employee benefit plans that the Company makes available to
the Company’s employees generally; provided that if Mr. Blum elects not to
participate in the Company’s group medical insurance plan, Mr. Blum will be
reimbursed in an amount equal to the lesser of (i) the premium the Company would
have paid to include Mr. Blum as a participant in that group health insurance
plan and (ii) the sums paid by Mr. Blum in connection with maintaining Mr.
Blum’s private health insurance.  The Company will also reimburse Mr.
Blum the reasonable costs paid by Mr. Blum for maintaining DSL Internet
access and other direct costs of maintaining an office at Mr. Blum’s home, but
only until such time as the Company shall provide Mr. Blum with an office at a
location reasonably acceptable to Mr. Blum.




Minimum
guaranteed compensation payments under Mr. Blum’s employment agreement amounts
to approximately:




As of
December 31:


Year2008
              
              $
              55,7002009
              
              $
              126,450Total
              
              $
              182,150





During
the nine months ended September 30, 2008, approximately $167,000 was paid for
employment agreement.




Consulting
agreements





On
January 4, 2007, the Company entered into a Consulting Agreement (the
“Consulting Agreement”) with Spencer Clarke LLC (“Spencer Clarke”) pursuant to
which Spencer Clarke has agreed that for a twelve-month period beginning January
4, 2007, Spencer Clarke will provide the Company with financial consulting
services (including but not limited to executive search, strategic partnerships,
research on new markets, strategic visibility, etc) to help further develop the
Company’s strategic business plan.




For
Spencer Clarke’s services the Company has agreed to pay Spencer Clarke a
nonrefundable fee of $20,000 per month, payable in advance. The first payment,
in the amount of $60,000 and covering three months, was due by the Company on
March 1, 2007. No payments have been made under this agreement. The Company will
also reimburse Spencer Clarke for expenses it incurs in connection with the
performance of its services under the Consulting Agreement, provided that
expenses in excess of $2,000 require the Company’s prior approval before such
expenses may be incurred by Spencer Clarke.




On
December 13, 2007, the Company entered into an agreement with a consultant to
provide financial and marketing services.  Compensation is to be paid
on an hourly rate, half in cash and half in the Company’s common stock to be
issued on the first day of the second month after services are
provided.




On
December 13, 2007, the Company entered into an agreement with a consultant to
provide coordination services with various governmental agencies, in California
for a fee of $2,500 plus 10,000 shares of the Company’s common
stock.





In
September 2008, several consulting agreements were formalized providing for
investor relation, marketing and related environmental issues, and stock options
totaling 1,150,000 were issued under the 2004 Stock Option Plan.





Leases




In
September 2005, the Company entered into a lease agreement for a testing
facility located in Morgan Hill, California. The term of the lease was from
September 1, 2005 through August 31, 2007 and carried an option to
renew for two additional years at the then prevailing market rate. The rent was
$2,240 per month under this lease. The lease was amended in February 2006
for additional space. The rent under the amended lease was $4,160 per
month.  The Company renewed this lease on August 9, 2007 for an
additional two-year term.  The rent is $4,640 per month for the first
six months of the new term of the lease and $5,480 per month for the remaining
eighteen months of the new term of the lease which expires on August 31,
2009.




In May
2008, the Company entered into a lease agreement for its administrative offices
in Los Angeles, California. The term of the lease was for $3,000 per month from
June 1, 2008 through November 30, 2008. From that point on, the lease is
due on a month to month basis with rent payment increasing to
$3,750.





Total
rent expense under this leases for the nine-month periods ended September 30,
2008 and 2007, is $59,640 and $37,920, respectively.  The following is
a schedule by years of future minimum rental payments required under the
non-cancellable operating leases as of  September 30,
2008.




2008
              
              $
              22,4402009
              
              
              43,840Total
              
              $
              66,280





34




Item 2.
Management’s Discussion and Analysis or Plan of Operations





This
Quarterly Report on Form 10-Q contains forward-looking statements. These
forward-looking statements include predictions regarding our
future:




●
            revenues
      and profits;●
            customers;●
            research
      and development expenses and efforts;●
            scientific
      and other third-party test results;●
            sales
      and marketing expenses and efforts;●
            liquidity
      and sufficiency of existing cash;●
            technology
      and products;●
            the
      outcome of pending or threatened litigation; and●
            the
      effect of recent accounting pronouncements on our financial condition and
      results of operations





You can
identify these and other forward-looking statements by the use of words such as
“may,” “will,” “expects,” “anticipates,” “believes,” “estimates,” “continues,”
or the negative of such terms, or other comparable terminology.





Forward-looking
statements also include the assumptions underlying or relating to any of the
foregoing statements.





Our
actual results could differ materially from those anticipated in these
forward-looking statements as a result of various factors, including those set
forth under the heading “Risk Factors” in our Annual Report on Form 10-KSB for
the year ended December 31, 2007. All forward-looking statements included
in this document are based on information available to us on the date hereof. We
assume no obligation to update any forward-looking statements.





Overview





The
following discussion and analysis of our condensed consolidated financial
condition and condensed consolidated results of operations should be read in
conjunction with the condensed consolidated financial statements and notes
thereto included in Part I, Item 1 of this Form 10-Q and the condensed
consolidated financial statements and notes thereto contained in our Annual
Report on Form 10-KSB for the fiscal year ended December 31,
2007.





We are a
green technology company that leverages a suite of patented, patent-pending and
licensed intellectual properties related to the treatment of fuels. Technologies
patented by, or licensed to, us utilize either magnetic or uniform electrical
fields to alter physical characteristics of fuels and are designed to create a
cleaner combustion. Cleaner combustion has been shown to improve performance,
enhance fuel economy and/or reduce harmful emissions in laboratory
testing.





Our ECO
ChargRTM and MAG ChargRTM products use fixed magnetic fields to alter some
physical properties of fuel, by incorporating our patented and patent-pending
ZEFS and MK IV technologies.  We differentiate ECO ChargR and MAG
ChargR products based on their differing attributes and marketing focus. ECO
ChargR products are primarily designed to reduce harmful emissions and MAG
ChargR products are primarily designed to enhance performance and fuel economy.
Our ECO ChargR product is intended to reduce exhaust emissions in vehicle and
small utility motors.  ECO ChargR will be marketed primarily to
original equipment manufacturers (“OEMs”) as well as to pilot and
government-mandated emissions programs.  Our MAG ChargR product is
intended to increase power and improve mileage. MAG ChargR will be marketed
primarily to the specialty consumer accessories market for many types of
vehicles, including but not limited to cars, trucks, motorcycles, scooters, all
terrain vehicles (“ATVs”), snowmobiles, personal watercraft and small utility
motors.  On the other hand, because our ECO ChargR and MAG ChargR
products are customized to specific brands, models and engine sizes, these
products ultimately will require hundreds of individually developed parts, which
can be expensive and time-consuming to produce.  See “Our Technologies
and Products” below.




Our first
revenues have come from initial sales in Asia for our ECO ChargR product in the
motorcycle industry. We plan on commencing sales of ECO ChargR to customers in
the United States in the motorcycle industry in fourth quarter of 2008. We also
plan on commencing initial sales of our MAG ChargR product in Asia and the
United States in the automobile and motorcycle industry in the fourth quarter of
2008.  See “Recent Developments” and “Sales and Marketing”
below.




35




We have
obtained a license from Temple University for their patent-pending uniform
electric field technology, tentatively called ELEKTRATM. The ELEKTRA technology
consists of passing fuel through a specific strong electrical
field.  Although ELEKTRA has a similar effect on fuels as our ZEFS and
MK IV technologies, ELEKTRA incorporates a uniform electrical field
principle.  Based on our early research and product development, we
believe that ELEKTRA carries certain advantages over our ZEFS and MK IV
technologies, primarily not requiring as many variations for products
incorporating the ELEKTRA technology compared to products incorporating the ZEFS
or MK IV technologies. Preliminary testing conducted in Europe by an
outside research and development facility indicates that ELEKTRA causes a
significant change in some of the physical characteristics of the fuel,
resulting in better atomization of the fuel and improved
combustion.





We have
also entered into a research and development agreement with Temple University to
conduct further research on the ELEKTRA technology and magnetic technologies in
general.  Together with Temple University, we have developed prototype
products using the ELEKTRA technology and we are continuing testing, and
research and development. We are in the early stages of developing ELEKTRA
products that, based on the previously mentioned preliminary testing, is
intended to improve fuel economy and change fuel viscosity, and may improve
performance and reduce emissions, depending upon the specific application. We
are also working with Temple and several domestic and international corporations
investigating applications of this technology to the transportation industry,
oil refineries and pipelines, and OEMs. See “Our Technologies and Products”
below.




We
operate in a highly competitive industry.  Many of our activities may
be subject to governmental regulation.  We have taken aggressive steps
to protect our intellectual property.




There are
significant risks associated with our business, our company and our
stock.




We are a
development stage company that generated its first initial revenues in the
fourth quarter of 2006. Our expenses to date have been funded primarily through
the sale of stock and convertible debt, as well as proceeds from the exercise of
stock purchase warrants. We raised capital in 2007 and will need to raise
substantial additional capital in 2008, and possibly beyond, to fund our sales
and marketing efforts, continuing research and development, and certain other
expenses, until our revenue base grows sufficiently.




Our
company was incorporated on February 18, 1998, as a Nevada corporation,
under the name Mandalay Capital Corporation. We changed our name to Save the
World Air, Inc. on February 11, 1999, following the acquisition of
marketing and manufacturing rights of the ZEFS technologies. Our mailing address
is 235 Tennant Avenue, Morgan Hill, California 95037. Our telephone number is
(408)-778-0101. Our corporate website is www.stwa.com.  Information
contained on the website is not deemed part of this Annual Report.




Our
common stock is quoted on the Over-the-Counter Bulletin Board under the symbol
“ZERO.OB”.


Results
of Operations





We did
not generate any revenue for the three-month period ended September 30,
2008 and 2007. Revenues for the nine-month period ended September 30, 2008 were
$0 compared with revenues of $22,000 and cost of goods sold of $5,360 for the
nine-month period ended September 30, 2007.





Operating
expenses were $1,148,887 for the three-month period ended September 30,
2008, compared to $873,971 for the three-month period ended September 30,
2007, an increase of $274,916. This increase is attributable to an increase in
non-cash expenses of $499,201 offset by a decrease in cash expenses of $224,285.
The increase in non-cash expenses is primarily attributable to an increase in
the fair value of options given to employees ($535,544) offset by decreases in
depreciation ($36,343). The cash expense decrease is attributable to decreases
in salaries and benefits ($227,142), corporate expenses ($18,495) and office and
other expenses ($478), offset by increases in consulting and professional fees
($13,474), travel expenses ($6,361) and exhibits and trade shows
($1,995).





Operating
expenses were $2,428,889 for the nine-month period ended September 30,
2008, compared to $3,177,533 for the nine-month period ended September 30,
2007, a decrease of $748,644. This decrease is attributable to a decrease in
cash expenses of $1,413,645, offset by an increase in non-cash expenses of
$665,001. The decrease in cash expenses is attributable to decreases in salaries
and benefits ($619,867), consulting and professional fees ($450,221), office and
other expenses ($156,253), travel expenses ($87,505), corporate expenses
($68,567) and exhibits and trade shows ($31,232). The non-cash increase is
attributable to increases in fair value of options and warrants given to
employees and consultant ($553,980), professional fees (236,572) and bad debt
($1,380) offset by a decrease in depreciation ($126,931).





Research
and development expenses were $109,822 for the three-month period ended
September 30, 2008, compared to $98,427 for the three-month period ended
September 30, 2007, an increase of $11,395. This increase is mainly
attributable decrease in product testing, research and supplies ($28,156) offset
by decreases in contract fees ($7,347) and travel and related expenses
($9,414).





Research
and development expenses were $432,184 for the nine-month period ended
September 30, 2008, compared to $539,610 for the nine-month period ended
September 30, 2007, a decrease of $107,426. This decrease is attributable
to decreases in product testing, research and supplies ($105,563), consulting
fees ($16,097), and travel and related expenses ($17,669) offset by an increase
in contract fees ($31,903).





Other
expense for the three-month period ended September 30, 2008 were $220,430,
compared to $645,454 for the three-month period ended September 30, 2007, a
decrease of $425,024. This decrease is attributable to a decrease in non-cash
interest expense ($428,640) offset by increase in cash interest expense ($1,304)
and decrease in other income ($2,312).





36





Other
expense for the nine-month period ended September 30, 2008 were $1,593,940,
compared to $1,358,893 for the nine-month period ended September 30, 2007,
an increase of $235,047. This increase is attributable to increases in non-cash
interest expense ($321,164) and loss on sale of equipment ($9,683), offset by
decrease in cash interest expense ($45,705) and increase in other income
($50,095).





We had a
net loss of $1,479,139, or $0.03 per share, for the three-month period ended
September 30, 2008, compared to a net loss of $1,617,852, or $0.04 per
share, for the three-month period ended September 30, 2007. We had a net
loss of $4,455,013, or $0.09 per share, for the nine-month period ended
September 30, 2008, compared to a net loss of $5,060,196, or $0.13 per
share, for the nine-month period ended September 30, 2007. We expect to
incur additional net loss in the fiscal year ending December 31, 2008,
primarily attributable to continued operating and marketing-related expenditures
without the benefit of any significant revenue for the remainder of the
year.





Liquidity
and Capital Resources





General





We
have incurred negative cash flow from operations in the developmental stage
since our inception in 1998. As of June 30, 2008, we have been funded primarily
through the sale of convertible notes and issuance of our stock upon exercise of
warrants.





The
condensed consolidated financial statements accompanying this Quarterly Report
have been prepared on a going concern basis, which contemplates the realization
of assets and the settlement of liabilities and commitments in the normal course
of our business. As reflected in the accompanying condensed consolidated
financial statements, we had a net loss of $4,455,013 and a negative cash flow
from operations of $1,486,606 for the nine months ended September 30, 2008, and
a stockholders’ deficiency of $2,584,759 as of September 30, 2008. These factors
raise substantial doubt about our ability to continue as a going concern. Our
ability to continue as a going concern is dependent on our ability to raise
additional funds, generate revenue and implement our business plan. The
financial statements do not include any adjustments that might be necessary if
we are unable to continue as a going concern.





Our
current liabilities greatly exceed our assets and we are unable to meet our
obligations as they become due. We face significant challenges in generating
revenue and maintaining adequate working capital during the remainder of 2008 as
a result of several factors. Among other things, to date our distributors,
primarily located in Asia, have placed fewer orders than we had expected them to
place under the terms of our distribution agreements with them. This resulted in
our having less revenue and therefore less working capital available for the
further development of our business at a time when the operating costs of our
business have been increasing. We will require significant additional outside
capital during 2008 in order to meet all of our obligations, produce products
for sale and ship such products





Details of Recent Financing
Transactions





Equity
Arrangement





In
September 2006, the Company entered into what is sometimes termed an equity
arrangement with an investment banking firm. Under the arrangement the Company
may sell (put) shares of common stock from time to time over a 36-month period,
at a purchase price calculated at 97% of the lowest best closing bid for the
Company’s common stock for the five trading days following the put notice. The
Company may draw up to $10,000,000. Because the price of the common stock
fluctuates and the number of shares of common stock that the Company may issue
when the Company exercises the put will vary, the Company does not know how many
shares, if any, will actually issue under the put.  On October 6,
2006, the Company filed a Registration Statement which was effective October 30,
2006 which registered and made available 7,000,000 shares of common stock for
possible future draws under the arrangement.





As of
September 30, 2008 the Company has drawn down $1,372,150 ($1,262,378 net of
closing costs) of this commitment and issued 2,367,905 shares of common stock,
leaving 4,632,095 shares of common stock still available under the equity
arrangement.





Morale Orchards,
LLC





On
December 5, 2006, the Company entered into a Note Purchase Agreement (the “Note
Purchase Agreement”) with Morale, pursuant to which Morale purchased from the
Company two (2) Convertible Promissory Notes, one dated December 5, 2006 (the
“2006 Morale Note”), in the principal face amount of $612,500, and another,
dated January 10, 2007 (the “2007 Morale Note”), also in the principal face
amount of $612,500 (collectively, the “Morale Notes”), and two (2) warrants, one
accompanying the 2006 Morale Note, and the other accompanying the 2007 Morale
Note.  Each warrant provides Morale the right to purchase shares of
common stock of the Company. The aggregate purchase price for the Morale Notes
and Morale Warrants was $1,000,000, of which $500,000 was paid by Morale and
received by the Company on or about December 5, 2006, and of which $500,000 was
paid by Morale and received by the Company on or about January 10,
2007;




37




The 2006
Morale Note is convertible at the rate of $0.85 per share into 720,588 shares of
the Company’s common stock, and the 2007 Morale Note is convertible at the rate
of $0.70 per share into 875,000 shares of the Company’s common
stock;




The 2006
Morale Warrant is exercisable at $0.85 per share for 360,294 shares of the
Company’s common stock, and the 2007 Morale Warrant is exercisable at $.70 per
share for 437,500 shares of the Company’s common stock.





The Note Purchase
Agreement provides, in pertinent part, that in the event the Company has
not repaid each of the Morale Notes in full by the anniversary date of their
issuances, the principal balances of each note shall be increased by ten percent
(10%) and the Company shall pay interest at two and one-half percent (2Ѕ%) per
month, compounded
daily, for each month until each of the Morale Notes is paid in
full.





Morale
has piggy-back registration rights pursuant to which Morale may require the
Company to include the shares of the Company’s common stock issuable upon
conversion of the Morale Notes and exercise of the Morale Warrants in certain
future registration statements the Company may elect to file.





The
aggregate value of the Morale Warrants issued in connection with the January 10,
2007 purchase were valued at $118,955 using the Black-Scholes option valuation
model with the following assumptions; risk-free interest rate of 4.68%; dividend
yield of 0%; volatility factors of the expected market price of common stock of
245%; and an expected life of five years (statutory term) and vest over 180
days.  The Company also determined that the notes contained a
beneficial conversion feature of $231,455.  The value of the Morale
Warrants of $118,955, the conversion option of $231,455 and the transaction fees
of $112,500 are considered as debt discount and are being amortized over the
life of the Note





As of
January 31, 2008, both the 2006 and 2007 Morale Notes were in default, and
neither of the Morale Notes nor the Morale Warrants have been converted into
shares of common stock of the Company. The amount due and owing as of January
31, 2008, under the 2006 Morale Note is $689,327. The amount due and owing as of
January 31, 2008, under the 2007 Morale Note is $672,885.




The
Company borrowed the principal sum of $20,000 from Morale on October 30, 2007,
at an interest rate of ten percent (10%) per annum. Principal and accrued
interest under the Morale Note is due on demand, and no payments there under
have been made by the Company.




Morale is
beneficially owned by Jacqueline Alexander, who is the wife of Leodis Matthews,
who, through his law firm, the Matthews Law Firm, serves as outside legal
counsel to the Company.  The Company is indebted to the Matthews Law
Firm for unpaid legal fees and costs through January 31, 2008, in the aggregate
amount of $472,762.





The
Company, Morale and the Matthews Law Firm now desire to modify the terms and
provisions of, and to provide for the satisfaction of the Company’s obligations
under, the Morale Notes, the Additional Morale Note and the Matthews Law Firm
Debt, pursuant to the terms and conditions set forth in this Modification and
Satisfaction Agreement.





The
Company, Morale and the Matthew Law Firm agreed to the following:




1.Waiver of
Interest.




(i)
            Morale
      agrees to forgive and waive any and all accrued interest on the Morale
      Notes from and after January 31,
2008;





(ii)
            Morale
      agrees to forgive and waive any and all accrued interest due on the
      Additional Morale Note from the date of its issuance; and the Matthews Law
      Firm agrees to forgive any and all interest which may have accrued on the
      Matthews Law Firm Debt.




2.    Cancellation of Notes, Debt and
Obligations.  Upon the execution of this Modification and
Satisfaction Agreement, the 2006 Morale Note, the 2007 Morale Note, the
Additional Morale Note, the Unpaid 2006 Morale Note Debt, the Unpaid 2007 Morale
Note Debt, the Unpaid Additional Morale Note Debt and the Matthews Law Firm
Debt, shall all be cancelled, be deemed satisfied in full and be of no further
force or effect, effective January 31, 2008.





3.No
Registration Rights.  Upon execution hereof, the Morale
Registration Rights shall be cancelled and be of no further force or
effect.




4.Issuance of
Shares.  In consideration of this Modification and Satisfaction
Agreement, including the waivers and cancellations as set forth in paragraphs 1
and 2, above, upon execution hereof, and concurrently with the waivers and
cancellations provided
hereunder, the Company shall issue a total of 7,421,896 shares of its common
stock to Morale and the Matthews Law Firm, allocable as follows:  (i)
2,759,308 shares shall be issued to Morale arising out of and in exchange for
cancellation of the 2006 Morale Note and the Unpaid 2006 Morale Note Debt; (ii)
2,691,540 shares shall be issued to Morale arising out of and in exchange for
cancellation of the 2007 Morale Note and the Unpaid 2007 Morale Note Debt; (iii)
80,000 shares shall be issued to Morale arising out of and in exchange for
cancellation of the Additional Morale Note and the Unpaid Additional Morale Note
Debt; and (iv) 1,891,048 shares shall be issued to the Matthews Law Firm arising
out of and in exchange for cancellation of the Matthews Law Firm
Debt.  The Company shall not be required to, and shall not, file a
Registration Statement with the Securities and Exchange Commission or any state
securities agency to register or qualify the shares of common stock of the
Company issuable to Morale and the Matthews Law Firm hereunder, and all such
shares when issued shall be deemed restrictive securities and bear appropriate
legends.




38




5.Morale
Warrants.  The terms and conditions of the Morale Warrants, to
the extent not expressly amended in this Modification and Satisfaction
Agreement, shall remain in full force and effect.




On March
10, 2008, 80,000 shares of the Company’s common stock were issued to Morale
Orchards, LLP, in cancellation of a note payable in the amount of $20,000 as
part of the Modification Agreement entered into on January 31, 2008 between the
Company and Morale Orchards, LLP and Matthews & Partners.




On March
10, 2008, 5,450,848 shares of the Company’s common stock were issued to Morale
Orchards, LLP, in conversion and cancellation of the Convertible Notes issued
December 5, 2006 and January 10, 2007 in the amount of $1,362,712 as part of the
Modification Agreement entered into on January 31, 2008 between the Company and
Morale Orchards, LLP and Matthews & Partners.




On March
10, 2008, 1,891,048 shares of the Company’s common stock were issued to Leodis
C. Matthews, APC, in cancellation of accrued professional fees in the amount of
$472,762 as part of the Modification Agreement entered into on January 31, 2008
between the Company and Morale Orchards, LLP and Matthews &
Partners.




As a
result of the debt cancelled and shares of common stock issued in connection
with the Modification Agreement, the Company incurred non-cash interest expense
of $691,665 and non-cash legal expense of $236,572 which was recorded in the
first quarter of 2008.





2007 PIPE
Offering.  During the year ended December 31, 2007, the Company
conducted an offering (the “2007 PIPE Offering”), through Spencer Clarke LLC, as
exclusive placement agent, of up to $2,000,000 principal amount of its 10%
convertible notes (the “2007 PIPE Notes”).  Interest on the 2007 PIPE
Notes, at a rate of 10% per annum, is payable quarterly.  The Notes
are due nine months from date of issuance.  The 2007 PIPE Notes are
convertible into shares of common stock at an initial conversion price of $0.70
per share (the “Conversion Shares”).  There is no reset to the
conversion price for any beneficial conversion feature.




The
Company has the right to redeem any or all of the outstanding 2007 PIPE Notes in
its sole discretion anytime after the termination of the 2007 PIPE Offering and
prior to the maturity date of the 2007 PIPE Notes. The redemption price shall be
the face amount of the redeemed 2007 PIPE Notes plus accrued and unpaid interest
thereon.  Subject to the following sentence, at any time prior to the
maturity date of the 2007 PIPE Notes, for each additional $1,000,000 of gross
proceeds raised from one or more offerings of the Company’s equity or
quasi-equity securities, the Company shall redeem 2007 PIPE Notes with a minimum
face value of $500,000 together with accrued and unpaid interest, until the
entire outstanding 2007 PIPE Note is redeemed. Certain financings that the
Company may conduct outside of North America are exempt from this provision to
redeem the 2007 PIPE Notes in whole or in part.





Investors
in the 2007 PIPE Offering also received a warrant (the “2007 PIPE
Warrant”), entitling the holder to purchase a number of shares of the Company’s
common stock equal to 150% of the number of shares of common stock into which
the 2007 PIPE Notes are convertible (the “Warrant Shares”). The 2007 PIPE
Warrant will be exercisable on a cash basis only and will have registration
rights.  The 2007 PIPE Warrant is exercisable at an initial price of
$1.00 per share, and is exercisable immediately upon issuance and for a period
of three years from the date of issuance.




Promptly,
but no later than 90 days following the closing date of the 2007 PIPE Offering,
the Company is required to file a Registration Statement with the SEC to
register the Conversion Shares and the Warrant Shares. The Company shall use its
best efforts to ensure that such Registration Statement is declared effective
within 120 days after filing.




Pursuant
to the terms of the PIPE Notes, if a Registration Statement is not filed on
the 91st day following the closing date, (i) the interest rate on the PIPE Notes
increased from 10% to 18% per annum until the event of default is cured and (ii)
the holders of the PIPE Notes became entitled to receive additional warrants in
an amount equal to 25% of the PIPE Warrants originally issued, for each 60-day
period that the Company remains in default.




During
the year ended December 31, 2007, the Company issued $400,000 of the PIPE Notes
which could be converted into 571,429 shares of the Company’s common stock and
2007 PIPE Warrants to purchase 857,144 shares of the Company’s common stock.
These warrants expire March 1, March 30 and April 2, 2010 and are exercisable at
a price of $1.00 per share. The Company had related transaction fees of $48,000,
resulting in net proceeds to the Company of $352,000. In addition to the
transaction fees, warrants to purchase 57,143 shares of the Company’s common
stock were issued to Spencer Clarke LLC, the Company’s exclusive placement agent
for the 2007 PIPE Offering. These warrants expire March 1, March 30 and April 2,
2010 and are exercisable at a price of $0.70 per share.




The
aggregate value of the 2007 PIPE Warrants issued in connection with this
offering and the warrants issued to the placement agent were valued at $256,533
using the Black-Scholes option valuation model with the following assumptions:
risk-free interest rate of 4.40% to 5.16%; dividend yield of 0%; volatility
factors of the expected market price of common stock of 100.28% to 114.98%; and
an expected life of two years (statutory term). The Company also determined that
the notes contained a beneficial conversion feature of $62,857.




The
Company was unable to meet its obligations to file the Registration Statement
required under the terms of the 2007 PIPE Offering in a timely manner. In early
July 2007, the Company began discussions with Spencer Clarke, acting on behalf
of the holders of the PIPE Notes and PIPE Warrants, for an extension of time to
file the Registration Statement. Notwithstanding such discussions, Spencer
Clarke issued a Notice of Default dated August 1, 2007 (the "Notice") to the
Company for its failure to file the Registration Statement in a timely
manner.




39





On August
29, 2007, the Company entered into a Modification Agreement with the 2007 PIPE
note holders. The Modification Agreement was entered into as a result of
negotiations between the Company and Spencer Clarke, LLC ("Spencer Clarke"), the
Company's exclusive placement agent for the 2007 PIPE Offering, after the
Company failed to file with the Securities and Exchange Commission (the "SEC")
in a timely manner a Registration Statement to register the shares of the
Company's common stock into which the PIPE Notes are convertible and for which
the PIPE Warrants may be exercised.





Pursuant
to the Modification Agreement, the parties have agreed as follows:





●
            Promptly,
      but no later than November 30, 2007 (instead of on or before July 2,
      2007), the Company shall file the Registration Statement with the SEC to
      register the Conversion Shares and the Warrant
  Shares.





●
            Effective
      August 1, 2007, the interest rate on the PIPE Notes shall be increased
      from 10% per annum to 18% per annum until such time as the Registration
      Statement is declared effective by the
SEC.




●
            The
      price at which the PIPE Notes may be converted into Conversion Shares (the
      "Conversion Price") shall be reduced from $0.70 to $0.45 per
      share.





●
            Each
      Investor shall receive, for no additional consideration, additional
      warrants ("Additional Warrants") in an amount equal to an additional 50%
      of the PIPE Warrants originally issued pursuant to the terms of the 2007
      PIPE Offering. These Additional Warrants total 428,575 and shall have the
      same registration rights as are described in the Private Placement
      Memorandum dated January 12, 2007 (the "Offering Memorandum") used in
      connection with the 2007 PIPE Offering applicable to the PIPE Warrants;
      shall be exercisable immediately upon issuance; shall remain exercisable
      for a period of five years from the date of the Modification Agreement, on
      a cash basis only, at an initial exercise price of $0.45 per share; and
      shall, in all other respects, have the same terms and conditions, and be
      in the same form, as the PIPE
Warrants.




●
            If
      the Company does not file the Registration Statement with the SEC by
      November 30, 2007, each Investor shall receive, for no additional
      consideration, warrants ("Delay Warrants") in an amount equal to an
      additional 50% of the PIPE Warrants originally issued pursuant to the
      terms of the Offering Memorandum. The Delay Warrants shall have the same
      registration rights as are described in the Offering Memorandum applicable
      to the PIPE Warrants; shall be exercisable immediately upon issuance;
      shall remain exercisable for a period of five years from the date of this
      Agreement, on a cash basis only, at an initial exercise price of $0.45 per
      share; and shall, in all other respects, have the same terms and
      conditions, and be in the same form, as the PIPE
  Warrants.




The terms
and conditions of the Offering Memorandum, the PIPE Notes and the PIPE Warrants,
to the extent not expressly amended in the Modification Agreement, remain in
full force and effect. The issuance of the Additional Warrants (“Delay
Warrants”), if any, and the reduction of the Conversion Price of the PIPE Notes,
has the potential to dilute the percentage ownership interest of the Company's
existing shareholders.




The
aggregate value of the 2007 PIPE Warrants issued in connection with this
Modification Agreement were valued at $138,107 using the Black-Scholes option
valuation model with the following assumptions: risk-free interest rate of
4.43%; dividend yield of 0%; volatility factors of the expected market price of
common stock of 113.55%; and an expected life of two years (statutory
term).




On
November 30, 2007, the Company and the Investors entered into the Second
Modification Agreement and pursuant to this agreement have agreed as
follows:




●
            The
      Investors have agreed to forgive all accrued interest on their PIPE Notes,
      from the date of issuance thereof through December 14,
      2007.




Payment
of $200,000 was made by the Company in accordance with the Second Modification
Agreement, the Original Notes were surrendered by the Investors and 1,060,000
shares of common stock were issued to the Investors on December 27,
2007.




The
aggregate value of the 2007 PIPE warrants in connection with the Second
Modification Agreement were valued at $116,913 using the Black-Scholes valuation
model with the following assumptions: risk-free interest rate of 4.39%; dividend
yield of 0%; volatility factors of the expected market price of common stock of
116.75%; and an expected life of five years (statutory term).  The
Company recorded and issued these warrants in January 2008.





2007 Spring
Offering. From
June 13, 2007 through June 26, 2007, the Company conducted a private
offering (the “Spring 2007 Offering”) of up to $550,000 aggregate face amount of
its convertible notes (the “Spring 2007 Notes”) with a small number of
accredited investors. Of this amount, $451,000 aggregate face amount of the
Spring 2007 Notes were sold for an aggregate purchase price of $410,000 net
proceeds. Therefore, while the stated interest rate on the Spring 2007 Notes is
0%, the implied interest rate on the Spring 2007 Notes is 10%. The Spring 2007
Notes mature on the first anniversary of their date of issuance. The Spring 2007
Notes are convertible, at the option of the noteholders, into shares of common
stock of the Company (the “Conversion Shares”) at an initial conversion price
equal to the average of the closing bid price of the Company’s common stock for
the five trading days preceding the closing dates of the Spring 2007 Offering
(the “Conversion Prices”). On the first closing, 1,002,941 Conversion Shares are
issuable at Conversion Price of $0.34 per share. On the second closing,
207,548 conversion shares are issuable at a conversion price of $0.53 per
share. The per share price of the Company’s common stock on the Pink Sheets
during this period ranged from a low bid price (intraday) of $0.35 to a high bid
price (intraday) of $0.59.




40




Each of
the investors in the Spring 2007 Offering also received a warrant (the
“Spring 2007 Warrants”), entitling the holder to purchase a number of shares of
the Company’s common stock equal to 50% of the number of shares of common stock
into which the Spring 2007 Notes are convertible (the “Warrant Shares”). Each
Spring 2007 Warrant is exercisable on a cash basis only at an initial price of
$0.50 per share, and is exercisable immediately upon issuance and for a period
of two years from the date of issuance. A total of 605,242 Warrant Shares were
issued.  As of September 30, 2008, investors have converted $423,500
of the Convertible Notes into 1,158,602 shares of the Company’s common stock.
The outstanding balance at September 30, 2008 is $27,500.




The
aggregate value of the Spring 2007 Offering Warrants issued in connection with
the June 13, 2007 closing were valued at $59, 296 using the Black-Scholes option
valuation model with the following assumptions; risk-free interest rate of
5.11%; dividend yield of 0%; volatility factors of the expected market price of
common stock of 113.56%; and an expected life of two years (statutory term) and
vest immediately upon issuance.  The Company also determined that the
notes contained a beneficial conversion feature of $119,472.  The
value of the Spring 2007 Offering Warrants of $59,296, the conversion option of
$119,472, and the transaction fees of $31,000 are considered as debt discount
and are being amortized over the life of the Note.





The
aggregate value of the Spring 2007 Offering Warrants issued in connection with
the June 26, 2007 closing were valued at $19, 580 using the Black-Scholes option
valuation model with the following assumptions; risk-free interest rate of
5.11%; dividend yield of 0%; volatility factors of the expected market price of
common stock of 117.65%; and an expected life of two years (statutory term) and
vest immediately upon issuance.  The Company also determined that the
notes contained a beneficial conversion feature of $21,655.  The value
of the Spring 2007 Offering Warrants of $19,580, the conversion option of
$21,655 and the transaction fees of $112,500 are considered as debt discount and
are being amortized over the life of the Note.





2007 Summer
Offering.From August 8, 2007
through September 27, 2007, the Company conducted a private offering (the
"Summer 2007 Offering") of up to $330,000 aggregate face amount of its
convertible notes (the "Summer 2007 Notes") with a small number of accredited
investors. Of this amount, $309,980 aggregate face amount of the Summer 2007
Notes were sold for an aggregate purchase price of $281,800 net proceeds. While
the stated interest rate on the Summer 2007 Notes is 0%, the implied interest
rate on the Summer 2007 Notes is 10%. The Summer 2007 Notes mature on the first
anniversary of their date of issuance. The Summer 2007 Notes are convertible, at
the option of the noteholder, into shares of common stock of the Company (the
"Conversion Shares") at a conversion price equal to the average of the closing
bid price of the Company's common stock for the five trading days preceding the
closing date of the Summer 2007 Offering (the "Conversion Prices"). Up to
837,784 Conversion Shares are issuable at a Conversion Price of $0.37 per
share.




Each of
the investors in the Summer 2007 Offering also received a warrant (the
"Summer 2007 Warrants"), entitling the holder to purchase a number of shares of
the Company's common stock equal to 50% of the number of shares of common stock
into which the Summer 2007 Notes are convertible (the "Warrant Shares"). Each
Summer 2007 Warrant is exercisable on a cash basis only at a price of $0.50 per
share, and is exercisable for a period of two years from the date of issuance. A
total of 418,892 Warrant Shares were issued. As of September 30, 2008, investors
have converted $309,980 of the Convertible Notes into 704,091 shares of the
Company’s common stock.   There was no outstanding balance at
September 30, 2008.




The
aggregate value of the Summer 2007 Offering Warrants issued in connection with
the September 28, 2007 closing were valued at $60,678 using the Black-Scholes
option valuation model with the following assumptions; risk-free interest rate
of 4.87%; dividend yield of 0%; volatility factors of the expected market price
of common stock of 124.83%; and an expected life of two years (statutory term)
and vest immediately upon issuance.  The Company also determined that
the notes contained a beneficial conversion feature of $69,055.  The
value of the Summer 2007 Offering Warrants of $60,678, the conversion option of
$69,055 and the transaction fees of $28,180 are considered as debt discount and
are being amortized over the life of the Note.




2007 Fall
Offering.From November 14, 2007
through December 17, 2007, the Company conducted a private offering (the "Fall
2007 Offering") of up to $1,100,000 aggregate face amount of its convertible
notes (the "Fall 2007 Notes") with a small number of accredited investors. Of
this amount, $622,600 aggregate face amount of the Fall 2007 Notes were sold for
an aggregate purchase price of $566,000 net proceeds. While the stated interest
rate on the Fall 2007 Notes is 0%, the implied interest rate on the Fall 2007
Notes is 10%. The Fall 2007 Notes mature on the first anniversary of their date
of issuance. The Fall 2007 Notes are convertible, at the option of the
noteholder, into shares of common stock of the Company (the "Conversion Shares")
at a conversion price equal to the average of the closing bid price of the
Company's common stock for the five trading days preceding the closing date of
the Fall 2007 Offering (the "Conversion Prices"). Up to 1,596,410 Conversion
Shares are issuable at a Conversion Price of $0.39 per share.





Each of
the investors in the Fall 2007 Offering also received a warrant (the "Fall
2007 Warrants"), entitling the holder to purchase a number of shares of the
Company's common stock equal to 50% of the number of shares of common stock into
which the (Fall 2007 Notes) are convertible (the "Warrant Shares"). Each Fall
2007 Warrant is exercisable on a cash basis only at a price of $0.50 per share,
and is exercisable for a period of two years from the date of issuance. Up to
796,205 Warrant Shares are initially issuable on exercise of the Fall 2007
Warrants.




41




The
aggregate value of the Fall 2007 Offering Warrants issued in connection with the
December 17, 2007 closing were valued at $95,290 using the Black-Scholes option
valuation model with the following assumptions; risk-free interest rate of
5.11%; dividend yield of 0%; volatility factors of the expected market price of
common stock of 137.25%; and an expected life of two years (statutory term) and
vest immediately upon issuance.  The Company also determined that the
notes contained a beneficial conversion feature of $63,362.  The value
of the Fall 2007 Offering Warrants of $95,290, the conversion option of $63,362,
and the transaction fees of $56,600 are considered as debt discount and are
being amortized over the life of the Note.





As of
June 30, 2008, 1,596,410 shares of the Company’s common stock were issued to
noteholders in the 2007 Fall Offering who converted and cancelled Convertible
Notes in the amount of $622,600.  There was no outstanding balance at
September 30, 2008.




2007-2008 Winter
Offering.  >From December 27, 2007 to February 29,
2008  the Company conducted an offering (the “2008 Winter Offering”)
of up to $1,000,000 aggregate face amount of its convertible notes (the “ 2008
Winter Notes”) with a small number of accredited investors.  Of this
amount, $521,400 aggregate face amount of the 2008 Winter Notes were sold for an
aggregate purchase price of $474,000 net proceeds.  Therefore, while
the stated interest rate on the 2008 Winter Notes is 0%, the implied interest
rate on the 2008 Winter Notes is 10%.  The 2008 Winter Notes mature on
the first anniversary of their date of issuance.  The 2008 Winter
Notes are convertible, at the option of the noteholder, into shares of common
stock of the Company (the “Conversion Shares”) at a conversion price equal to
the average of the closing bid price of the Company’s common stock for the five
trading days preceding the closing date of the 2008 Winter Offering (the
“Conversion Price”).  Up to $1,042,800 Conversion Shares are issuable
at a Conversion Price of $0.50 per share.





Each of
the investors in the 2008 Winter Offering received, for no additional
consideration, a warrant (the “ 2008 Winter Warrants”), entitling the holder to
purchase a number of shares of the Company’s common stock equal to 50% of the
number of shares of common stock into which the ( 2008 Winter Notes) are
convertible (the “2008 Warrant Shares”)  Each  2008 Winter
Warrant is exercisable on a cash basis only at a Price of $0.50 per share, and
is exercisable for a period of two years from the date of
issuance.  Up to 521,400 2008 Warrant Shares are initially issuable on
exercise of the 2008 Winter Warrants.  As of September 30, 2008,
investors have converted $455,400of the Convertible Notes into 910,800 shares of
the Company’s common stock.  The outstanding balance at September 30,
2008 is $66,000.





2008 Spring
Offering. On May
27, 2008,  the Company made an offering (the “2008 Spring Offering”)
with a certain investor of which, $66,000 face amount of the 2008 Spring
Note was sold for $60,000 net proceeds.  Therefore, while the stated
interest rate on the 2008 Spring Note is 0%, the implied interest rate on the
2008 Spring Note is 10%. The 2008 Spring Note will mature on the first
anniversary of the date of issuance.  The 2008 Spring Note is
convertible, at the option of the noteholder, into shares of common stock of the
Company (the “Conversion Shares”) at a conversion price equal to the average of
the closing bid price of the Company’s common stock for the five trading days
preceding the closing date of the 2008 Spring Offering (the “Conversion
Price”).  The 132,000 Conversion Shares are issuable at a Conversion
Price of $0.50 per share.




The
investor in the 2008 Spring Offering received, for no additional consideration,
a warrant (the “ 2008 Spring Warrants”), entitling the holder to purchase a
number of shares of the Company’s common stock equal to 50% of the number of
shares of common stock into which the ( 2008 Spring Notes) are convertible (the
“2008 Spring Warrant Shares”).  The 2008 Spring Warrant Shares is
exercisable on a cash basis only at a Price of $0.50 per share, and is
exercisable for a period of two years from the date of issuance.  The
66,000 2008 Spring Warrant Shares are initially issuable upon exercise of the
2008 Spring Warrants.  As of September 30, 2008, investors have
converted $66,000 of the Convertible Notes into 132,000 shares of the Company’s
common stock.  There was no outstanding balance at September 30,
2008.





2008
Summer Offering.  From July 17, 2008 to August 31,
2008,  the Company conducted an offering (the “2008 Summer Offering”)
of up to $600,000 aggregate face amount of its convertible notes “the”2008
Summer Offering) with a small number of accredited investors. Of this amount
$484,000 aggregate face amount of the 2008 Summer Notes were sold for an
aggregate purchase price of $440,000 net proceeds.  Therefore, while
the stated interest rate on the 2008 Summer Notes is 0%, the implied interest
rate on the 2008 Summer Notes is 10%.  The 2008 Summer Notes will mature on
the first anniversary of the date of issuance.  The 2008 Summer Notes
are convertible, at the option of the noteholders, into shares of common stock
of the Company (the “Conversion Shares”) at a conversion price equal to the
average of the closing bid price of the Company’s common stock for the five
trading days preceding the closing date of the 2008 Summer Offering (the
“Conversion Price”).  Up to 1,423,530 Conversion Shares are issuable
at a Conversion Price of $0.34 per share.




Each of
the investors in the 2008 Summer Offering received, for no additional
consideration, a warrant (the “ 2008 Summer Warrants”), entitling the holder to
purchase a number of shares of the Company’s common stock equal to 50% of the
number of shares of common stock into which the ( 2008 Summer Notes) are
convertible (the “2008 Summer Warrant Shares”). Each 2008 Summer Warrant is
exercisable on a cash basis only at a price of $0.50 per share, and is
exercisable for a period of two years from the date of issuance.  Up
to 711,764 2008 Summer Warrant Shares are initially issuable upon exercise of
the 2008 Summer Warrants.  As of September 30, 2008, investors have
converted $11,000 of the Convertible Notes into 32,353 shares of the Company’s
common stock.  The outstanding balance at September 30, 2008 was
$473,000.




42





In order
to fund our capital needs for the foreseeable future, including the operations
of our business, and the repayment of our outstanding Convertible Notes, we must
raise substantial additional funds.  In addition, we will require
additional funds in connection with the license and research and development
agreements with Temple University, costs associated with product development and
commercialization of the ELEKTRA technology, costs to manufacture and ship our
products, costs to design and implement an effective system of internal controls
and disclosure controls and procedures, costs of maintaining our status as a
public company by filing periodic reports with the SEC, and costs required to
protect our intellectual property. We also have substantial contractual
commitments, including without limitation salaries to our executive officers
pursuant to employment agreements, certain severance payments to former officers
and consulting fees, during the remainder of 2008 and beyond.





In light
of the Company’s financial commitments over the next several months and its
liquidity constraints, have implemented cost reduction measures in all areas of
operations, including but not limited to personnel lay-offs and/or reductions in
work, reductions in marketing and advertising, deferral of placing orders to
manufacturers of our ECO ChargR and MAG ChargR products for sale to our existing
distributors, reductions in research and development and product development of
ELEKTRA products, and reductions of certain other expenses. We intend to review
these measures on an ongoing basis and make additional decisions as may be
required





We may
continue to use our equity arrangement for some of our additional requirements
for 2008. However, the equity arrangement will not be sufficient to meet all of
our current liabilities and other obligations in 2008. Among other things, the
thin trading of our common stock may limit our ability to use the equity
arrangement without adversely affecting the price of our common stock.
Therefore, in addition to the recently-completed 2008 Summer Offering, the
Company is actively pursuing additional financing alternatives, but no
commitments have been received and, accordingly, no assurance can be given that
any financing will be available or, if available, that it will be on terms that
are satisfactory to the Company. At present, we have relatively few financing
options available to us.





Contractual
Obligations





The
following table discloses our contractual commitments for future periods.
Long-term commitments are comprised operating leases and minimum guaranteed
compensation payments under employment and other agreements. See Note 9 to Notes
to Condensed consolidated Financial Statements.


Year
      ending December 31,
            
            Operating
      Leases(1)
            
            
            Guaranteed
      Payments2008
            
            $
            22,440
            
            
            $
            109,450
      (2)2009
            
            $
            43,840
            
            
            $
            326,450
      (3)2010
            
            $
            0
            
            
            $
            125,000
      (4)$
            66,280
            
            
            $
            560,900





(1)    Consists
of rent for our Morgan Hill Facility expiring on August 31, 2009 and Los Angeles
office expiring November 30, 2008. (For description of this property, see Part
1, Item 2, “Property”).


(2)  
Consists of an aggregate $55,700 in total compensation, including base salary
and certain contractually-provided benefits, to   one executive
officer, pursuant to employment agreement that expires on July 25, 2009; and
$53,750 in Research & Development fees to Temple University.


(3)  
Consist of an aggregate of $126,450 in total compensation, including base salary
and certain contractually provided benefits to on e executive, pursuant to
employment agreement that expires on July 25, 2009; and $200,000 of license and
maintenance fees due to Temple University;


(4)  
Consists of maintenance fees due to Temple University.





License
agreements with Temple University





We have
entered into two license agreements with Temple University, one covering Temple
University’s current patent application concerning certain electric field
effects on gasoline, kerosene and diesel fuel particle size distribution, and
the other covering Temple University’s current patent application concerning
electric field effects on crude oil and edible oil viscosity, and any and all
United States and foreign patents issuing in respect of the technologies
described in such applications (individually, a “License Agreement” and
collectively, the “License Agreements”). Initially, the License Agreements are
exclusive and the territory licensed to the Company is worldwide. Pursuant to
the License Agreements, the Company will pay to Temple University
(i) license fees in the aggregate amount of $250,000, payable in three
installments of $100,000, the first installment of which was paid in March 2007,
and $75,000 on each of February 2, 2008, which has not been paid, and
February 2, 2009, respectively; and (ii) annual maintenance fees of
$125,000 annually commencing January 1, 2008, which has not been paid. In
addition, each License Agreement separately provides that the Company will pay
royalties to Temple University on net sales of products incorporating the
technology licensed under that License Agreement in an amount equal to 7% of the
first $20 million of net sales, 6% of the next $20 million of net
sales and 5% of net sales in excess of $40 million. Sales under the two
License Agreements are not aggregated for purposes of calculating the royalties
payable to Temple University. In addition, the Company has agreed to bear all
costs of obtaining and maintaining patents in any jurisdiction where the Company
directs Temple University to pursue a patent for either of the licensed
technologies. Should the Company not wish to pursue a patent in a particular
jurisdiction, that jurisdiction would not be included in the territory licensed
to the Company.




43




The
Company is in default in connection with its payment obligations under the
License Agreements.  On November 10, 2008, the
Company received written notice from TempleUniversity
of a material breach relating to required payments under theLicense
Agreements. The notice provides the Company with 60 days' notice tocure the
material breach. The Company's failure to cure could result in atermination
of the License Agreements. If the termination occurs, theCompany
estimates this would have a material adverse impact on the
Company'sfinancial
condition and operations. Under the License Agreements theCompany
is subject to a penalty of 1% per month of the amounts due andunpaid
under the License Agreements. At September 30, 2008, the
Companyestimates
the penalty to be $15,250, and has accrued this in theaccompanying
financial statements.


Research
and development agreement with Temple University





We have
also entered into a research and development agreement (“R&D Agreement”)
with Temple University to conduct further research on the ELEKTRA technology.
Under the R&D Agreement Temple University will conduct a 24-month research
project towards expanding the scope of, and developing products utilizing, the
technologies covered under the License Agreements, including design and
manufacture of prototypes utilizing electric fields to improve diesel, gasoline
and kerosene fuel injection in engines using such fuels and a device utilizing a
magnetic field to reduce crude oil viscosity for crude oil (paraffin and mixed
base) and edible oil flow in pipelines. Pursuant to the R&D Agreement, we
will make payments to Temple University in the aggregate amount of $500,000,
payable in eight non-refundable installments commencing with $123,750, which was
paid in March 2007, and seven payments of $53,750 every three months
thereafter until paid in full. The payments of $53,750 due in June, September,
December 2007, March, June and September 2008 have not been paid.  On November 10, 2008, the
Company received written notice of default fromTemple
University. The notice provides the Company with 60 days to cure thematerial
breach. The Company's failure to cure the breach could result inthe
termination of the R&D Agreement. If the termination occurs, theCompany
estimates this would have a material adverse impact on the Company'sfinancial
condition and operations.If the research project yields
results within the scope of the technologies licensed pursuant to the License
Agreements, those results will be deemed included as rights licensed to the
Company pursuant to the License Agreements. If the research project yields
results outside of the scope of the technologies covered by the License
Agreements, the Company has a six-month right of first negotiation to enter into
a new worldwide, exclusive license agreement with Temple University for the
intellectual property covered by those results.





Critical
Accounting Policies and Estimates





Our
discussion and analysis of our condensed consolidated financial condition and
results of operations is based upon our financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States of America. The preparation of these condensed consolidated
financial statements and related disclosures requires us to make estimates and
judgments that affect the reported amounts of assets, liabilities, expenses, and
related disclosure of contingent assets and liabilities. We evaluate, on an
on-going basis, our estimates and judgments, including those related to the
useful life of the assets. We base our estimates on historical experience and
assumptions that we believe to be reasonable under the circumstances, the
results of which form the basis for making judgments about the carrying values
of assets and liabilities that are not readily apparent from other sources.
Actual results may differ from these estimates.





The
methods, estimates and judgments we use in applying our most critical accounting
policies have a significant impact on the condensed consolidated results that we
report in our financial statements. The SEC considers an entity’s most critical
accounting policies to be those policies that are both most important to the
portrayal of a company’s financial condition and results of operations and those
that require management’s most difficult, subjective or complex judgments, often
as a result of the need to make estimates about matters that are inherently
uncertain at the time of estimation.. For a more detailed discussion of the
accounting policies of the Company, see Note 3 of Notes to the condensed
consolidated financial statements.





We
believe the following critical accounting policies, among others, require
significant judgments and estimates used in the preparation of our condensed
consolidated financial statements:





The
preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Certain significant estimates were made in connection with preparing our
condensed consolidated financial statements as described in Note 1 to Notes to
condensed consolidated financial statements. Actual results could differ from
those estimates





Revenue
Recognition




The
Company has adopted Staff Accounting Bulletin 104, “Revenue Recognition” and
therefore recognizes revenue based upon meeting four criteria:





●
            Persuasive
      evidence of an arrangement exists;●
            Delivery
      has occurred or services rendered;●
            The
      seller’s price to the buyer is fixed or determinable;
  and●
            Collectability
      is reasonably assured.





44




The
Company contract manufactures fixed magnetic field products and sells them to
various original equipment manufacturers in the motor vehicle and small utility
motor markets. The Company negotiates an initial contract with the customer
fixing the terms of the sale and then receives a letter of credit or full
payment in advance of shipment. Upon shipment, the Company recognizes the
revenue associated with the sale of the products to the customer.





Long-lived
assets





The
Company accounts for the impairment and disposition of long-lived assets in
accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of
Long-Lived Assets.” In accordance with SFAS No. 144, long-lived assets to
be held are reviewed for events or changes in circumstances that indicate that
their carrying value may not be recoverable. The Company periodically reviews
the carrying values of long-lived assets to determine whether or not impairment
to such value has occurred. No impairments were recorded for the three months
ended September 30, 2008. The Company recorded an impairment of approximately
$505,000 during the period from inception (February 18, 1998) through
September 30, 2008.





Stock-Based
Compensation




The
Company periodically issues stock options and warrants to employees and
non-employees in capital raising transactions, for services and for financing
costs. The Company adopted SFAS No. 123R effective January 1, 2006, and is using
the modified prospective method in which compensation cost is recognized
beginning with the effective date (a) based on the requirements of SFAS No. 123R
for all share-based payments granted after the effective date and (b) based on
the requirements of SFAS No. 123R for all awards granted to employees prior to
the effective date of SFAS No. 123R that remain unvested on the effective date.
The Company accounts for stock option and warrant grants issued and vesting to
non-employees in accordance with EITF No. 96-18: “Accounting for Equity
Instruments that are Issued to Other Than Employees for Acquiring, or in
Conjunction with Selling, Goods or Services” and EITF No. 00-18 “Accounting
Recognition for Certain Transactions involving Equity Instruments Granted to
Other Than Employees” whereas the value of the stock compensation is based upon
the measurement date as determined at either a) the date at which a performance
commitment is reached, or b) at the date at which the necessary performance to
earn the equity instruments is complete.





Recent
Accounting Pronouncements





In
December 2007, the FASB issued FASB Statement No. 141 (R), “Business
Combinations” (FAS 141(R)), which establishes accounting principles and
disclosure requirements for all transactions in which a company obtains control
over another business. Statement 141 (R) applies prospectively to business
combinations for which the acquisition date is on or after the beginning of the
first annual reporting period beginning on or after December 15, 2008. Earlier
adoption is prohibited.





In
December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in
Consolidated Financial Statements, and an amendment of ARB No. 51”. SFAS No. 160
establishes accounting and reporting standards that require that the ownership
interests in subsidiaries held by parties other than the parent be clearly
identified, labeled, and presented in the consolidated statement of financial
position within equity, but separate from the parent’s equity; the amount of
consolidated net income attributable to the parent and to the noncontrolling
interest be clearly identified and presented on the face of the consolidated
statement of income; and changes in a parent’s ownership interest while the
parent retains its controlling financial interest in its subsidiary be accounted
for consistently. SFAS No. 160 also requires that any retained noncontrolling
equity investment in the former subsidiary be initially measured at fair value
when a subsidiary is deconsolidated. SFAS No. 160 also sets forth the disclosure
requirements to identify and distinguish between the interests of the parent and
the interests of the noncontrolling owners. SFAS No. 160 applies to all entities
that prepare consolidated financial statements, except not-for-profit
organizations, but will affect only those entities that have an outstanding
noncontrolling interest in one or more subsidiaries or that deconsolidate a
subsidiary. SFAS No. 160 is effective for fiscal years, and interim periods
within those fiscal years, beginning on or after December 15, 2008. Earlier
adoption is prohibited. SFAS No. 160 must be applied prospectively as of the
beginning of the fiscal year in which it is initially applied, except for the
presentation and disclosure requirements. The presentation and disclosure
requirements are applied retrospectively for all periods presented.





In March
2008, the FASB issued SFAS No. 161, “Disclosures about Derivative
Instruments and Hedging Activities—an amendment of FASB Statement No. 133,”
(SFAS No.161). SFAS No.161 requires enhanced disclosures about an entity’s
derivative and hedging activities, including (i) how and why an entity uses
derivative instruments, (ii) how derivative instruments and related hedged
items are accounted for under SFAS No. 133, and (iii) how derivative
instruments and related hedged items affect an entity’s financial position,
financial performance, and cash flows. This standard becomes effective for
financial statements issued for fiscal years and interim periods beginning after
November 15, 2008. Earlier adoption of SFAS 161 and, separately, comparative
disclosures for earlier periods at initial adoption are encouraged. As SFAS
No.161 only requires enhanced disclosures, this standard will have no impact on
the Financial Statements





The
Company does not believe that the adoption of the above recent pronouncements
will have a material effect on the Company’s consolidated results of operations,
financial position, or cash flows.




45





Item
3. Quantitative and Qualitative Disclosure about Market Risk





The
Company is a smaller reporting company and is not required to provide the
information required by this.





Item 4.
Controls and Procedures





Evaluation
of Disclosure Controls and Procedures





Our
management evaluated, with the participation of our Chief Executive Officer and
Chief Financial Officer, the effectiveness of our disclosure controls and
procedures as of the end of the period covered by this Annual Report on Form
10-KSB. Based on this evaluation, our Chief Executive Officer and Chief
Financial Officer have concluded that our disclosure controls and procedures (as
defined in Rules 13a-15(b) under the Securities Exchange Act of 1934 (the
“Exchange Act”) are not adequate 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 SEC rules and forms.





Management’s
Annual Report on Internal Control over Financial Reporting.





Internal
control over financial reporting is a process designed 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 and includes those policies and procedures that
(i) pertain to the maintenance of records that in reasonable detail accurately
and fairly reflect the transaction and dispositions of our assets; (ii) 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
(iii) 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.




Because
of its inherent limitation, internal control over financial reporting cannot
provide absolute assurance of achieving financial reporting
objectives.





Our
management is responsible for establishing and maintaining adequate internal
control over financial reporting as required in Rule 13a-15(b).  In
December 2006 our Controller retired and in January 2007 our Chief Financial
Officer retired, although our former Controller still provides certain financial
consulting services for us.  We have hired an Interim Chief Financial
Officer and a full-time Controller.  We have retained a consulting
firm and are conducting an evaluation to design and implement adequate systems
of accounting and financial statement disclosure controls. We expect to complete
this review during 2008 to comply with the requirements of the
SEC.  We believe that the ultimate success of our plan to improve
our internal control over financial reporting will require a
combination of additional financial resources, outside consulting services,
legal advice, additional personnel, further reallocation of responsibility among
various persons, and substantial additional training of those of our officers,
personnel and others, including certain of our directors such as our Chairman of
the Board and committee chairs, who are charged with implementing and/or
carrying out our plan.  It should also be noted that the design of any
system of controls and procedures is based in part upon certain assumptions
about the likelihood of future events, and there can be no assurance that any
design will succeed in achieving its stated goals under all potential future
conditions, regardless of how remote.




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




Other
than as described above, there were no changes in our internal control over
financial reporting that occurred during the period covered by this Quarterly
Report on Form 10-Q that has materially affected, or is reasonably likely to
materially affect, our internal control over financial reporting.




46





PART
II





Item 1.
Legal Proceedings




In April 2005, Jeffrey A. Muller, the Company’s former sole director and
executive officer, filed a complaint against us in the Federal District Court
for the Central District of California, seeking declaratory and injunctive
relief and alleging unfair competition in connection with a claimed prior patent
interest in the ZEFS device and stock option rights. In seeking declaratory
relief, Mr. Muller is seeking to have the patent rights in the ZEFS device
that were previously transferred to us by Mr. Muller’s bankruptcy trustee
declared null and void.




This
lawsuit brought by Mr. Muller arose out of the same claims that were the
subject of litigation in the Federal District Court for the Southern
District of New York, in which the Court entered judgment against Mr.
Muller.  Those claims are pending further
proceedings.  While we believe that we have valid claims and defenses,
there can be no assurance that an adverse result or outcome on the pending
motions or a trial of this case would not have a material adverse effect on our
financial position or cash flow.




Litigation
Involving Scottish Glen Golf Company




We are
involved in litigation with Scottish Glen Golf Company, Inc. (SGGC) doing
business as KZ Golf, Inc., the Company’s previous landlord on claims in the
aggregate amount of $104,413.   STWA does not dispute the fact
that certain amounts of unpaid past rent are due but does dispute that it owes
the aggregate of $104,413 demanded by SGGC; more than half of which are
purported “late fees” which was assessed at the rate of $100 per
day.  It is the company’s position that the late fees are void and
unenforceable and that STWA is entitled to a set-off for office space that
reverted back to SGGC.




While the
Company believes that it has valid claims and defenses, given the inherent
uncertainties of litigation, the Company cannot predict the outcome of this
matter.  Accordingly, there can be no assurance that an adverse result
or outcome of this matter would not have a material adverse effect on the
Company’s financial position or cash flow.  The Company believes that
these claims arose from acts of a related party involving a former officer and
director and his wife as a beneficial owners of SGGC.





Effective
April 30, 2008 the Company and Scottish Glen Golf Company, Inc., dba KZG settled
their pending litigation relating to the Company’s prior offices.  In
the interest of avoiding further litigation costs and expenses, the Company and
SGGC executed a “Settlement and Mutual Release Agreement effective April 30,
2008. The Company will pay SGGC the sum of $75,000, execution of which is hereby
stayed pending the following terms:





a.           Company
shall pay to SGGC the sum of $51,000 in two installments, without interest, as
follows;





(1)           $34,000
due on or before June 2, 2008 and


(2)           $17,000
due on or before July 17, 2008





b.
            The
      above payments shall be payable to SCOTTICH GLEN GOLF COMPANY, INC. dba
      KZG and wired transferred to the
latter.





c.
            In
      the event any payment listed above is not paid when due, then the total
      sum of $75,000 shall immediately be due and owing, less any payments
      actually made pursuant to the Agreement and SGGC shall be entitled to file
      the Stipulated Judgment





d.
            The
      Settlement and Mutual Release Agreement also provides for mutual general
      releases.





Upon full
and complete execution of all duties and obligations by Company under the terms
of this Agreement, and provided Paragraph c. above has not occurred, SGGC shall
cause the Complaint to be dismissed, with prejudice, as to all causes of action
and as to all parties.  The Company has recorded the accrued liability
at June 30, 2008.  On May 29, 2008, the initial payment of $34,000 was
made and on July 9, 2008, the final payment of $17,000 was made and the
Complaint was dismissed, with prejudice.





Item
1A.  Risk Factors




There
have been no material changes in the risk factors previously disclosed in Form
10-KSB we filed with the SEC on March 31, 2008.




47





Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds





Morale
Orchards Transaction




On
December 5, 2006, we entered into a Note Purchase Agreement (the “Note
Purchase Agreement”) with Morale Orchards, LLC (“Morale”). The Note Purchase
Agreement provides that Morale will purchase the Company’s one-year Convertible
Promissory Notes in the aggregate face amount of $1,225,000 (the “Morale
Notes”), and five-year Warrants (the “Morale Warrants”) to purchase shares of
our Common Stock at prices ranging from $0.70 to $0.85 per share. The aggregate
purchase price for the Morale Notes and Morale Warrants is $1,000,000.
Therefore, while the stated interest on the Morale Notes is 0%, the actual
interest rate is 22.5% because the Morale Notes are being purchased at a
discount from their face amount.





Pursuant
to the terms of the Note Purchase Agreement, Morale purchased one Morale Note in
the principal amount of $612,500 on December 5, 2006, for which it paid
$500,000 and purchased the other Morale Note in the principal amount of $612,500
on January 10, 2007, for which it paid $500,000.  The December 5,
2006 Note is convertible into 720,588 shares of our common stock and 360,294
Warrants to purchase our common stock were issued.  The January 10,
2007 Note is convertible into 875,000 shares of our common stock and 437,500
Warrants to purchase our common stock were issued.  (See “Details of
Recent Financing Transactions”).




On
January 31, 2008, a Modification and Satisfaction Agreement was entered into
between the Company, Morale Orchards, LLP and Matthews &
Partners.  (See “Details of Recent Financing
Transactions”).





2007 PIPE
Offering.




From
January 13 through April 27, 2007, the Company conducted an offering
(the “2007 PIPE Offering”), through Spencer Clarke, as exclusive placement
agent. The Company raised $400,000 gross proceeds and $352,000 net
proceeds.    Interest on the 2007 PIPE Notes, at a rate of
10% per annum, is payable quarterly. The Notes are due nine months from date of
issuance. The Notes are convertible into 571,429 shares of the Company’ Common
Stock and investors received warrants entitling the holders to purchase up to
857,144 shares of the Company’s Common Stock.




The terms
of the 2007 PIPE Offering were modified on August 29, 2007 and again on December
17, 2007.  See (“Details of Recent Financing
Transactions”)




2007 Spring
Offering.




From
June 13, 2007 through June 26, 2007, the Company conducted a private
offering (the “2007 Spring Offering”) and issued Convertible Notes in the
aggregate face amount of $451,000.  These notes were sold for an
aggregate purchase price of $410,000.  The Notes are convertible into
1,210,489 shares of the Company’s common stock and in addition, investors
received warrants entitling the holders to purchase up to 605,242 shares of the
Company’s common stock. (See “Details of Recent Financial
Transactions”)





2007
Summer Offering.




From
August 8, 2007 through September 27, 2007, the Company conducted a private
offering (the "2007 Summer Offering") and issued Convertible Notes in the
aggregate face amount $309,980.  These Notes were sold for an
aggregate purchase price of $281,800. The Notes are convertible into 837,784
shares of Company’s common stock and in addition, investors received warrants
entitling the holders to purchase up to 418,892 shares of the Company’s common
stock. (See “Details of Recent Financial Transactions”).




2007
Fall Offering.





From
November 14, 2007 through December 17, 2007 the Company conducted  a
private offering (the “2007 Fall Offering”) and issued Convertible Notes in the
aggregate face amount of $622,600.  These Notes were sold for an
aggregate purchase price of $566,000.  The Notes are convertible into
1,596,410 shares of the Company’s common stock and in addition, investors
received warrants entitling the holders to purchase up to 798,205 shares of the
Company’s common stock. (See “Details of Recent Financing
Transactions”).





2007-2008
Winter Offering





From
December 27, 2008 through February 29, 2008, the Company conducted a private
offering (the “2008 Winter Offering”) and issued Convertible Notes in the
aggregate face amount of $521,400.  These Notes were sold for an
aggregate purchase price of $474,000 net proceeds.  The Notes are
convertible into 1,042,800 shares of the Company’s common stock and in addition,
investors received warrants entitling the holders to purchase up to 521,400
shares of the Company’s common stock.  (See “Details of Recent
Financing Transactions”).





The sales
of the securities described above were made in reliance on the exemptions from
registration set forth in Section 4(2) of the Securities Act of 1933, as
amended (the “Act”), or Regulations D or S promulgated thereunder.





2008
Spring Offering





On May
27, 2008 the Company conducted a private offering (the “2008 Spring Offering”)
and issued a Convertible Note in the aggregate face amount of
$66,000.  This note was sold for an aggregate purchase price of
$60,000 net proceeds.  The Note is convertible in to 132,000 shares of
the Company’s common stock and in addition, the investor received warrants
entitling the holder to purchase up to 66,000 shares of the Company’s common
stock.  (See “Details of Recent Financing Transactions”).





2008
Summer Offering





From July
17, 2008 through August 31, 2008, the Company conducted a private offering (the
“2008 Summer Offering”) and issued Convertible Notes in the aggregate face
amount of $484,000.  These Notes were sold for an aggregate purchase
price of $440,000 net proceeds.  The Notes are convertible into
1,423,530 shares of the Company’s common stock and in addition, investors
received warrants entitling the holders to purchase up to 711,764 shares of the
Company’s common stock.  (See “Details of Recent Financing
Transactions”).




48





Other
Issuances.





In
September 2006, the Company entered into what is sometimes termed an equity
arrangement with an investment banking firm.  Under the
arrangement the Company may sell (put) shares of common stock
from time to time over a 36-month period, at a purchase price calculated at 97%
of the lowest best closing bid for the Company’s common stock for the five
trading days following the put notice for cash.  The Company may draw
up to $10,000,000. Because the price of the common stock fluctuates, the number
of shares of common stock that the Company may issue when the Company
exercises the put rights will vary, the Company does not know how many
shares will actually be issued under the put. On October 6, 2006, the
Company filed a Registration Statement which was effective October 30, 2006
which registered and made available 7,000,000 shares of common stock for
possible future draws under the line of credit.
  During
the year ended December 31, 2007 the Company drew down $ 992,055 ($912,683 net
of closing costs) and issued 1,880,421 shares of common stock.  As
of September 30, 2008 the Company has drawn down $1,372,150 ($1,262,378)
net of closing costs) of this commitment and issued 2,367,905 shares at an
average price of $0.58 per share, leaving 4,632,095 shares available under the
equity line of credit.




In August
2007, the Company issued 2,597,524 shares in connection with the exercise of
options that were originally granted to the late Edward L. Masry.





During
the year ended December 31, 2007, the Company issued 1,910,711 shares of common
stock in exchange for conversion of $526,480 of Convertible
Notes




During
the nine months ended September 30, 2008, the Company issued 7,421,896 shares of
common stock in exchange for $1,855,474 conversion of Convertible Notes and
settlement of loan and payable in accordance with the Morale Orchards-Matthews
Modification Agreement.  The Company incurred and recorded additional
non-cash interest and legal expense in the amount of $928,237.





During
the nine months ended September 30, 2008, the Company issued 3,817.329 shares of
common stock in exchange for conversion of $1,562,000 of  other
Convertible Notes.





During
the nine months ended September 30, 2008, the Company issued 7,838 shares of
common stock in exchange for consulting services in the amount of $2,900. 
Also during the nine months ended September 30, 2008, the Company issued 10,000
shares of common stock for shares issuable related to consulting services
recorded in 2007.




During
the nine months ended September 30, 2008, the Company issued 156,012 shares of
common stock for settlement of $48,979 in payables.




During
the nine months ended September 30, 2008, the Company issued 661,660 shares of
common stock for exercise of warrants for which the Company received
$330,830.




Item 3.
Defaults Upon Senior Securities





None





Item 4.
Submission of Matters to a Vote of Security Holders





None





Item 5.
Other Information





From September 8, 2008 to October 31, 2008,the Company conducted a private
offering (the"2008 Fall Offering"). On November 1, 2008, the Company
issued Convertible Notes in the aggregate face amount of $198,220. These
Notes were sold for an aggregate purchase price of $180,200 net proceeds.
The Notes are convertible into 1,321,466 shares of the Company's common
stock and in addition, investors received warrants entitling the holders
to purchase up to 660,734 shares of the Company's common stock.




On
November 10, 2008, the Company received from Temple University a written Notice
of Breach pertaining to the License Agreement and the Research and Development
Agreement.  The Company has 60 days to cure the defaults and if not
cured, Temple University may terminate the agreements.  If termination
occurs, the Company estimates this would have a material adverse impact on the
Company’s financial condition and operations.




49





Item 6.
Exhibits


Exhibit
      No.
            
            Description31.1
            
            
            Certification
      of Chief Executive Officer of Quarterly Report Pursuant to Rule
      13(a)-15(e) or Rule 15(d)-15(e)31.2
            
            
            Certification
      of Chief Financial Officer of Quarterly Report Pursuant to 18 U.S.C.
      Section 135032
            
            
            Certification
      of Chief Executive Officer and Chief Financial Officer of Quarterly Report
      pursuant to Rule 13(a)-15(e) or
  Rule 15(d)-15(e)







50







SIGNATURES




In
accordance with Section 13 or 15(d) of the Exchange Act, the Registrant has
caused this Report to be signed on its behalf by the undersigned, hereunto duly
authorized.






SAVE
      THE WORLD AIR, INC.Date:
      November 14, 2008
            By:
            /s/
      EUGENE E. EICHLEREugene
      E. EichlerInterim
      Chief Financial Officer






51


EXHIBIT
INDEX


Exhibit
      No.
            
            Description31.1
            
            
            Certification
      of Chief Executive Officer of Quarterly Report Pursuant to Rule
      13(a)-15(e) or Rule 15(d)-15(e)31.2
            
            
            Certification
      of Chief Financial Officer of Quarterly Report Pursuant to 18 U.S.C.
      Section 135032
            
            
            Certification
      of Chief Executive Officer and Chief Financial Officer of Quarterly Report
      pursuant to Rule 13(a)-15(e) or
  Rule 15(d)-15(e)