Document:

ex102convnote.htm

    Exhibit 10.2

       

      SENIOR
CONVERTIBLE NOTE

       

      NEITHER
THE ISSUANCE AND SALE OF THE SECURITIES REPRESENTED BY THIS CERTIFICATE NOR THE
SECURITIES INTO WHICH THESE SECURITIES ARE CONVERTIBLE HAVE BEEN REGISTERED
UNDER THE SECURITIES ACT OF 1933, AS AMENDED, OR APPLICABLE STATE SECURITIES
LAWS.  THE SECURITIES MAY NOT BE OFFERED FOR SALE, SOLD, TRANSFERRED
OR ASSIGNED (I) IN THE ABSENCE OF (A) AN EFFECTIVE REGISTRATION STATEMENT FOR
THE SECURITIES UNDER THE SECURITIES ACT OF 1933, AS AMENDED, OR (B) AN OPINION
OF COUNSEL, IN A FORM REASONABLY ACCEPTABLE TO THE COMPANY, THAT REGISTRATION IS
NOT REQUIRED UNDER SAID ACT OR (II) UNLESS SOLD PURSUANT TO RULE 144 OR RULE
144A UNDER SAID ACT.  NOTWITHSTANDING THE FOREGOING, THE SECURITIES
MAY BE PLEDGED IN CONNECTION WITH A BONA FIDE MARGIN ACCOUNT OR OTHER LOAN OR
FINANCING ARRANGEMENT SECURED BY THE SECURITIES.  ANY TRANSFEREE OF
THIS NOTE SHOULD CAREFULLY REVIEW THE TERMS OF THIS NOTE.  THE
PRINCIPAL AMOUNT REPRESENTED BY THIS NOTE AND, ACCORDINGLY, THE SECURITIES
ISSUABLE UPON CONVERSION HEREOF MAY BE LESS THAN THE AMOUNTS SET FORTH ON THE
FACE HEREOF PURSUANT TO SECTION 3(c)(iii) OF THIS NOTE.

       

      Aeolus
Pharmaceuticals, Inc.

       

      Senior
Convertible Note

       

      
        	
                Issuance
      Date:  August 1, 2008

              	
                Original
      Principal Amount:  U.S.
      [               ]

              

      

      

      FOR VALUE RECEIVED, Aeolus
Pharmaceuticals, Inc., a Delaware corporation (the “Company”), hereby promises to
pay to [*] or its registered assigns (“Holder”) the amount set out
above as the Original Principal Amount (as reduced pursuant to the terms hereof
due to conversion or otherwise, the “Principal”) when due, whether
upon the Maturity Date (as defined below), acceleration,  or otherwise
(in each case in accordance with the terms hereof), and to pay interest (“Interest”) on any outstanding
Principal at the rate of seven percent (7%) per annum (the “Interest Rate”), from the date
set out above as the Issuance Date (the “Issuance Date”) until the same becomes
due and payable, whether upon an Interest Date (as defined below) or the
Maturity Date, acceleration, conversion or otherwise (in each case in accordance
with the terms hereof), in lawful money of the United States.  This
Senior Convertible Note (including all Senior Convertible Notes issued in
exchange, transfer or replacement hereof, this “Note”) is one of an issue of
Senior Convertible Notes issued pursuant to Section 1 of the Securities
Purchase Agreement (as defined below) (collectively, the “Notes” and such other Senior
Convertible Notes, the “Other Notes”).  Certain
capitalized terms used herein are defined in Section 26.

       

      (1)           PAYMENTS OF
PRINCIPAL.  On the Maturity Date, the Company shall pay to the
Holder an amount in cash representing all outstanding Principal, accrued and
unpaid Interest, and accrued and unpaid Late Charges (as defined in
Section 22 below), if any, on such

       

      
        
          
             

          

           

        

        
           

          
            

          

        

        
           

        

      

      Principal
and Interest.  The “Maturity Date” shall be
January 31, 2011, as may be extended at the option of the Holder
(i) in the event that, and for so long as, an Event of Default (as defined
in Section 4(a)) shall have occurred and be continuing on the Maturity Date
(as may be extended pursuant to this Section 1) or any event that shall
have occurred and be continuing that with the passage of time and the failure to
cure would result in an Event of Default, and (ii) through the date that is
ten (10) Business Days after the consummation of a Change of Control
in the event that a Change of Control is publicly announced or a Change of
Control Notice (as defined in Section 5(b)) is delivered prior to the
Maturity Date.  Other than as specifically permitted by this Note or
as agreed to in writing by the Holder, the Company may not prepay any portion of
the outstanding Principal amount of this Note prior to the Maturity
Date.

       

      (2)           INTEREST; INTEREST
RATE.  Interest on the outstanding Principal amount of this
Note shall commence accruing on the Issuance Date and shall be computed on the
basis of a 365-day year and actual days elapsed and shall be payable
semi-annually, in arrears, on  January 31 and July 31 of each
year (each, an “Interest
Date”), with the first Interest Date being  January 31,
2009.  Interest shall be payable on each Interest Date, to the record
holder of this Note, as set forth in the Register (as defined in
Section 3(c)(iii)) on each January 15 and July 15
immediately preceding the applicable Interest Date (each, a “Record Date”), in cash or
shares of the Company’s common stock, par value $0.01 per share (“Common Stock”), at the sole
option of the Company; provided that to elect the option to pay Interest in
shares of Common Stock, the Company will have to notify the Holder in writing of
such election within three (3) Business Days after the applicable Record
Date.  In the event the Company elects to pay Interest in shares of
Common Stock, the number of shares of Common Stock to be issued shall equal the
quotient (rounded down to the nearest whole share with cash paid for fractional
shares) of (i) the amount of Interest then due and payable divided by (ii) 
the Weighted Average Price for the Common Stock over the fifteen (15)
consecutive Trading Day period ending on the fifth (5th)
Trading Day immediately preceding the applicable Interest Date.  Prior
to the payment of Interest on an Interest Date, Interest on this Note shall
accrue at the Interest Rate.  From and after the occurrence and during
the continuance of an Event of Default, the Interest Rate shall be increased to
twelve percent (12%) (the “Default Rate”).  In
the event that such Event of Default is subsequently cured, the adjustment
referred to in the preceding sentence shall cease to be effective as of the date
of such cure; provided that the Interest as calculated and unpaid at such
increased rate during the continuance of such Event of Default shall continue to
apply to the extent relating to the days after the occurrence of such Event of
Default through but not including the date of cure of such Event of
Default.

       

      (3)           CONVERSION OF
NOTES.  This Note shall be convertible into shares of the
Common Stock (as converted, the “Conversion Shares”) on the
terms and conditions set forth in this Section 3.

       

      (a)           Conversion
Right.  Subject to the provisions of Section 3(d), at any
time or times on or after the Issuance Date, the Holder shall be entitled to
convert any portion of the outstanding and unpaid Conversion Amount (as defined
below) into fully paid and nonassessable shares of Common Stock in accordance
with Section 3(c), at the Conversion Rate (as defined
below).  The Company shall not issue any fraction of a share of Common
Stock upon any conversion.  If the issuance would result in the
issuance of a fraction of a share of Common

       

      
        
          
             

          

           

        

        
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      Stock,
the Company shall round such fraction of a share of Common Stock down to the
nearest whole share.  The Company shall pay any and all taxes that may
be payable with respect to the issuance and delivery of Common Stock upon
conversion of any Conversion Amount; provided that the Company shall not be
required to pay any tax that may be payable in respect of any issuance of Common
Stock to any Person other than the converting Holder or with respect to any
income tax due by the Holder with respect to such Common Stock.

       

      (b)           Conversion
Rate.  The number of shares of Common Stock issuable upon
conversion of any Conversion Amount pursuant to Section 3(a) shall be
determined by dividing (x) such Conversion Amount by (y) the
Conversion Price (the “Conversion
Rate”).

       

      (i)           “Conversion Amount” means the
portion of the Principal to be converted or otherwise with respect to which this
determination is being made, plus, in each case, accrued and unpaid Interest and
Late Charges, if any, thereon to, but not including, the applicable Conversion
Date.

       

      (ii)           “Conversion Price” means, as of
any Conversion Date (as defined below) or other date of determination, $0.35,
subject to adjustment as provided herein.

       

      (c)           Mechanics of
Conversion.

       

      (i)           Optional
Conversion.  To convert any Conversion Amount into shares of
Common Stock on any date (a “Conversion Date”), the Holder
shall (A) transmit by email or facsimile (or otherwise deliver), for receipt on
or prior to 8:00 p.m., New York time, on such date, a copy of an executed notice
of conversion in the form attached hereto as Exhibit I (the “Conversion Notice”) to the
Company and (B) if required by Section 3(c)(iii), surrender this Note to a
common carrier for delivery to the Company as soon as practicable on or
following such date (or an indemnification undertaking with respect to this Note
in the case of its loss, theft or destruction).  On or before the
second (2nd) Trading Day following the date of receipt of a Conversion Notice,
the Company shall transmit by email or facsimile a confirmation of receipt of
such Conversion Notice to the Holder and the Company’s transfer agent (the
“Transfer
Agent”).  On or before the fourth (4th) Trading Day following
the date of receipt of a Conversion Notice (the “Share Delivery Date”), the Company shall (X)
provided that the Transfer Agent is participating in the Depository Trust
Company (“DTC”) Fast
Automated Securities Transfer Program, credit such aggregate number of shares of
Common Stock to which the Holder shall be entitled to the Holder’s or its
designee’s balance account with DTC through its Deposit Withdrawal Agent
Commission system or (Y) if the Transfer Agent is not participating in the DTC
Fast Automated Securities Transfer Program, issue and deliver to the address as
specified in the Conversion Notice, a certificate, registered in the name of the
Holder or its designee, for the number of shares of Common Stock to which the
Holder shall be entitled.  If this Note is physically surrendered for
conversion as required by Section 3(c)(iii) and the outstanding
Principal of this Note is greater than the Principal portion of the Conversion
Amount being converted, then the Company shall as soon as practicable and in no
event later than five (5) Business Days after receipt of this Note and at
its own expense, issue and deliver to the holder a new Note (in accordance with
Section 16(d)) representing the outstanding Principal not
converted.  Provided the Holder complies with the terms for conversion
set forth herein, the

       

      
        
          
             

          

           

        

        
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      Person or
Persons entitled to receive the shares of Common Stock issuable upon a
conversion of this Note shall be treated for all purposes as the record holder
or holders of such shares of Common Stock as of such time the Company actually
receives the Conversion Notice and this Note on the Conversion
Date.

       

      (ii)           Company’s Failure to Timely
Convert.   If within five (5) Trading Days after the
Company’s receipt of the facsimile copy of a Conversion Notice and the Note the
Company shall fail to issue and deliver a certificate to the Holder or credit
the Holder’s balance account with DTC for the number of shares of Common Stock
to which the Holder is entitled upon such Holder’s conversion of any Conversion
Amount (a “Conversion
Failure”), and if on or after such Trading Day the Holder purchases (in
an open market transaction or otherwise) Common Stock in a good faith
transaction with an unaffiliated third party (a “Good Faith Purchase”) to
deliver in satisfaction of a sale by the Holder of Common Stock issuable upon
such conversion that the Holder is actually entitled to receive from the Company
(a “Buy-In”), then the
Company shall, within five (5) Business Days after the Holder’s request and
in the Holder’s discretion, and after Holder provides the Company with written
evidence of such Good Faith Purchase either (i) pay cash to the Holder in
an amount equal to the Holder’s total purchase price (including documented
brokerage commissions and other out-of-pocket expenses, if any) for the shares
of Common Stock so purchased (the “Buy-In Price”), at which point
the Company’s obligation to deliver such certificate (and to issue such Common
Stock) shall terminate, or (ii) promptly honor its obligation to deliver to
the Holder a certificate or certificates representing such Common Stock and pay
cash to the Holder in an amount equal to the excess (if any) of the Buy-In Price
over the product of (A) such number of shares of Common Stock, times (B) the
Weighted Average Price on the Conversion Date.

       

      (iii)           Registration;
Book-Entry.  The Company shall maintain a register (the “Register”) for the recordation
of the names and addresses of the holders of each Note and the principal amount
of the Notes held by such holders (the “Registered
Notes”).  The entries in the Register shall be conclusive and
binding for all purposes absent manifest error.  The Company and the
holders of the Notes shall treat each Person whose name is recorded in the
Register as the owner of a Note for all purposes, including, without limitation,
the right to receive payments of Principal and Interest hereunder,
notwithstanding notice to the contrary.  A Registered Note may be
assigned or sold in whole or in part only by registration of such assignment or
sale on the Register.  Upon its receipt of a request to assign or sell
all or part of any Registered Note by a Holder, the Company shall record the
information contained therein in the Register and issue one or more new
Registered Notes in the same aggregate principal amount as the principal amount
of the surrendered Registered Note to the designated assignee or transferee
pursuant to Section 16.  Notwithstanding anything to the contrary
set forth herein, upon conversion of any portion of this Note in accordance with
the terms hereof, the Holder shall not be required to physically surrender this
Note to the Company unless (A) the full Conversion Amount represented by this
Note is being converted or (B) the Holder has provided the Company with prior
written notice (which notice may be included in a Conversion Notice) requesting
reissuance of this Note upon physical surrender of this Note.  The
Holder and the Company shall maintain records showing the Principal, Interest
and Late Charges, if any, converted and the dates of such conversions or shall
use such other method, reasonably satisfactory to the Holder and the Company, so
as not to require physical surrender of this Note upon conversion.

       

      
        
          
             

          

           

        

        
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      (iv)           Disputes.  In
the event of a dispute as to the number of shares of Common Stock issuable to
the Holder in connection with a conversion of this Note, the Company shall issue
to the Holder the number of shares of Common Stock not in dispute and resolve
such dispute in accordance with Section 21.

       

      (d)           Limitations on
Conversions.  Notwithstanding anything herein to the contrary,
the Company shall not effect any conversion of this Note, and the Holder of this
Note shall not have the right to convert any portion of this Note pursuant to
Section 3(a), to the extent that after giving effect to such conversion,
the Holder (together with the Holder’s Affiliates) would beneficially own in
excess of 9.99% (the “Maximum
Percentage”) of the number of shares of Common Stock outstanding
immediately after giving effect to such conversion, provided that such
limitation shall not affect, limit or otherwise impair the Company's ability to
satisfy any of its obligations under this Note by delivering Common Stock to the
Holder.  For purposes of the foregoing sentence, the number of shares
of Common Stock beneficially owned by the Holder and its Affiliates shall
include the number of shares of Common Stock issuable upon conversion of this
Note with respect to which the determination of such sentence is being made, but
shall exclude the number of shares of Common Stock which would be issuable upon
(A) conversion of the remaining, nonconverted portion of this Note beneficially
owned by the Holder or any of its Affiliates and (B) exercise or conversion
of the unexercised or nonconverted portion of any other securities of the
Company (including, without limitation, any Other Notes or warrants) subject to
a limitation on conversion or exercise analogous to the limitation contained
herein beneficially owned by the Holder or any of its
Affiliates.  Except as set forth in the preceding sentence, for
purposes of this Section 3(d), beneficial ownership shall be calculated in
accordance with Section 13(d) of the Securities Exchange Act of 1934, as
amended (the “Exchange
Act”).  For purposes of this Section 3(d), in determining
the number of outstanding shares of Common Stock, the Holder may rely on the
number of outstanding shares of Common Stock as reflected in (x) the
Company’s most recent Form 10-K, Form 10-Q or Form 8-K or other public filing
with the SEC, as the case may be, (y) a more recent public announcement by
the Company or (z) any other notice by the Company or the Transfer Agent
setting forth the number of shares of Common Stock outstanding.  For
any reason at any time, upon the written request of the Holder, the Company
shall within two (2) Business Days confirm in writing to the Holder the
number of shares of Common Stock then outstanding.  In any case, the
number of outstanding shares of Common Stock shall be determined after giving
effect to the conversion or exercise of securities of the Company, including
this Note, by the Holder or its Affiliates since the date as of which such
number of outstanding shares of Common Stock was reported.  By written
notice to the Company, the Holder may increase or decrease the Maximum
Percentage to any other percentage specified in such notice; provided that
(i) any such increase will not be effective until the sixty-first (61st) day
after such notice is delivered to the Company, and (ii) any such increase
or decrease will apply only to the Holder and not to any other holder of
Notes.

       

      
        
          
             

          

           

        

        
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      (4)           RIGHTS
UPON EVENT OF DEFAULT.

       

      (a)           Event of
Default.  Each of the following events shall constitute an
“Event of
Default”:

       

      (i)           the
suspension from trading or failure of the Common Stock to be listed on an
Eligible Market for a period of five (5) consecutive Trading Days or for
more than an aggregate of twenty (20) Trading Days in any 365-day
period;

       

      (ii)           the
Company’s (A) failure to cure a Conversion Failure by delivery of the required
number of shares of Common Stock within ten (10) Business Days after the
applicable Conversion Date or (B) notice, written or oral, to any holder of the
Notes, including by way of public announcement or through any of its agents, at
any time, of its intention not to comply with a request for conversion of any
Notes into shares of Common Stock that is tendered in accordance with the
provisions of the Notes;

       

      (iii)           at
any time following the twentieth (20th)
consecutive Business Day that the Holder’s Authorized Share Allocation (as
defined in Section 10(a) below) is less than the number of shares of
Common Stock that the Holder would be entitled to receive upon a conversion of
the full Conversion Amount of this Note (without regard to any limitations on
conversion set forth in Section 3(d) or otherwise);

       

      (iv)           the
Company’s failure to satisfy any amount of Principal, Interest, Late Charges or
other amounts when and as due under this Note (after giving effect to any grace
period therefore agreed to by the Holder in writing), except, in the case of a
failure to pay Interest and Late Charges when and as due, in which case only if
such failure continues for a period of at least five (5) Business
Days;

       

      (v)           the
Company or any of its Subsidiaries shall (i) fail to pay, when due, or
within any applicable grace period, any payment with respect to any Indebtedness
in excess of $100,000, individually or in the aggregate, due to any third party,
other than payments contested by the Company in good faith by proper proceedings
and with respect to which adequate reserves have been set aside for the payment
thereof in accordance with GAAP, or otherwise be in breach or violation of any
agreement for monies owed or owing in an amount in excess of $100,000,
individually or in the aggregate, which breach or violation permits the other
party thereto to accelerate amounts due thereunder.

       

      (vi)           the
Company or any of its Subsidiaries, pursuant to or within the meaning of Title
11, U.S. Code, or any similar Federal, foreign or state law for the relief of
debtors (collectively, “Bankruptcy Law”), (A)
commences a voluntary case, (B) consents to the entry of an order for relief
against it in an involuntary case, (C) consents to the appointment of a
receiver, trustee, assignee, liquidator or similar official (a “Custodian”), (D) makes a
general assignment for the benefit of its creditors or (E) admits in writing
that it is generally unable to pay its debts as they become due;

       

      (vii)           a
court of competent jurisdiction enters an order or decree under any Bankruptcy
Law that (A) is for relief against the Company or any of its Subsidiaries
in

       

      
        
          
             

          

           

        

        
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      an
involuntary case, (B) appoints a Custodian of the Company or any of its
Subsidiaries or (C) orders the liquidation of the Company or any of its
Subsidiaries;

       

      (viii)                      a
final judgment or judgments for the payment of money aggregating in excess of
$100,000 are rendered against the Company or any of its Subsidiaries and which
judgments are not, within sixty (60) days after the entry thereof, bonded,
discharged or stayed pending appeal, or are not discharged within
sixty (60) days after the expiration of such stay, provided, however, that
any judgment which is covered by insurance or an indemnity from a credit worthy
party shall not be included in calculating the $100,000 amount set forth
above;

       

      (ix)           the
Company breaches any material covenant or any material representation or
warranty under this Note or the Securities Purchase Agreement, except, in the
case of a breach of a covenant which is curable, only if such breach continues
for a period of at least ten (10) consecutive Business Days; provided,
however, that the foregoing cure period shall not apply with respect to the
breach or failure to comply with clause (a), (c), (d), (e) or (f) of
Section 12 of this Note; or

       

      (x)           any
Event of Default (as defined in the Other Notes) occurs with respect to any
Other Notes.

       

      (b)           Remedies upon an Event of
Default.  Upon the occurrence of an Event of Default of the
type specified in Section 4(a)(vi) or 4(a)(vii) above (each, a
“Bankruptcy Event of
Default”), this Note shall immediately become due and payable without
notice, and the Company shall as promptly as practicable, but in any event
within one (1) Business Day after the Company has written notice or
actual knowledge of the occurrence of such Event of Default, deliver written
notice thereof via facsimile or e-mail and overnight courier (an “Event of Default Notice”) to
the Holder.  In connection with a Bankruptcy Event of Default, the
Company shall pay to the Holder in cash the sum of (i) all outstanding
Principal of this Note, plus
(ii) accrued and unpaid Interest thereon, plus
(iii) accrued and unpaid Late Charges, if any.  Upon the
occurrence of any Event Default other than a Bankruptcy Event of Default, the
Company shall within two (2) Business Days deliver an Event of Default
Notice via facsimile or e-mail and overnight courier to the
Holder.  At any time after the earlier of the Holder’s receipt of an
Event of Default Notice for other than a Bankruptcy Event of Default and the
Holder gives written notice to the Company of an Event of Default, the Holder,
in its sole discretion, may by written notice to the Company declare this Note
to be immediately due and payable (the “Acceleration
Notice”).  Provided such an Event of Default has occurred,
immediately following the Company’s receipt an Acceleration Notice, the Company
shall pay to the Holder in cash the sum of (i) the product of all
outstanding Principal multiplied by 115%
(the “Default Premium”),
plus
(ii) accrued and unpaid Interest thereon, plus
(iii) accrued and unpaid Late Charges, if any.  The parties
hereto agree that in the event of the Company’s acceleration of the Principal of
this Note under this Section 4(b), the Holder’s damages would be uncertain
and difficult to estimate because of the parties’ inability to predict future
interest rates and the uncertainty of the availability of a suitable substitute
investment opportunity for the Holder.  Accordingly, any Default
Premium due under this Section 4(b) is intended by the parties to be, and
shall be deemed, a reasonable estimate of the Holder’s actual loss of its
investment opportunity and not as a penalty.

       

      
        
          
             

          

           

        

        
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      (5)           RIGHTS
UPON FUNDAMENTAL TRANSACTION AND CHANGE OF CONTROL.

       

      (a)           Assumption.  The
Company shall not enter into or be party to a Fundamental Transaction unless
(i) the Successor Entity assumes in writing all of the obligations of the
Company under this Note and the other Transaction Documents (as defined in the
Securities Purchase Agreement) in accordance with the provisions of this
Section 5(a) pursuant to written agreements in form and substance
reasonably satisfactory to the Required Holders and approved by the Required
Holders prior to such Fundamental Transaction, including agreements to deliver
to each holder of Notes in exchange for such Notes a security of the Successor
Entity evidenced by a written instrument substantially similar in form and
substance to the Notes, including, without limitation, having a principal amount
and interest rate equal to the principal amounts then outstanding and the
interest rates of the Notes held by such holder, having similar conversion
rights as the Notes and having similar ranking to the Notes, and reasonably
satisfactory to the Required Holders and (ii) the Successor Entity
(including its Parent Entity) is a publicly traded corporation whose common
stock is quoted on or listed for trading on an Eligible Market.  Upon
the occurrence of any Fundamental Transaction, the Successor Entity shall
succeed to, and be substituted for (so that from and after the date of such
Fundamental Transaction, the provisions of this Note referring to the “Company”
shall refer instead to the Successor Entity), and may exercise every right and
power of the Company and shall assume all of the obligations of the Company
under this Note with the same effect as if such Successor Entity had been named
as the Company herein.  Upon consummation of the Fundamental
Transaction, the Successor Entity shall deliver to the Holder confirmation that
there shall be issued upon conversion of this Note at any time after the
consummation of the Fundamental Transaction, in lieu of the shares of the
Company’s Common Stock (or other securities, cash, assets or other property)
issuable upon the conversion of the Notes prior to such Fundamental Transaction,
such shares of the publicly traded common stock (or their equivalent) of the
Successor Entity (including its Parent Entity), as adjusted in accordance with
the provisions of this Note.  The provisions of this
Section shall apply similarly and equally to successive Fundamental
Transactions and shall be applied without regard to any limitations on the
conversion of this Note.

       

      (b)           Notice.  No
sooner than twenty (20) days nor later than fifteen (15) days prior to the
consummation of a Change of Control, but not prior to the public announcement of
such Change of Control, the Company shall deliver written notice thereof via
facsimile and overnight courier to the Holder (a “Change of Control Notice”).

       

      (6)           RIGHTS UPON ISSUANCE OF
CORPORATE EVENTS.  In addition to and not in substitution for
any other rights hereunder, prior to the consummation of any Fundamental
Transaction pursuant to which holders of shares of Common Stock are entitled to
receive securities or other assets with respect to or in exchange for shares of
Common Stock (a “Corporate
Event”), the Company shall make appropriate provision to insure that the
Holder will thereafter have the right to receive upon a conversion of this Note,
(i) in addition to the shares of Common Stock receivable upon such
conversion, such securities or other assets to which the Holder would have been
entitled with respect to such shares of Common Stock had such shares of Common
Stock been held by the Holder upon the consummation of such Corporate Event
(without taking into account any limitations or restrictions on the
convertibility

       

      
        
          
             

          

           

        

        
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      of this
Note) or (ii) in lieu of the shares of Common Stock otherwise receivable
upon such conversion, such securities or other assets received by the holders of
shares of Common Stock in connection with the consummation of such Corporate
Event in such amounts as the Holder would have been entitled to receive had this
Note initially been issued with conversion rights for the form of such
consideration (as opposed to shares of Common Stock) at a conversion rate for
such consideration commensurate with the Conversion Rate.  Provision
made pursuant to the preceding sentence shall be in a form and substance
reasonably satisfactory to the Required Holders.  The provisions of
this Section shall apply similarly and equally to successive Corporate
Events and shall be applied without regard to any limitations on the conversion
of this Note.

       

      (7)           RIGHTS UPON ISSUANCE OF
OTHER SECURITIES.

       

      (a)           Adjustment of Conversion
Price upon Subdivision or Combination of Common Stock.  If the
Company at any time on or after the Subscription Date subdivides (by any stock
split, stock dividend, recapitalization or otherwise) one or more classes of its
outstanding shares of Common Stock into a greater number of shares, the
Conversion Price in effect immediately prior to such subdivision will be
proportionately reduced.  If the Company at any time on or after the
Subscription Date combines (by combination, reverse stock split or otherwise)
one or more classes of its outstanding shares of Common Stock into a smaller
number of shares, the Conversion Price in effect immediately prior to such
combination will be proportionately increased. Any adjustment under this Section
7(a) shall become effective at the close of business on the date the subdivision
or combination becomes effective.

       

      (b)           Other
Events.  If any event occurs of the type contemplated by the
provisions of Section 7(a) but not expressly provided for by such
provisions (including, without limitation, the granting of stock appreciation
rights, phantom stock rights or other rights with equity features, excluding
Excluded Securities), then the Company’s board of directors will make an
appropriate adjustment in the Conversion Price so as to protect the rights of
the Holder under this Note; provided that no such adjustment will increase the
Conversion Price except as otherwise determined pursuant to this
Note.

       

      (c)           De Minimis
Adjustments.  No adjustment in the Conversion Price shall be
required unless such adjustment would require an increase or decrease of at
least $0.01 in such price; provided, however, that any adjustment which by
reason of this Section 7(c) is not required to be made shall be
carried forward and taken into account in any subsequent adjustments under this
Section 7.  All calculations under this Section 7 shall be
made by the Company in good faith and shall be made to the nearest cent or to
the nearest one hundredth of a share, as applicable, provided that the Company
shall not be required to issue any fractional shares pursuant to this
Note.  No adjustment need be made for a change in the par value or no
par value of the Company’s Common Stock.

       

      (8)           UNSECURED OBLIGATION; NO
SINKING FUND.  This Note and the Other Notes are unsecured
obligations of the Company and no sinking fund or reserve has been established
to pay the Principal of this Note or the principal amount of the Other
Notes.

       

      
        
          
             

          

           

        

        
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      (9)           NONCIRCUMVENTION.  The
Company hereby covenants and agrees that the Company will not, by amendment of
its Certificate of Incorporation, Bylaws or through any reorganization, transfer
of assets, consolidation, merger, scheme of arrangement, dissolution, issue or
sale of securities, or any other voluntary action, avoid or seek to avoid the
observance or performance of any of the terms of this Note, and will at all
times in good faith carry out all of the provisions of this Note and take all
action as it reasonably believes may be required to protect the rights of the
Holder of this Note in accordance with the terms of this Note.

       

      (10)           RESERVATION OF AUTHORIZED
SHARES.

       

      (a)           Reservation.  The
Company shall initially reserve out of its authorized and unissued Common Stock
a number of shares of Common Stock for the Notes equal to 105% of the Conversion
Rate with respect to the Conversion Amount of each all such Notes as of the
Issuance Date.  So long
as any of the Notes are outstanding, the Company shall take all action necessary
to reserve and keep available out of its authorized and unissued Common Stock,
solely for the purpose of effecting the conversion of the Notes, 105% of the
number of shares of Common Stock as shall from time to time be necessary to
effect the conversion of all of the Notes then outstanding; provided that at no
time shall the number of shares of Common Stock so reserved be less than the
number of shares required to be reserved by the previous sentence (without
regard to any limitations on conversions) (the “Required Reserve
Amount”).  The initial number of shares of Common Stock
reserved for conversions of the Notes and each increase in the number of shares
so reserved shall be allocated pro rata among the holders of the Notes based on
the principal amount of the Notes held by each holder thereof at the Initial
Closing (as defined in the Securities Purchase Agreement) or increase in the
number of reserved shares, as the case may be (the “Authorized Share
Allocation”).  In the event that a holder shall sell or
otherwise transfer any of such holder’s Notes, each transferee shall be
allocated a pro rata portion of such holder’s Authorized Share
Allocation.  Any shares of Common Stock reserved and allocated to any
Person which ceases to hold any Notes shall be allocated to the remaining
holders of Notes, pro rata based on the principal amount of the Notes then held
by such holders.

       

      (b)           Insufficient Authorized
Shares.  If at any time while any of the Notes remain
outstanding the Company does not have a sufficient number of authorized and
unreserved shares of Common Stock to satisfy its obligation to reserve for
issuance upon conversion of the Notes at least a number of shares of Common
Stock equal to the Required Reserve Amount (an “Authorized Share Failure”),
then the Company shall immediately take all action necessary to increase the
Company’s authorized shares of Common Stock to an amount sufficient to allow the
Company to reserve the Required Reserve Amount for the Notes then
outstanding.  Without limiting the generality of the foregoing
sentence, as soon as practicable after the date of the occurrence of an
Authorized Share Failure, but in no event later than seventy-five (75) days
after the occurrence of such Authorized Share Failure, the Company shall hold a
meeting of its stockholders or otherwise obtain written consent from its
stockholders without a meeting for the approval of an increase in the number of
authorized shares of Common Stock.  In connection with such meeting or
written consent, the Company shall provide each stockholder with a proxy
statement or written information statement (which such proxy or information
statement shall include all of the information specified in Schedule 14C in
accordance with Rule 14c-2 promulgated under the Exchange Act), in each
case as may be

       

      
        
          
             

          

           

        

        
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      amended
or restated from time to time, and shall use its best efforts to solicit its
stockholders’ approval of such increase in authorized shares of Common Stock and
to cause its board of directors to recommend to the stockholders that they
approve such proposal.

       

      (11)           NOTE HOLDER NOT DEEMED A
STOCKHOLDER .  Except as otherwise specifically provided
herein, the Holder, solely in such Person’s capacity as a holder of this Note,
shall not be entitled to vote or receive dividends or be deemed the holder of
share capital of the Company for any purpose, nor shall anything contained in
this Note be construed to confer upon the Holder, solely in such Person’s
capacity as the Holder of this Note, any of the rights of a stockholder of the
Company or any right to vote, give or withhold consent to any corporate action
(whether any reorganization, issue of stock, reclassification of stock,
consolidation, merger, conveyance or otherwise), receive notice of meetings,
receive dividends or subscription rights, or otherwise, prior to the issuance to
the Holder of the Conversion Shares which such Person is then entitled to
receive upon the due conversion of this Note.  In addition, nothing
contained in this Note shall be construed as imposing any liabilities on the
Holder to purchase any securities (upon conversion of this Note or otherwise) or
as a stockholder of the Company, whether such liabilities are asserted by the
Company or by creditors of the Company.

       

      (12)           COVENANTS.

       

      (a)           Rank.                      This
Note is an unsubordinated obligation of the Company and all payments due under
this Note (A) shall rank pari passu with all Other
Notes and the Convertible Promissory Note issued on February 8, 2007 by the
Company to Elan Pharma International Limited, and (B) shall not be
subordinated to any other Indebtedness of the Company.

       

      (b)           Disclosure of Operating
Results.  Commencing with the Fiscal Quarter ending
June 30, 2008, the Company shall use commercially reasonable efforts to
publicly disclose and disseminate its operating results (the “Operating Results”)
(x) for each of the first three Fiscal Quarters of each fiscal year no
later than the forty-fifth (45th) day
after the end of such Fiscal Quarter and (y) for the fourth Fiscal Quarter
of each fiscal year, no later than the ninetieth (90th) day
after the end of such Fiscal Quarter, and shall file its Operating Results with
SEC for the first three Fiscal Quarters of each fiscal year a part of a
Quarterly Report on Form 10-Q or Form 10-QSB, as applicable, and for the
fiscal year as  part of an Annual Report on Form 10-K or
Form 10-KSB, as applicable (provided that such deadlines shall be subject
to extension as permitted under the Exchange Act and the rules and regulations
of the SEC promulgated thereunder).

       

      (c)           Equity
Issuances.  The Company shall not, and shall cause its
subsidiaries not to, issue any Convertible Securities, Options, Common Stock,
shares of preferred stock of the Company, shares of any class of capital stock
of its subsidiaries, any securities, warrants, options, rights or other
instruments exchangeable, exercisable or convertible for or into shares of any
class of capital stock of any of the Company’s subsidiaries, or any other
security or instrument representing an ownership interest in the Company or any
of its subsidiaries, in each case other than Excluded Securities, without
obtaining the prior written consent of the Required Holders.

       

      
        
          
             

          

           

        

        
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      (d)           Incurrence of
Indebtedness.  So long as this Note is outstanding, the Company
shall not, and the Company shall not permit any of its Subsidiaries to, directly
or indirectly, incur or guarantee, assume or suffer to exist any Indebtedness,
other than (i) the Indebtedness evidenced by this Note and the Other Notes
and (ii) other Permitted Indebtedness, in each case without obtaining the
prior written consent of the Required Holders.

       

      (e)           Existence of
Liens.  So long as this Note is outstanding, the Company shall
not, and the Company shall not permit any of its Subsidiaries to, directly or
indirectly, allow or suffer to exist any mortgage, lien, pledge, charge,
security interest or other encumbrance upon or in any property or assets
(including accounts and contract rights) owned by the Company or any of its
Subsidiaries (collectively, “Liens”) other than Permitted
Liens.

       

      (f)           Restricted
Payments.  The Company shall not, and the Company shall not
permit any of its Subsidiaries to, directly or indirectly, (i) redeem,
defease, repurchase, repay or make any payments in respect of, by the payment of
cash or cash equivalents (in whole or in part, whether by way of open market
purchases, tender offers, private transactions or otherwise), all or any portion
of any Indebtedness of the Company or any of its Subsidiaries, other than
(x) this Note and the Other Notes, (y) the payment of interest
and  late penalties on Permitted Indebtedness in accordance with the
terms thereof and (z) the payment of principal on Permitted Indebtedness on
or after the scheduled maturity date thereof, (ii) make any distributions
or pay any dividends with respect to any equity security of or any other equity
interest in the Company or any of its subsidiaries, provided that any subsidiary
of the Company may make distributions or pay dividends to the Company, and
provided further that the Company may repurchase equity of the Company issued to
or held by employees, officers, directors and consultants of the Company upon
termination of their employment or service with the Company, and (iii) make
investments in any Person other than the Company or a Subsidiary of the Company,
provided that any investment made by the Company in any of its Subsidiaries,
other than a Wholly Owned Subsidiary, shall be evidenced by an unsubordinated
promissory note issued by such Subsidiary to the Company for a principal amount
not less than the amount of such investment or such Subsidiary receiving such
investment shall execute and deliver a guaranty of this Note and the Other Notes
in form and substance reasonably acceptable to the Holder and the holders of the
Other Notes.

       

      (13)           PARTICIPATION.  The
Holder, as the holder of this Note, shall not be entitled to receive such
dividends paid and distributions made to the holders of Common Stock with
respect to any unconverted portion of the Principal of this Note.

       

      (14)           VOTE TO ISSUE, OR CHANGE THE
TERMS OF, NOTES.  The affirmative vote at a meeting duly called
for such purpose or the written consent without a meeting of the Required
Holders shall be required for any change or amendment to this Note or the Other
Notes.  No consideration shall be offered or paid to any holder of
Notes to amend or consent to a waiver or modification of the Notes unless the
same consideration also is offered to all of the holders of
Notes.  Notwithstanding the foregoing, without the prior written
consent of the Holder, (i) the Maturity Date of this Note shall not be
extended, (ii) the Interest Rate shall not be decreased, (iii) the
right to receive any payment hereunder that is then due and owing shall not be
reduced or waived, (iv) the Principal shall not be reduced other than in
accordance with the

       

      
        
          
             

          

           

        

        
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      terms
hereof and (v) the Conversion Price shall not be increased other than in
accordance with Section 6, 7(b) or 7(c) hereof.

       

      (15)           TRANSFER.  This
Note may be offered, sold, assigned or transferred by the Holder without the
consent of the Company, subject only to the provisions of
Section 2(f) of the Securities Purchase Agreement.

       

      (16)           REISSUANCE OF THIS
NOTE.

       

      (a)           Transfer.  If
this Note is to be transferred, the Holder shall surrender this Note to the
Company, whereupon the Company will forthwith issue and deliver upon the order
of the Holder a new Note (in accordance with Section 16(d)), registered as
the Holder may request, representing the outstanding Principal being transferred
by the Holder and, if less then the entire outstanding Principal is being
transferred, a new Note (in accordance with Section 16(d)) to the Holder
representing the outstanding Principal not being transferred.  The
Holder and any assignee, by acceptance of this Note, acknowledge and agree that,
by reason of the provisions of Section 3(c)(iii) following conversion
of any portion of this Note, the outstanding Principal represented by this Note
may be less than the Principal stated on the face of this Note.

       

      (b)           Lost, Stolen or Mutilated
Note.  Upon receipt by the Company of evidence reasonably
satisfactory to the Company of the loss, theft, destruction or mutilation of
this Note, and, in the case of loss, theft or destruction, of any
indemnification undertaking by the Holder to the Company in customary form and,
in the case of mutilation, upon surrender and cancellation of this Note, the
Company shall execute and deliver to the Holder a new Note (in accordance with
Section 16(d)) representing the outstanding Principal.

       

      (c)           Note Exchangeable for
Different Denominations.  This Note is exchangeable, upon the
surrender hereof by the Holder at the principal office of the Company, for a new
Note or Notes (in accordance with Section 16(d) and in principal
amounts of at least $250,000) representing in the aggregate the outstanding
Principal of this Note, and each such new Note will represent such portion of
such outstanding Principal as is designated by the Holder at the time of such
surrender.

       

      (d)           Issuance of New
Notes.  Whenever the Company is required to issue a new Note
pursuant to the terms of this Note, such new Note (i) shall be of like
tenor with this Note, (ii) shall represent, as indicated on the face of
such new Note, the Principal remaining outstanding (or in the case of a new Note
being issued pursuant to Section 16(a) or Section 16(c), the
Principal designated by the Holder which, when added to the principal
represented by the other new Notes issued in connection with such issuance, does
not exceed the Principal remaining outstanding under this Note immediately prior
to such issuance of new Notes), (iii) shall have an issuance date, as
indicated on the face of such new Note, which is the same as the Issuance Date
of this Note, (iv) shall have the same rights and conditions as this Note,
and (v) shall represent accrued and unpaid Interest and Late Charges on the
Principal and Interest of this Note, if any, from the Issuance
Date.

       

      
        
          
             

          

           

        

        
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      (17)           REMEDIES, CHARACTERIZATIONS,
OTHER OBLIGATIONS, BREACHES AND INJUNCTIVE RELIEF.  The
remedies provided in this Note shall be cumulative and in addition to all other
remedies available under this Note and any of the other Transaction Documents at
law or in equity (including a decree of specific performance and/or other
injunctive relief), and nothing herein shall limit the Holder’s right to pursue
any actual damages for any failure by the Company to comply with the terms of
this Note.  Amounts set forth or provided for herein with respect to
payments, conversion and the like (and the computation thereof) shall be the
amounts to be received by the Holder and shall not, except as expressly provided
herein, be subject to any other obligation of the Company (or the performance
thereof).  The Company acknowledges that a breach by it of its
obligations hereunder may cause irreparable harm to the Holder and that the
remedy at law for any such breach may be inadequate.  The Company
therefore agrees that, in the event of any such breach or threatened breach, the
Holder shall be entitled, in addition to all other available remedies, to an
injunction restraining any breach, without the necessity of showing economic
loss and without any bond or other security being required.

       

      (18)           PAYMENT OF COLLECTION,
ENFORCEMENT AND OTHER COSTS.  If (a) this Note is placed
in the hands of an attorney for collection or enforcement or is collected or
enforced through any legal proceeding or the Holder otherwise takes action to
collect amounts due under this Note or to enforce the provisions of this Note or
(b) there occurs any bankruptcy, reorganization, receivership of the
Company or other proceedings affecting Company creditors’ rights and involving a
claim under this Note, then the Company shall pay the reasonable costs incurred
by the Holder for such collection, enforcement or action or in connection with
such bankruptcy, reorganization, receivership or other proceeding, including,
but not limited to, reasonable financial advisory fees and attorneys’ fees and
disbursements.

       

      (19)           CONSTRUCTION;
HEADINGS.  This Note shall be deemed to be jointly drafted by
the Company and all the initial holders of the Notes and shall not be construed
against any person as the drafter hereof.  The headings of this Note
are for convenience of reference and shall not form part of, or affect the
interpretation of, this Note.

       

      (20)           FAILURE OR INDULGENCE NOT
WAIVER.  No failure or delay on the part of the Holder in the
exercise of any power, right or privilege hereunder shall operate as a waiver
thereof, nor shall any single or partial exercise of any such power, right or
privilege preclude other or further exercise thereof or of any other right,
power or privilege.

       

      (21)           DISPUTE
RESOLUTION.  In the case of a dispute as to the determination
of the Weighted Average Price or the arithmetic calculation of the Conversion
Rate, the Company shall submit the disputed determinations or arithmetic
calculations via facsimile within two (2) Business Days of receipt, or deemed
receipt, of the Conversion Notice or other event giving rise to such dispute, as
the case may be, to the Holder.  If the Holder and the Company are
unable to agree upon such determination or calculation within five (5) Business
Days of such disputed determination or arithmetic calculation being submitted to
the Holder, then the Company shall, within one (1) Business Day submit via
facsimile (a) the disputed determination of the Weighted Average Price to
an independent, reputable investment bank selected by the Company and approved
by the Holder, which approval shall not be unreasonably withheld, conditioned or
delayed, or (b) the disputed arithmetic calculation of the Conversion Rate
to the

       

      
        
          
             

          

           

        

        
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      Company’s
independent, outside accountant.  The Company, at the Company’s
expense, shall use its best efforts to cause the investment bank or the
accountant, as the case may be, to perform the determinations or calculations
and notify the Company and the Holder of the results no later than ten
(10)  Business Days from the time it receives the disputed
determinations or calculations.  Such investment bank’s or
accountant’s determination or calculation, as the case may be, shall be binding
upon all parties absent demonstrable error.

       

      (22)           NOTICES;
PAYMENTS.

       

      (a)           Notices.  Whenever
notice is required to be given under this Note, unless otherwise provided
herein, such notice shall be given in accordance with Section 9(f) of the
Securities Purchase Agreement.  The Company shall provide the Holder
with prompt written notice of all actions taken pursuant to this Note, including
in reasonable detail a description of such action and the reason
therefore.  Without limiting the generality of the foregoing, the
Company will give written notice to the Holder (i) immediately upon any
adjustment of the Conversion Price, setting forth in reasonable detail, and
certifying, the calculation of such adjustment and (ii) at least ten (10)
days prior to the date on which the Company closes its books or takes a record
(A) with respect to any dividend or distribution upon the Common Stock, (B) with
respect to any pro rata subscription offer to all holders of Common Stock or (C)
for determining rights to vote with respect to any Fundamental Transaction,
dissolution or liquidation, provided in each case that such information has been
made known to the public prior to or in conjunction with such notice being
provided to the Holder.

       

      (b)           Payments.  Whenever
any payment of cash is to be made by the Company to any Person pursuant to this
Note, such payment shall be made in lawful money of the United States of America
by a check drawn on the account of the Company and sent via overnight courier
service to such Person at such address as previously provided to the Company in
writing (which address, in the case of each of the initial holders of the Notes,
shall initially be as set forth on the Schedule of Buyers attached to the
Securities Purchase Agreement); provided that the Holder may elect to receive a
payment of cash via wire transfer of immediately available funds by providing
the Company with prior written notice setting out such request and the Holder’s
wire transfer instructions, provided that the Holder shall be required to bear
any related wire transfer fees.  Whenever any amount expressed to be
due by the terms of this Note is due on any day which is not a Business Day, the
same shall instead be due on the next succeeding day which is a Business Day
and, in the case of any Interest Date which is not the date on which this Note
is paid in full, the extension of the due date thereof shall not be taken into
account for purposes of determining the amount of Interest due on such
date.  Any amount of Principal or other amounts due under this Note
which is not paid when due shall result in a late charge being incurred and
payable by the Company in an amount equal to interest on such amount at the
Default Rate from the date such amount was due until the same is paid in full
(“Late
Charge”).

       

      (23)           CANCELLATION.  After
all Principal, accrued Interest and any Late Charges owed on this Note have been
paid in full, this Note shall automatically be deemed canceled, shall be
promptly surrendered to the Company by the Holder for cancellation and shall not
be reissued.

       

      
        
          
             

          

           

        

        
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      (24)           WAIVER OF
NOTICE.  To the extent permitted by law, the Company hereby
waives demand, notice, protest and all other demands and notices in connection
with the delivery, acceptance, performance, default or enforcement of this Note
and the Securities Purchase Agreement.

       

      (25)           GOVERNING LAW; JURISDICTION; SEVERABILITY;
JURY TRIAL.  This Note shall be construed and enforced in
accor­dance with, and all questions concerning the construction, validity,
interpretation and performance of this Note shall be governed by, the internal
laws of the State of New York, without giving effect to any choice of law or
conflict of law provision or rule (whether of the State of New York or any other
jurisdictions) that would cause the application of the laws of any jurisdictions
other than the State of New York.  The Company hereby irrevocably
submits to the exclusive jurisdiction of the state and federal courts sitting in
The City of New York, Borough of Manhattan, for the adjudication of any dispute
hereunder or in connection herewith or with any transaction contemplated hereby
or discussed herein, and hereby irrevocably waives, and agrees not to assert in
any suit, action or proceeding, any claim that it is not personally subject to
the jurisdiction of any such court, that such suit, action or proceeding is
brought in an inconvenient forum or that the venue of such suit, action or
proceeding is improper.  Nothing contained herein shall be deemed to
limit in any way any right to serve process in any manner permitted by
law.  In the event that any provision of this Note is invalid or
unenforceable under any applicable statute or rule of law, then such provision
shall be deemed inoperative to the extent that it may conflict therewith and
shall be deemed modified to conform with such statute or rule of
law.  Any such provision which may prove invalid or unenforceable
under any law shall not affect the validity or enforceability of any other
provision of this Note.  Nothing contained herein shall be deemed or
operate to preclude the Holder from bringing suit or taking other legal action
against the Company in any other jurisdiction to collect on the Company’s
obligations to the Holder, to realize on any collateral or any other security
for such obligations, or to enforce a judgment or other court ruling in favor of
the Holder.  THE
COMPANY HEREBY IRREVOCABLY WAIVES ANY RIGHT IT MAY HAVE, AND AGREES NOT TO
REQUEST, A JURY TRIAL FOR THE ADJUDICATION OF ANY DISPUTE HEREUNDER OR IN
CONNECTION WITH OR ARISING OUT OF THIS NOTE OR ANY TRANSACTION CONTEMPLATED
HEREBY.

       

      (26)           CERTAIN
DEFINITIONS.  For purposes of this Note, the following terms
shall have the following meanings:

       

      (a)           “Affiliate" means
with respect to a specified Person, any other Person who or which is (a)
directly or indirectly controlling, controlled by or under common control with
the specified Person, or (b) any member, stockholder, director, officer,
manager, or comparable principal of, or relative or spouse of, the specified
Person. For purposes of this definition, “control”, “controlling”, and
“controlled” mean the right to exercise, directly or indirectly, more than fifty
percent of the voting power of the stockholders, members or owners and, with
respect to any individual, partnership, trust or other entity or association,
the possession, directly or indirectly, of the power to direct or cause the
direction of the management or policies of the controlled
entity.

       

      (b)           “Approved Stock Plan” means any
employee benefit plan which has been or hereafter is approved by the board of
directors of the Company, pursuant to which

       

      
        
          
             

          

           

        

        
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      the
Company’s securities may be issued to any employee, consultant, officer or
director for services provided to the Company.

       

      (c)           “Bloomberg” means Bloomberg
Financial Markets.

       

      (d)           “Business Day” means any day
other than Saturday, Sunday or other day on which commercial banks in The City
of New York are authorized or required by law to remain closed.

       

      (e)           “Change of Control” means any
Fundamental Transaction other than (A) any reorganization, recapitalization or
reclassification of Common Stock, in which holders of the Company’s voting power
immediately prior to such reorganization, recapitalization or reclassification
continue after such reorganization, recapitalization or reclassification to hold
publicly traded securities and, directly or indirectly, the voting power of the
surviving entity or entities necessary to elect a majority of the members of the
board of directors (or their equivalent if other than a corporation) of such
entity or entities, or (B) pursuant to a migratory merger effected solely for
the purpose of changing the jurisdiction of incorporation of the
Company.

       

      (f)           “Contingent Obligation” means,
as to any Person, any direct or indirect liability, contingent or otherwise, of
that Person with respect to any indebtedness, lease, dividend or other
obligation of another Person if the primary purpose or intent of the Person
incurring such liability, or the primary effect thereof, is to provide assurance
to the obligee of such liability that such liability will be paid or discharged,
or that any agreements relating thereto will be complied with, or that the
holders of such liability will be protected (in whole or in part) against loss
with respect thereto.

       

      (g)           “Convertible Securities” means
any stock or securities (other than Options) directly or indirectly convertible
into or exercisable or exchangeable for Common Stock.

       

      (h)           “Eligible Market” means the OTC
Bulletin Board, The New York Stock Exchange, Inc., the American Stock Exchange,
The NASDAQ Global Market, The NASDAQ Global Select Market or The NASDAQ Capital
Market.

       

      (i)           “Excluded Securities” means any
(I) Common Stock issued or issuable, directly or
indirectly:  (i) in connection with any Approved Stock Plan or
with respect to any shares of Common Stock reserved as employee shares (or for
consultants, officers or directors of the Company and its Subsidiaries) as of
the date immediately preceding the Subscription Date; (ii) upon conversion
of this Note or any Other Note or the exercise of the Warrants;
(iii) pursuant to a bona fide firm commitment underwritten public offering
with a nationally recognized underwriter which generates gross proceeds to the
Company in excess of $10,000,000 (other than an “at-the-market offering” as
defined in Rule 415(a)(4) under the Securities Act of 1933, as amended, and
“equity lines”); (iv) upon conversion of any Options or Convertible
Securities which are outstanding on the day immediately preceding the
Subscription Date, provided that the exercise or conversion price of such
Options or Convertible Securities are not reduced on or after the Subscription
Date (except in connection with recapitalizations,

       

      
        
          
             

          

           

        

        
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      reclassifications,
stock dividends, stock splits and the like); (v) in connection with any
merger, consolidation, acquisition, or similar business combination approved by
the board of directors of the Company; (vi) pursuant to any equipment loan
or leasing arrangement, real property leasing arrangement or debt financing from
a bank or similar financial institution approved by the board of directors of
the Company; (vii) to any Buyer pursuant to Section 4(m) of the
Securities Purchase Agreement; (viii) in connection with the payment of
interest, penalties, premiums or other liquidated damages on the Notes or under
any registration rights agreement of the Company in effect prior to the
Subscription Date (provided that such registration rights agreement was
disclosed to the Buyers on or prior to the Subscription Date or an exhibit to a
Current Report, Quarterly Report or Annual Report of the Company filed with the
SEC at least two (2) Business Days prior to the Subscription Date); or
(ix) upon conversion of any Series B nonredeemable convertible preferred
stock, par value $0.01 per share, of the Company (“Series B Preferred”),
outstanding as of the Subscription Date; (II) any Series B preferred issued or
issuable upon conversion of the convertible promissory note originally issued on
February 8, 2007 by the Company to Elan Pharma International Limited and
any replacements thereof (the “Elan Note”) (provided,
however, that the terms relating to the conversion of such note shall not be
materially modified and the principal amount of such note, after deducting for
amounts converted, repaid, redeemed or prepaid, shall not have been increased)
(the “Elan Note Series B
Preferred”); (III) any Common Stock issued or issuable upon conversion of
any Elan Note Series B Preferred; (IV) any warrant issued or issuable pursuant
to the terms of the Elan Note (an “Elan Warrant”); (V) any Series
B Preferred issued or issuable upon exercise of any Elan Warrant (the “Elan Warrant Series B”), (VI)
any Common Stock issued or issuable upon conversion of any Elan Warrant Series B
and (VII) this Note, any Other Note and any Warrant.

       

      (j)           “Fiscal Quarter” means each of the fiscal
quarters adopted by the Company for financial reporting purposes that correspond
to the Company’s fiscal year as of the date hereof that ends on
September 30 of each year, or such other fiscal year-end date adopted by
the Company.

       

      (k)           “Fundamental Transaction”
means any of the following transactions, in which the Company shall,
directly or indirectly, in one or more related transactions,
(i) consolidate or merge with or into (whether or not the Company is the
surviving corporation) another Person or Persons, and the holders of the
Voting Stock (not including any shares of Voting Stock held by the Person or
Persons making or party to, or associated or affiliated with the Persons making
or party to, such consolidation or merger) immediately prior to such
consolidation or merger hold or have the right to direct the voting of less than
50% of the Voting Stock or such voting securities of such other surviving Person
immediately following such transaction, or (ii) sell, assign, transfer,
convey or otherwise dispose of all or substantially all of the properties or
assets of the Company to another Person, or (iii) be the subject of a
purchase, tender or exchange offer that is accepted by the holders of more than
50% of the outstanding shares of Voting Stock (not including any shares of
Voting Stock held by the Person or Persons making or party to, or associated or
affiliated with the Persons making or party to, such purchase, tender or
exchange offer), or (iv) consummate a stock purchase agreement or other
business combination (including, without limitation, a reorganization,
recapitalization, spin-off or scheme of arrangement) with another Person other
than Goodnow Capital, L.L.C., Xmark Opportunity Partners, LLC or an Affiliate of
either of the foregoing, whereby such other

       

      
        
          
             

          

           

        

        
          -18-

          
            

          

        

        
           

        

      

      Person
acquires more than 50% of the outstanding shares of Voting Stock (not including
any shares of Voting Stock held by the other Person or other Persons making or
party to, or associated or affiliated with the other Persons making or party to,
such stock purchase agreement or other business combination), or (v) be the
subject of a change in ownership such that any “person” or “group” (as these
terms are used for purposes of Sections 13(d) and 14(d) of the
Exchange Act) other than Goodnow Capital, L.L.C., Xmark Opportunity Partners,
LLC or an Affiliate of either of the foregoing, is or shall become the
“beneficial owner” (as defined in Rule 13d-3 under the Exchange Act), directly
or indirectly, of 50% of the aggregate ordinary voting power represented by
issued and outstanding Common Stock.

       

      (l)           “GAAP” means United States
generally accepted accounting principles, consistently applied.

       

      (m)           “Indebtedness” of any Person
means, without duplication (i) all indebtedness for borrowed money,
(ii) all obligations issued, undertaken or assumed as the deferred purchase
price of property or services, including (without limitation) “capital leases”
in accordance with generally accepted accounting principles (other than trade
payables entered into in the ordinary course of business), (iii) all
reimbursement or payment obligations with respect to letters of credit, surety
bonds and other similar instruments, (iv) all obligations evidenced by
notes, bonds, debentures or similar instruments, including obligations so
evidenced incurred in connection with the acquisition of property, assets or
businesses, (v) all indebtedness created or arising under any conditional
sale or other title retention agreement, or incurred as financing, in either
case with respect to any property or assets acquired with the proceeds of such
indebtedness (even though the rights and remedies of the seller or bank under
such agreement in the event of default are limited to repossession or sale of
such property), (vi) all monetary obligations under any leasing or similar
arrangement which, in connection with GAAP for the periods covered thereby, is
classified as a capital lease, (vii) all indebtedness referred to in
clauses (i) through (vi) above secured by (or for which the holder of
such Indebtedness has an existing right, contingent or otherwise, to be secured
by) any mortgage, lien, pledge, charge, security interest or other encumbrance
upon or in any property or assets (including accounts and contract rights) owned
by any Person, even though the Person which owns such assets or property has not
assumed or become liable for the payment of such indebtedness, and
(viii) all Contingent Obligations in respect of indebtedness or obligations
of others of the kinds referred to in clauses (i) through
(vii) above.

       

      (n)           “Options” means any rights,
warrants or options to subscribe for or purchase shares of Common Stock or
securities convertible into or exercisable or exchangeable for Common
Stock.

       

      (o)           “Parent Entity” of a Person
means an entity that, directly or indirectly, controls the applicable Person and
whose common stock or equivalent equity security is quoted or listed on an
Eligible Market, or, if there is more than one such Person or Parent Entity, the
Person or Parent Entity with the largest public market capitalization as of the
date of consummation of the Fundamental Transaction.

       

      
        
          
             

          

           

        

        
          -19-

          
            

          

        

        
           

        

      

      (p)           “Permitted Indebtedness” means
(i) Indebtedness under this Note and the Other Notes,
(ii) Indebtedness secured by Permitted Liens, (iii) Indebtedness
existing on the Subscription Date, as set forth on Schedule 3(s) to the
Securities Purchase Agreement and Indebtedness incurred thereon, and
(iv) extensions, refinancings and renewals of any items in clauses
(ii) and (iii) above (“Refinancing Debt”), provided
that (x) the principal amount is not increased, (y) the terms of such
Indebtedness are not more burdensome upon the Company or its Subsidiaries than
the terms of the Indebtedness being extended, refinanced or renewed (the “Existing Debt”), including,
without limitation, any increase in the interest rate, any acceleration of the
amortization schedule or any decrease in the time to scheduled maturity, and
(z) to the extent the Existing Debt was not guaranteed, issued or co-issued
by one or more Subsidiaries of the Company or secured, that the related
Refinancing Debt may not be guaranteed, issued or co-issued by any such
Subsidiary of the Company  or secured.

       

      (q)           
“Permitted Liens” means
(i) any Lien for taxes not yet due or delinquent or being contested in good
faith by appropriate proceedings for which adequate reserves have been
established in accordance with GAAP, (ii) any statutory Lien arising in the
ordinary course of business by operation of law with respect to a liability that
is not yet due or delinquent, (iii) any Lien created by operation of law,
such as materialmen’s liens, mechanics’ liens and other similar liens, arising
in the ordinary course of business with respect to a liability that is not yet
due or delinquent or that are being contested in good faith by appropriate
proceedings, (iv) Liens upon or in any equipment acquired or held by the
Company or any of its Subsidiaries to secure the purchase price of such
equipment or indebtedness incurred solely for the purpose of financing the
acquisition or lease of such equipment, provided that the Lien is confined
solely to the property so acquired and improvements thereon, (v) Liens
existing on the Subscription Date, as set forth on Schedule 3(w) to the
Securities Purchase Agreement, (vi) Liens incurred in connection with the
extension, renewal or refinancing of the indebtedness secured by Liens of the
type described in clauses (i), (iv) and (v) above, provided that any
extension, renewal or replacement Lien shall be limited to the property
encumbered by the existing Lien and the principal amount of the Indebtedness
being extended, renewed or refinanced does not increase and terms of such
Indebtedness complies with the requirements for incurring “Refinancing Debt” as
described in the definition of “Permitted Indebtedness” above, (vii) Liens
securing the Company’s obligations under the Notes, (viii) leases or
subleases and licenses and sublicenses granted to others in the ordinary course
of the Company’s and its Subsidiaries’ businesses, not interfering in any
material respect with the business of the Company and its Subsidiaries taken as
a whole, (ix) Liens in favor of customs and revenue authorities arising as
a matter of law to secure payments of custom duties in connection with the
importation of goods, (ix) Liens arising from judgments, decrees or
attachments in circumstances not constituting an Event of Default under
Section 4(a)(viii), (x) Liens in favor of the Company, and
(xi) Liens incurred in connection with acquiring inventory in the ordinary
course of business.

       

      (r)           
“Person” means an
individual, a limited liability company, a partnership, a joint venture, a
corporation, a trust, an unincorporated organization, any other entity and a
government or any department or agency thereof.

       

      (s)           “Principal Market” means the
Eligible Market the Common Stock is then listed on.

       

      
        
          
             

          

           

        

        
          -20-

          
            

          

        

        
           

        

      

      (t)           “Required Holders” means the
holders of Notes representing at least fifty and one-tenth percent (50.1%) of
the aggregate principal amount of the Notes then outstanding.

       

      (u)           “SEC” means the United States
Securities and Exchange Commission.

       

      (v)           “Securities Purchase Agreement”
means that certain Securities Purchase Agreement, dated as of the Subscription
Date, by and among the Company and the investors listed on the Schedule of
Buyers attached thereto, pursuant to which the Company issued the Notes and
warrants to the initial holders, as may be amended or restated from time to
time.

       

      (w)           “Subscription Date” means
August 1, 2008.

       

      (x)           “Subsidiary” means each
“Significant Subsidiary” (as such term is defined in Rule 1-02 of Regulation S-X
of the Securities Act of 1933, as amended ) of the Company.

       

      (y)           “Successor Entity” means the
Person, which may be the Company, formed by, resulting from or surviving any
Fundamental Transaction or the Person with which such Fundamental Transaction
shall have been made, provided that if such
Person is not a publicly traded entity whose common stock or equivalent equity
security is quoted or listed for trading on an Eligible Market, Successor Entity
shall mean such Person’s Parent Entity.

       

      (z)           “Trading Day” means any day on
which the Common Stock is traded on the Principal Market, or, if the Principal
Market is not the principal trading market for the Common Stock, then on the
principal securities exchange or securities market on which the Common Stock is
then traded; provided that “Trading Day” shall not include any day on which the
Common Stock is scheduled to trade on such exchange or market for less than 4.5
hours or any day that the Common Stock is suspended from trading during the
final hour of trading on such exchange or market (or if such exchange or market
does not designate in advance the closing time of trading on such exchange or
market, then during the hour ending at 4:00:00 p.m., New York
time).

       

      (aa)           “Voting Stock” of a Person
means capital stock of such Person of the class or classes pursuant to which the
holders thereof have the general voting power to elect, or the general power to
appoint, at least a majority of the board of directors, managers or trustees of
such Person (irrespective of whether or not at the time capital stock of any
other class or classes shall have or might have voting power by reason of the
happening of any contingency).

       

      (bb)           “Warrants” has the meaning
ascribed to such term in the Securities Purchase Agreement, and shall include
all warrants issued in exchange therefor or replacement thereof.

       

      (cc)           “Weighted Average Price” means,
for any security as of any date, the dollar volume-weighted average price for
such security on the Principal Market during the period beginning at 9:30:01
a.m., New York time (or such other time as the Principal Market

       

      
        
          
             

          

           

        

        
          -21-

          
            

          

        

        
           

        

      

      publicly
announces is the official open of trading), and ending at 4:00:00 p.m., New York
time (or such other time as the Principal Market publicly announces is the
official close of trading) as reported by Bloomberg through its “Volume at
Price” functions, or, if the foregoing does not apply, the dollar
volume-weighted average price of such security in the over-the-counter market on
the electronic bulletin board for such security during the period beginning at
9:30:01 a.m., New York time (or such other time as such market publicly
announces is the official open of trading), and ending at 4:00:00 p.m., New York
time (or such other time as such market publicly announces is the official close
of trading) as reported by Bloomberg, or, if no dollar volume-weighted average
price is reported for such security by Bloomberg for such hours, the average of
the highest closing bid price and the lowest closing ask price of any of the
market makers for such security as reported in the “pink sheets”.  If
the Weighted Average Price cannot be calculated for a security on a particular
date on any of the foregoing bases, the Weighted Average Price of such security
on such date shall be the fair market value as mutually determined in good faith
by the Company and the Holder.  If the Company and the Holder are
unable to agree upon the fair market value of such security, then such dispute
shall be resolved pursuant to Section 21.  All such
determinations to be appropriately adjusted for any stock dividend, stock split,
stock combination or other similar transaction during the applicable calculation
period.

       

      (dd)           “Wholly Owned Subsidiary” means
any Subsidiary of which all of the outstanding equity securities and other
equity interests, and any options, warrants, rights or other securities
convertible, exercisable or exchangeable into or for equity securities or other
equity interests of such Subsidiary (collectively, “Equity Equivalents”), are
owned beneficially and of record by the Company, other than an immaterial amount
of equity securities, other equity interests or Equity Equivalents which may be
held or owned by employees, consultants, officers or directors of such
Subsidiary.

       

      (27)           DISCLOSURE.  Upon
receipt or delivery by the Company of any notice in accordance with the terms of
this Note, unless the Company has in good faith determined that the matters
relating to such notice do not constitute material, nonpublic information
relating to the Company or its subsidiaries on a consolidated basis, the Company
shall within two (2) Business Days after any such receipt or delivery publicly
disclose such material, nonpublic information on a Current Report on Form 8-K or
otherwise.  In the event that the Company believes that a notice it is
delivering to the Holder contains material, nonpublic information, relating to
the Company or its subsidiaries on a consolidated basis, the Company shall
indicate such to the Holder contemporaneously with delivery of such notice, and
in the absence of any such indication, the Holder shall be allowed to presume
that all matters relating to such notice do not constitute material, nonpublic
information relating to the Company or its subsidiaries on a consolidated
basis.  With respect to any such notice the Company receives from the
Holder, the Company shall indicate to the Holder in writing within one (1)
Business Day after the Company’s receipt of such notice whether the Company
believes such notice contains material, nonpublic information, relating to the
Company or its subsidiaries on a consolidated basis, and in the absence of any
such indication, the Holder shall be allowed to presume that all matters
relating to such notice do not constitute material, nonpublic information
relating to the Company or its subsidiaries on a consolidated
basis.

       

      [Signature Page
Follows]

       

      
        
          
             

          

           

        

        
          -22-

          
            

          

        

        
           

        

      

      IN
WITNESS WHEREOF, the Company has caused this Note to be duly executed as of the
Issuance Date set out above.

       

      

      
        	
                 
      

              	
                AEOLUS
      PHARMACEUTICALS, INC.

              

      

       

      

       

      
        	
                 
      

              	
                By:

              	
                /s/ Michael P.
      McManus

              	 

      

       

      
        	
                 
      

              	
                Name:

              	
                Michael
      P. McManus

              

      

       

      
        	
                 
      

              	
                Title:

              	
                Chief
      Financial Officer

              

      

       

      

      
        
          
            Signature
Page to 7% Senior Convertible Note due 2011

          

           

        

        
           

          
            

          

        

        
           

          
            EXHIBIT
I

             

          

        

      

      AEOLUS
PHARMACEUTICALS, INC.

       

      CONVERSION
NOTICE

       

      Reference
is made to the Senior Convertible Note (the “Note”) issued to the
undersigned by Aeolus Pharmaceuticals, Inc. (the “Company”).  In
accordance with and pursuant to the Note, the undersigned hereby elects to
convert the Conversion Amount (as defined in the Note) of the Note indicated
below into shares of Common Stock par value $0.01 per share (the “Common Stock”) of the Company,
as of the date specified below.  Capitalized terms used herein and not
otherwise defined shall have the respective meanings set forth in the
Note.

       

      
        	
                Date
      of Conversion:

              	 
      
	
                Aggregate
      Principal to be converted:

              	 
      
	
                Please
      confirm the following information:

              
	
                Conversion
      Amount:

              	 
      
	
                Conversion
      Price:

              	 
      
	
                Number
      of shares of Common Stock to be issued (which shall equal the Conversion
      Amount divided by the Conversion Price rounded down to the nearest whole
      share):

              	 
      
	
                Please
      issue the Common Stock into which the Note is being converted in the
      following name and to the following address:

              
	
                Issue
      to:

              	 
      
	 
      	 
      
	 
      	 
      
	
                Facsimile
      Number:

              	 
      
	
                The
      Holder represents and warrants to the Company that the Holder, together
      with the Holder’s affiliates, will not beneficially own in excess of 9.99%
      of the shares of Common Stock of the Company outstanding immediately after
      giving effect to the exercise of the Note for the number of shares of
      Common Stock of the Company to be issued pursuant to this Conversion
      Notice.

              
	
                Authorization:

              	 
      
	
                By:

              	 
      
	
                Title:

              	 
      
	
                Dated:

              	 
      
	
                Account
      Number:

              	 
      
	
                  (if
      electronic book entry transfer)

              	 
      
	
                Transaction
      Code Number:

              	 
      
	
                  (if
      electronic book entry transfer)

              	 
      

      

      
        
           

        

        
           

          
            

          

        

        
           

        

      

      ACKNOWLEDGMENT

       

      The
Company hereby acknowledges this Conversion Notice and hereby directs American
Stock Transfer and Trust Company to issue the above indicated number of shares
of Common Stock in accordance with the Irrevocable Transfer Agent Instructions
dated August 1, 2008 from the Company and acknowledged and agreed to by
American Stock Transfer and Trust Company.

       

      

      
        	
                 
      

              	
                AEOLUS
      PHARMACEUTICALS, INC.

                 

                
                  By:                ___________________      

                  Name:    ___________________

                  Title:    
      ___________________ex103warrant.htm

    EXHIBIT 10.3

       

      FORM
OF

      WARRANT

      

      NEITHER
THE ISSUANCE AND SALE OF THE SECURITIES REPRESENTED BY THIS CERTIFICATE NOR THE
SECURITIES INTO WHICH THESE SECURITIES ARE EXERCISABLE HAVE BEEN REGISTERED
UNDER THE SECURITIES ACT OF 1933, AS AMENDED, OR APPLICABLE STATE SECURITIES
LAWS.  THE SECURITIES MAY NOT BE OFFERED FOR SALE, SOLD, TRANSFERRED
OR ASSIGNED (I) IN THE ABSENCE OF (A) AN EFFECTIVE REGISTRATION STATEMENT FOR
THE SECURITIES UNDER THE SECURITIES ACT OF 1933, AS AMENDED, OR (B) AN OPINION
OF COUNSEL (WHICH COUNSEL SHALL BE SELECTED BY THE HOLDER), IN A FORM REASONABLY
ACCEPTABLE TO THE COMPANY, THAT REGISTRATION IS NOT REQUIRED UNDER SAID ACT OR
(II) UNLESS SOLD PURSUANT TO RULE 144 OR RULE 144A UNDER SAID
ACT.  NOTWITHSTANDING THE FOREGOING, THE SECURITIES MAY BE PLEDGED IN
CONNECTION WITH A BONA FIDE MARGIN ACCOUNT OR OTHER LOAN OR FINANCING
ARRANGEMENT SECURED BY THE SECURITIES. THE SECURITIES REPRESENTED BY THIS
WARRANT AND, ACCORDINGLY, THE SECURITIES ISSUABLE UPON EXERCISE HEREOF MAY BE
LESS THAN THE AMOUNTS SET FORTH ON THE FACE HEREOF.

      

      AEOLUS
PHARMACEUTICALS, INC.

      

      Warrant
To Purchase Common Stock

      

      Warrant
No.:  [    ]

      Number of
Shares of Common
Stock:  [                 ]

      Date of
Issuance: ________, 20__ (“Issuance Date”)

      

      AEOLUS
PHARMACEUTICALS, INC., a Delaware corporation (the “Company”), hereby certifies
that, for good and valuable consideration, the receipt and sufficiency of which
are hereby acknowledged,
[                                              ],
the registered holder hereof or its permitted assigns (the “Holder”), is entitled, subject
to the terms set forth below, to purchase from the Company, at the Exercise
Price (as defined below) then in effect, upon surrender of this Warrant to
Purchase Common Stock (including any Warrants to Purchase Common Stock issued in
exchange, transfer or replacement hereof, the “Warrant”), at any time or
times on or after the date hereof but not after 11:59 p.m., New York time, on
the Expiration Date (as defined below), up to
[                                    ]
(                        )
fully paid and nonassessable shares of Common Stock (as defined below) (as may be adjusted
pursuant to Section 2 or 3 hereof (the “Warrant
Shares”).  This Warrant is one of the Warrants to purchase
Common Stock (the “SPA
Warrants”) issued pursuant to Section 1 of that certain Securities
Purchase Agreement (the “Securities Purchase
Agreement”), dated as of August 1, 2008 (the “Subscription Date”), by and
among the Company, as issuer, and the investors listed on the

       

      
        
          
             

          

           

        

        
           

          
            

          

        

        
           

        

      

      Schedule
of Buyers attached thereto (the “Buyers”).  Except as
otherwise defined herein, capitalized terms in this Warrant shall have the
meanings set forth in Section 14.

       

      1.      EXERCISE OF
WARRANT.

       

      (a)              Mechanics of
Exercise.  Subject to the terms and conditions hereof
(including, without limitation, the limitations set forth in Section 1(f)), this
Warrant may be exercised by the Holder on any day on or after the date hereof,
in whole or in part, by (i) delivery of a written notice, in the form
attached hereto as Exhibit A (the “Exercise Notice”), of the
Holder’s election to exercise this Warrant and (ii) (A) payment to the
Company of an amount equal to the applicable Exercise Price multiplied by the
number of Warrant Shares as to which this Warrant is being exercised (the “Aggregate Exercise Price”) in
cash or by wire transfer of immediately available funds to an account designated
by the Company in writing on the Subscription Date (or to such other account
designated by the Company in writing by notice the Holder thereafter) or (B) by
notifying the Company that this Warrant is being exercised pursuant to a
Cashless Exercise (as defined in Section 1(d)).  The Holder shall not
be required to deliver the original Warrant in order to effect an exercise
hereunder.  Execution and delivery of the Exercise Notice with respect
to less than all of the Warrant Shares shall have the same effect as
cancellation of the original Warrant and issuance of a new Warrant evidencing
the right to purchase the remaining number of Warrant Shares.  On or
before the second (2nd)
Business Day following the date on which the Company has received each of the
Exercise Notice and the Aggregate Exercise Price (or notice of a Cashless
Exercise) (the “Exercise
Delivery Documents”), the Company shall transmit by email or facsimile an
acknowledgment of confirmation of receipt of the Exercise Delivery Documents to
the Holder and the Company’s transfer agent (the “Transfer
Agent”).  On or before the fifth (5th)  Trading Day
following the date on which the Company has received all of the Exercise
Delivery Documents (the “Share
Delivery Date”), the Company shall (X) provided that the
Transfer Agent is participating in The Depository Trust Company (“DTC”) Fast Automated
Securities Transfer Program, upon the request of the Holder, credit such
aggregate number of Warrant Shares to which the Holder is entitled pursuant to
such exercise to the Holder’s or its designee’s balance account with DTC through
its Deposit Withdrawal Agent Commission system, or (Y) if the Transfer Agent is
not participating in the DTC Fast Automated Securities Transfer Program, issue
and dispatch by overnight courier to the address as specified in the Exercise
Notice, a certificate, registered in the Company’s share register in the name of
the Holder or its designee, for the number of shares of Common Stock to which
the Holder is entitled pursuant to such exercise.  Upon receipt by the
Company of the Exercise Delivery Documents, the Holder shall be deemed for all
corporate purposes to have become the holder of record of the Warrant Shares
with respect to which this Warrant has been exercised, irrespective of the date
such Warrant Shares are credited to the Holder’s DTC account or the date of
delivery of the certificates evidencing such Warrant Shares, as the case may
be.  If this Warrant is submitted in connection with any exercise
pursuant to this Section 1(a) and the number of Warrant Shares represented by
this Warrant submitted for exercise is greater than the number of Warrant Shares
being acquired upon an exercise, then the Company shall as soon as practicable
and in no event later than five (5) Business Days after any exercise and at its
own expense, issue a new Warrant (in accordance with Section 7(d)) representing
the right to purchase the number of

       

      
        
          
             

          

           

        

        
          -2-

          
            

          

        

        
           

        

      

      Warrant
Shares purchasable immediately prior to such exercise under this Warrant, less
the number of Warrant Shares with respect to which this Warrant is
exercised.  No fractional shares of Common Stock are to be issued upon
the exercise of this Warrant, but rather the number of shares of Common Stock to
be issued shall be rounded down to the nearest whole number.  The
Company shall pay any and all transfer taxes which may be payable with respect
to the issuance and delivery of Warrant Shares upon exercise of this Warrant (for greater certainty not including any income taxes
or capital gains of the Holder or exercising holder or any liability of the
Company to withhold tax).

       

      (b)              Exercise
Price.  For purposes of this Warrant, “Exercise Price” means Fifty
Cents ($0.50), subject to adjustment as provided herein.

       

      (c)              Company’s Failure to Timely
Deliver Securities.  If within five (5) Trading Days after the
Company’s receipt of the Delivery Documents the Company shall fail to issue and
deliver a certificate to the Holder and register such shares of Common Stock on
the Company’s share register or credit the Holder’s balance account with DTC for
the number of shares of Common Stock to which the Holder is entitled upon the
Holder’s exercise hereunder, and if on or after such Trading Day the Holder
purchases (in an open market transaction or otherwise) shares of Common Stock in
a good faith transaction with an unaffiliated third party (a “Good Faith Purchase”) to
deliver in satisfaction of a sale by the Holder of shares of Common Stock
issuable upon such exercise that the Holder is actually entitled to receive from
the Company (a “Buy-In”), then the Company
shall, within five (5) Business Days after the Holder’s request and in the
Holder’s discretion, and after Holder provides the Company with written evidence
of such Good Faith Purchase either (i) pay cash to the Holder in an amount equal
to the Holder’s total purchase price (including documented brokerage commissions
and other out-of-pocket expenses, if any) for the shares of Common Stock so
purchased (the “Buy-In
Price”), at which point the Company’s obligation to deliver such
certificate (and to issue such Common Stock) shall terminate, or (ii) promptly
honor its obligation to deliver to the Holder a certificate or certificates
representing such Warrant Shares and pay cash to the Holder in an amount equal
to the excess (if any) of the Buy-In Price over the product of (A) such
number of shares of Common Stock, times (B) the Weighted Average Price on the
date of exercise.

       

      (d)              Cashless Exercise.
 Notwithstanding
anything contained herein to the contrary, at any time and from time to time on
or after the 180-day anniversary of the Issuance Date, the Holder may, in its
sole discretion, exercise this Warrant in whole or in part and, in lieu of
making the cash payment otherwise contemplated to be made to the Company upon
such exercise in payment of the Aggregate Exercise Price, elect instead to
receive upon such exercise the “Net Number” of shares of Common Stock determined
according to the following formula (a “Cashless
Exercise”):

       

      
        
          
             

          

           

        

        
          -3-

          
            

          

        

        
           

        

      

      Net Number = (A x B) - (A x
C)

       

      B

      

      For purposes of the foregoing
formula:

       

      
        	
                 
      

              	
                A=
      the total number of shares with respect to which this Warrant is then
      being exercised.

              

      

       

      
        	
                 
      

              	
                B=
      the Weighted Average Price of the shares of Common Stock over the
      fifteen (15) consecutive Trading Day period ending on the fifth
      (5th)
      Trading Day immediately preceding the date the Exercise Notice is received
      by the Company (as reported by
Bloomberg).

              

      

       

      
        	
                 
      

              	
                C=
      the Exercise Price then in effect for the applicable Warrant Shares at the
      time of such exercise.

              

      

      

      (e)              Disputes.  In
the case of a dispute as to the determination of the Exercise Price or the
arithmetic calculation of the Warrant Shares, the Company shall promptly issue
to the Holder the number of Warrant Shares that are not disputed and resolve
such dispute in accordance with Section 12.

       

      (f)              Limitations on Exercises;
Beneficial Ownership.  Notwithstanding anything herein to the
contrary, the Company shall not effect the exercise of this Warrant, and the
Holder shall not have the right to exercise this Warrant, to the extent that
after giving effect to such exercise, such Person (together with such Person’s
Affiliates) would beneficially own in excess of 9.99% (the “Maximum Percentage”) of the
shares of Common Stock outstanding immediately after giving effect to such
exercise.  For purposes of the foregoing sentence, the aggregate
number of shares of Common Stock beneficially owned by such Person and its
Affiliates shall include the number of shares of Common Stock issuable upon
exercise of this Warrant with respect to which the determination of such
sentence is being made, but shall exclude shares of Common Stock which would be
issuable upon (x) exercise of the remaining, unexercised portion of this Warrant
beneficially owned by such Person and its Affiliates and (y) exercise or
conversion of the unexercised or unconverted portion of any other securities of
the Company beneficially owned by such Person and its Affiliates (including,
without limitation, any convertible notes or convertible preferred stock or
warrants) subject to a limitation on conversion or exercise analogous to the
limitation contained herein.  Except as set forth in the preceding
sentence, for purposes of this paragraph, beneficial ownership shall be
calculated in accordance with Section 13(d) of the Securities Exchange Act of
1934, as amended (the “Exchange
Act”).  For purposes of this Warrant, in determining the number
of outstanding shares of Common Stock, the Holder may rely on the number of
outstanding shares of Common Stock as reflected in (1) the Company’s most recent
Annual Report on Form 10-K, Quarterly Report on Form 10-Q, Current Report
on Form 8-K or other public filing with the Securities and Exchange Commission
(“SEC”) as the case may
be, (2) a more recent public announcement by the Company or (3) any other notice
by the Company or the Transfer Agent setting forth the number of shares of
Common Stock outstanding.

       

      
        
          
             

          

           

        

        
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      For any
reason at any time, upon the written request of the Holder, the Company shall
within two (2) Business Days confirm in writing to the Holder the number of
shares of Common Stock then outstanding.  In any case, the number of
outstanding shares of Common Stock shall be determined after giving effect to
the conversion or exercise of securities of the Company by the Holder and its
Affiliates since the date as of which such number of outstanding shares of
Common Stock was reported.  By written notice to the Company, the
Holder may from time to time increase or decrease the Maximum Percentage to any
other percentage specified in such notice; provided that any
such increase will not be effective until the sixty-first (61st) day
after such notice is delivered to the Company.

       

      (g)              Insufficient Authorized
Shares.  If at any time while this Warrant remains outstanding
the Company does not have a sufficient number of authorized and unreserved
shares of Common Stock to satisfy its obligation to reserve for issuance upon
exercise of this Warrant at least a number of shares of Common Stock equal to
105% (the “Required Reserve
Amount”) of the number of shares of Common Stock as shall from time to
time be necessary to effect the exercise of all of this Warrant and the other
SPA Warrants then outstanding (an “Authorized Share Failure”),
then the Company shall immediately take all action necessary to increase the
Company’s authorized shares of Common Stock to an amount sufficient to allow the
Company to reserve the Required Reserve Amount for this Warrant then
outstanding.  Without limiting the generality of the foregoing
sentence, as soon as practicable after the date of the occurrence of an
Authorized Share Failure, but in no event later than ninety (90) days after the
occurrence of such Authorized Share Failure, the Company shall hold a meeting of
its stockholders or otherwise obtain written consent from its stockholders
without a meeting for the approval of an increase in the number of authorized
shares of Common Stock.  In connection with such meeting or written
consent, the Company shall provide each stockholder with a proxy statement or
written information statement (which such proxy or information statement shall
include all of the information specified in Schedule 14C in accordance with
Rule 14c-2 promulgated under the Exchange Act, in each case as may be
amended or restated from time to time), and shall use its best efforts to
solicit its stockholders’ approval of such increase in authorized shares of
Common Stock and to cause its board of directors to recommend to the
stockholders that they approve such proposal.

       

      2.      ADJUSTMENT OF EXERCISE PRICE
AND NUMBER OF WARRANT SHARES.  The Exercise Price and the
number of Warrant Shares shall be adjusted from time to time as
follows:

       

      (a)              Adjustment upon Issuance of
shares of Common Stock.  If and whenever the Company issues or
sells, or in accordance with this Section 2 is deemed to have issued or sold,
any shares of Common Stock (including the issuance or sale of shares of Common
Stock owned or held by or for the account of the Company, but excluding shares
of Common Stock issued or sold or deemed to have been issued or sold by the
Company in connection with any Excluded Securities) for a consideration per
share (the “Applicable
Price”) less than the Exercise Price in effect immediately prior to such
issuance or sale or deemed issuance or sale (the foregoing a “Dilutive Issuance”), then
immediately after such Dilutive Issuance, the Exercise Price in effect
immediately prior to

       

      
        
          
             

          

           

        

        
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      such
Dilutive Issuance shall be reduced to an amount equal to the product of (A) the
Exercise Price in effect immediately prior to such Dilutive Issuance and (B) the
quotient determined by dividing (1) the sum of (I) the product derived by
multiplying the lower of (x) the volume weighted average Closing Sale Price for
the ten (10) consecutive Trading Days immediately preceding such Dilutive
Issuance and (y) the Exercise Price in effect immediately prior to such Dilutive
Issuance (such lower amount, the “Adjustment Price”), by the
number of shares of Common Stock Deemed Outstanding immediately prior to such
Dilutive Issuance plus (II) the consideration, if any, received by the Company
upon such Dilutive Issuance, by (2) the product derived by multiplying (I) the
Adjustment Price by (II) the number of shares of Common Stock Deemed Outstanding
immediately after such Dilutive Issuance. Upon each such adjustment of the
Exercise Price pursuant to this Section 2(a), the number of Warrant Shares shall
be adjusted to the number of shares of Common Stock determined by multiplying
the Exercise Price in effect immediately prior to such adjustment by the number
of Warrant Shares acquirable upon exercise of this Warrant immediately prior to
such adjustment and dividing the product thereof by the Exercise Price resulting
from such adjustment.  In the event an adjustment is required under
this Section 2, then solely for purposes of determining the adjusted Exercise
Price under this Section 2(a), the following shall be applicable:

       

      (i)           Issuance of
Options.  If the Company grants any Options and the lowest
price per share for which one share of Common Stock is issuable upon the
exercise of any such Option or upon conversion, exercise or exchange of any
Convertible Securities issuable upon exercise of any such Option is less than
the Applicable Price, then such share of Common Stock shall be deemed to be
outstanding and to have been issued and sold by the Company at the time of the
granting or sale of such Option for such price per share.  For
purposes of this Section 2(a)(i), the “lowest price per share for which one
share of Common Stock is issuable upon exercise of such Options or upon
conversion, exercise or exchange of such Convertible Securities issuable upon
exercise of any such Option” shall be equal to the sum of the lowest amounts of
consideration (if any) received or receivable by the Company with respect to any
one share of Common Stock upon the granting or sale of the Option, upon exercise
of the Option and upon conversion, exercise or exchange of any Convertible
Security issuable upon exercise of such Option.  No further adjustment
of the Exercise Price or number of Warrant Shares shall be made upon the actual
issuance of such shares of Common Stock or of such Convertible Securities upon
the exercise of such Options or upon the actual issuance of such shares of
Common Stock upon conversion, exercise or exchange of such Convertible
Securities.

       

      (ii)           Issuance of Convertible
Securities.  If the Company in any manner issues or sells any
Convertible Securities and the lowest price per share for which one share of
Common Stock is issuable upon the conversion, exercise or exchange thereof is
less than the Applicable Price, then such share of Common Stock shall be deemed
to be outstanding and to have been issued and sold by the Company at the time of
the issuance or sale of

       

      
        
          
             

          

           

        

        
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      such
Convertible Securities for such price per share.  For the purposes of
this Section 2(a)(ii), the “lowest price per share for which one share of Common
Stock is issuable upon the conversion, exercise or exchange thereof” shall be
equal to the sum of the lowest amounts of consideration (if any) received or
receivable by the Company with respect to one share of Common Stock upon the
issuance or sale of the Convertible Security and upon conversion, exercise or
exchange of such Convertible Security.  No further adjustment of the
Exercise Price or number of Warrant Shares shall be made upon the actual
issuance of such shares of Common Stock upon conversion, exercise or exchange of
such Convertible Securities, and if any such issue or sale of such Convertible
Securities is made upon exercise of any Options for which adjustment of this
Warrant has been or is to be made pursuant to other provisions of this Section
2(a), no further adjustment of the Exercise Price or number of Warrant Shares
shall be made by reason of such issue or sale.

       

      (iii)           Change in Option Price or
Rate of Conversion.  If the purchase price provided for in any
Options, the additional consideration, if any, payable upon the issue,
conversion, exercise or exchange of any Convertible Securities, or the rate at
which any Convertible Securities are convertible into or exercisable or
exchangeable for shares of Common Stock increases or decreases at any time, the
Exercise Price and the number of Warrant Shares in effect at the time of such
increase or decrease shall be adjusted to the Exercise Price and the number of
Warrant Shares which would have been in effect at such time had such Options or
Convertible Securities provided for such increased or decreased purchase price,
additional consideration or increased or decreased conversion rate, as the case
may be, at the time initially granted, issued or sold.  For purposes
of this Section 2(a)(iii), if the terms of any Option or Convertible Security
that was outstanding as of the date of issuance of this Warrant are increased or
decreased in the manner described in the immediately preceding sentence, then
such Option or Convertible Security and the shares of Common Stock deemed
issuable upon exercise, conversion or exchange thereof shall be deemed to have
been issued as of the date of such increase or decrease.  No
adjustment pursuant to this Section 2(a) shall be made if such adjustment would
result in an increase of the Exercise Price then in effect or a decrease in the
number of Warrant Shares.

       

      (iv)           Calculation of Consideration
Received.  In case any Option is issued in connection with the
issue or sale of other securities of the Company, together comprising one
integrated transaction in which no specific consideration is allocated to such
Options by the parties thereto, the Options will be deemed to have been issued
for a consideration of $0.01.  If any shares of Common Stock, Options
or Convertible Securities are issued or sold or deemed to have been issued or
sold for cash, the consideration received therefor will be deemed to be the
gross amount

       

      
        
          
             

          

           

        

        
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      received
by the Company therefor.  If any shares of Common Stock, Options or
Convertible Securities are issued or sold for a consideration other than cash,
the amount of such consideration received by the Company will be the fair value
of such consideration, except where such consideration consists of securities,
in which case the amount of consideration received by the Company will be the
Weighted Average Price of such security on the date of receipt.  If
any shares of Common Stock, Options or Convertible Securities are issued to the
owners of the non-surviving entity in connection with any merger in which the
Company is the surviving entity, the amount of consideration therefor will be
deemed to be the fair value of such portion of the net assets and business of
the non-surviving entity as is attributable to such shares of Common Stock,
Options or Convertible Securities, as the case may be.  The fair value
of any consideration other than cash or securities will be determined jointly by
the Company and the Required Holders in good faith.  If such parties
are unable to reach agreement within ten (10) days after the occurrence of an
event requiring valuation (the “Valuation Event”), the fair
value of such consideration will be determined within five (5) Business Days
after the tenth (10th) day
following the Valuation Event by an independent, reputable appraiser jointly
selected by the Company and the Required Holders.  The determination
of such appraiser shall be final and binding upon all parties absent manifest
error and the fees and expenses of such appraiser shall be borne by the
Company.

       

      (b)              Adjustment upon Subdivision
or Combination of Common Stock.  If the Company at any time on
or after the Subscription Date subdivides (by any stock split, stock dividend,
recapitalization or otherwise) one or more classes of its outstanding shares of
Common Stock into a greater number of shares, the Exercise Price in effect
immediately prior to such subdivision will be proportionately reduced and the
number of Warrant Shares will be proportionately increased.  If the
Company at any time on or after the Subscription Date combines (by combination,
reverse stock split or otherwise) one or more classes of its outstanding shares
of Common Stock into a smaller number of shares, the Exercise Price in effect
immediately prior to such combination will be proportionately increased and the
number of Warrant Shares will be proportionately decreased.  Any
adjustment under this Section 2(b) shall become effective at the close of
business on the date the subdivision or combination becomes
effective.

       

      (c)              Other
Events.  If any event occurs of the type contemplated by the
provisions of this Section 2 but not expressly provided for by such provisions
(including, without limitation, the granting of stock appreciation rights,
phantom stock rights or other rights with equity features unless such rights
qualify as Excluded Securities), then the Company’s Board of Directors will make
an appropriate adjustment in the Exercise Price and the number of Warrant Shares
so as to protect the rights of the Holder under this Warrant; provided that no such
adjustment pursuant to this Section 2(c) will increase the Exercise Price or
decrease the number of Warrant Shares except as otherwise determined pursuant to
this Warrant.

       

      
        
          
             

          

           

        

        
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      (d)              De Minimis
Adjustments.  No adjustment in
the Conversion Price shall be required unless such adjustment would require an
increase or decrease of at least $0.01 in such price; provided, however, that any adjustment which by reason of this Section
2(d) is not required to be made shall be carried forward and taken into account
in any subsequent adjustments under this Section 2.  All calculations
under this Section 2 shall be made by the Company in good faith and shall be
made to the nearest cent or to the nearest one hundredth of a share, as
applicable, provided that the
Company shall not be required to issue any fractional shares pursuant to this
Warrant.  No adjustment need be made for
a change in the par value or no par value of the Company’s Common
Stock.

       

      3.      RIGHTS UPON DISTRIBUTION OF
ASSETS.  If the Company shall make any dividend or other
distribution of its assets (or rights to acquire its assets) to holders of
shares of Common Stock (other than in connection with the issuance, exercise,
exchange or conversion of Excluded Securities), by way of return of capital or
otherwise (including, without limitation, any distribution of cash, stock or
other securities, property or options by way of a dividend, spin off,
reclassification, corporate rearrangement, scheme of arrangement or other
similar transaction) (a “Distribution”), at any time
prior to the termination, cancellation or full satisfaction of this Warrant,
then, in each such case:

       

      (a)              any
Exercise Price in effect immediately prior to the close of business on the date
of Distribution shall be reduced, effective as of the close of business on the
date of Distribution, to a price determined by multiplying such Exercise Price
by a fraction of which (i) the numerator shall be the Weighted Average Price of
the shares of Common Stock on the Trading Day immediately preceding such date of
Distribution minus the value of the Distribution (as determined in good faith by
the Company’s Board of Directors) applicable to one share of Common Stock, and
(ii) the denominator shall be the Weighted Average Price of the shares of Common
Stock on the Trading Day immediately preceding such date of Distribution;
and

       

      (b)              the
number of Warrant Shares shall be increased to a number of shares equal to the
number of shares of Common Stock obtainable immediately prior to the close of
business on the date of Distribution multiplied by the reciprocal of the
fraction set forth in the immediately preceding paragraph (a).

       

      4.      FUNDAMENTAL
TRANSACTIONS.

       

      (a)              Fundamental
Transactions.  The Company shall not enter into or be party to
a Fundamental Transaction unless (i)  the Successor Entity assumes in
writing all of the obligations of the Company under this Warrant and the other
Transaction Documents (as defined in the Securities Purchase Agreement) in
accordance with the provisions of this Section (4)(a) pursuant to written
agreements in form and substance reasonably satisfactory to the Required Holders
and approved by the Required Holders prior to such Fundamental Transaction,
including agreements to deliver to each holder of the SPA Warrants in exchange
for such Warrants a security of the Successor Entity evidenced by a written
instrument substantially similar in form and substance to this Warrant,
including, without limitation, an adjusted exercise price equal to the value for
the shares of Common Stock reflected by the terms of such Fundamental
Transaction, and

       

      
        
          
             

          

           

        

        
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      exercisable
for a corresponding number of shares of capital stock equivalent to the shares
of Common Stock acquirable and receivable upon exercise of this Warrant (without
regard to any limitations on the exercise of this Warrant) prior to such
Fundamental Transaction, and (ii) the Successor Entity (including its
Parent Entity) is a publicly traded corporation whose common stock is quoted on
or listed for trading on an Eligible Market.  Upon the occurrence of
any Fundamental Transaction, the Successor Entity shall succeed to, and be
substituted for (so that from and after the date of such Fundamental
Transaction, the provisions of this Warrant referring to the “Company” shall
refer instead to the Successor Entity), and may exercise every right and power
of the Company and shall assume all of the obligations of the Company under this
Warrant with the same effect as if such Successor Entity had been named as the
Company herein.  Upon consummation of the Fundamental Transaction, the
Successor Entity shall deliver to the Holder confirmation that there shall be
issued upon exercise of this Warrant at any time after the consummation of the
Fundamental Transaction, in lieu of the shares of the Common Stock (or other
securities, cash, assets or other property) issuable upon the exercise of the
Warrant prior to such Fundamental Transaction, such shares of the publicly
traded Common Stock (or its equivalent) of the Successor Entity (including its
Parent Entity) which the Holder would have been entitled to receive upon the
happening of such Fundamental Transaction had this Warrant been exercised
immediately prior to such Fundamental Transaction, as adjusted in accordance
with the provisions of this Warrant.  In addition to and not in
substitution for any other rights hereunder, prior to the consummation of any
Fundamental Transaction pursuant to which holders of shares of Common Stock are
entitled to receive securities or other assets with respect to or in exchange
for shares of Common Stock (a “Corporate Event”), the Company
shall make appropriate provision to insure that the Holder will thereafter have
the right to receive upon an exercise of this Warrant at any time after the
consummation of the Fundamental Transaction but prior to the Expiration Date, in
lieu of the shares of the Common Stock (or other securities, cash, assets or
other property) issuable upon the exercise of this Warrant prior to such
Fundamental Transaction, such shares of stock, securities, cash, assets or any
other property whatsoever (including warrants or other purchase or subscription
rights) which the Holder would have been entitled to receive upon the happening
of such Fundamental Transaction had this Warrant been exercised immediately
prior to such Fundamental Transaction.  Provision made pursuant to the
preceding sentence shall be in a form and substance reasonably satisfactory to
the Holder.  The provisions of this Section shall apply similarly and
equally to successive Fundamental Transactions and Corporate Events and shall be
applied without regard to any limitations on the exercise of this
Warrant.

       

      (b)              Black-Scholes Redemption
Offer.  Notwithstanding the foregoing, the Company may enter
into a Fundamental Transaction where the Successor Entity (including its Parent
Entity) is not a publicly traded corporation whose common stock is quoted on or
listed for trading on an Eligible Market if the Holder shall receive a written
offer from the Company to exchange for cancellation this Warrant for an amount
in cash determined in accordance with the Black-Scholes Option Pricing Method
(with volatility being determined, for purposes of such pricing method, by
reference to the trading prices of the Common Stock on the Principal Market
during the 100 trading days immediately preceding the date of the first public
announcement of the Fundamental Transaction) .

       

      
        
          
             

          

           

        

        
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      5.      NONCIRCUMVENTION.  The
Company hereby covenants and agrees that the Company will not, by amendment of
its Certificate of Incorporation, Bylaws or through any reorganization, transfer
of assets, consolidation, merger, scheme of arrangement, dissolution, issue or
sale of securities, or any other voluntary action, avoid or seek to avoid the
observance or performance of any of the terms of this Warrant, and will at all
times in good faith carry out all the provisions of this Warrant and take all
action as it believes may be required to protect the rights of the Holder in
accordance with the terms of this Warrant.  Without limiting the
generality of the foregoing, the Company (i) shall not increase the par
value of any shares of Common Stock receivable upon the exercise of this Warrant
above the Exercise Price then in effect, (ii) shall take all such actions
as may be necessary or appropriate in order that the Company may validly and
legally issue fully paid and nonassessable shares of Common Stock upon the
exercise of this Warrant and (iii) shall, so long as any of the SPA Warrants are
outstanding, take all action necessary to reserve and keep available out of its
authorized and unissued shares of Common Stock, solely for the purpose of
effecting the exercise of the SPA Warrants, 105% of the number of shares of
Common Stock as shall from time to time be necessary to effect the exercise of
the SPA Warrants then outstanding (without regard to any limitations on
exercise).

       

      6.      WARRANT HOLDER NOT DEEMED A
STOCKHOLDER.  Except as otherwise specifically provided herein,
the Holder, solely in such Person’s capacity as a holder of this Warrant, shall
not be entitled to vote or receive dividends or be deemed the holder of share
capital of the Company for any purpose, nor shall anything contained in this
Warrant be construed to confer upon the Holder, solely in such Person’s capacity
as the Holder of this Warrant, any of the rights of a stockholder of the Company
or any right to vote, give or withhold consent to any corporate action (whether
any reorganization, issue of stock, reclassification of stock, consolidation,
merger, conveyance or otherwise), receive notice of meetings, receive dividends
or subscription rights, or otherwise, prior to the issuance to the Holder of the
Warrant Shares which such Person is then entitled to receive upon the due
exercise of this Warrant.  In addition, nothing contained in this
Warrant shall be construed as imposing any liabilities on the Holder to purchase
any securities (upon exercise of this Warrant or otherwise) or as a stockholder
of the Company, whether such liabilities are asserted by the Company or by
creditors of the Company.

       

      7.      REISSUANCE OF
WARRANTS.

       

      (a)              Transfer of
Warrant.  This Warrant may be offered for sale, sold,
transferred or assigned without the consent of the Company, except as may
otherwise be required by Section 2(f) of the Securities Purchase Agreement. If
this Warrant is to be transferred, the Holder shall surrender this Warrant to
the Company, whereupon the Company will forthwith issue and deliver upon the
order of the Holder a new Warrant (in accordance with Section 7(d)), registered
as the Holder may request, representing the right to purchase the number of
Warrant Shares being transferred by the Holder and, if less than the total
number of Warrant Shares then underlying this Warrant is being transferred, a
new Warrant (in accordance with Section 7(d)) to the Holder representing the
right to purchase the number of Warrant Shares not being
transferred.

       

      
        
          
             

          

           

        

        
          -11-

          
            

          

        

        
           

        

      

      (b)              Lost, Stolen or Mutilated
Warrant.  Upon receipt by the Company of evidence reasonably
satisfactory to the Company of the loss, theft, destruction or mutilation of
this Warrant, and, in the case of loss, theft or destruction, of any
indemnification undertaking by the Holder to the Company in customary form and,
in the case of mutilation, upon surrender and cancellation of this Warrant, the
Company shall execute and deliver to the Holder a new Warrant (in accordance
with Section 7(d)) representing the right to purchase the Warrant Shares then
underlying this Warrant.

       

      (c)              Exchangeable for Multiple
Warrants.  This Warrant is exchangeable, upon the surrender
hereof by the Holder at the principal office of the Company, for a new Warrant
or Warrants (in accordance with Section 7(d)) representing in the aggregate the
right to purchase the number of Warrant Shares then underlying this Warrant, and
each such new Warrant will represent the right to purchase such portion of such
Warrant Shares as is designated by the Holder at the time of such surrender;
provided, however, that no
Warrants for fractional shares of Common Stock shall be given.

       

      (d)              Issuance of New
Warrants.  Whenever the Company is required to issue a new
Warrant pursuant to the terms of this Warrant, such new Warrant (i) shall be of
like tenor with this Warrant, (ii) shall represent, as indicated on the face of
such new Warrant, the right to purchase the Warrant Shares then underlying this
Warrant (or in the case of a new Warrant being issued pursuant to Section 7(a)
or Section 7(c), the Warrant Shares designated by the Holder which, when added
to the number of shares of Common Stock underlying the other new Warrants issued
in connection with such issuance, does not exceed the number of Warrant Shares
then underlying this Warrant), (iii) shall have an issuance date, as indicated
on the face of such new Warrant which is the same as the Issuance Date, and (iv)
shall have the same rights and conditions as this Warrant.

       

      8.      NOTICES.  Whenever
notice is required to be given under this Warrant, unless otherwise provided
herein, such notice shall be given in accordance with Section 9(f) of the
Securities Purchase Agreement.  The Company shall provide the Holder
with prompt written notice of all actions taken pursuant to this Warrant,
including in reasonable detail a description of such action and the reason
therefore.  Without limiting the generality of the foregoing, the
Company will give written notice to the Holder (i) immediately upon any
adjustment of the Exercise Price, setting forth in reasonable detail, and
certifying, the calculation of such adjustment and (ii) at least ten (10) days
prior to the date on which the Company closes its books or takes a record (A)
with respect to any dividend or distribution upon the shares of Common Stock,
(B) with respect to any grants, issuances or sales of any Options, Convertible
Securities or rights to purchase stock, warrants, securities or other property
to all holders of shares of Common Stock (other than Excluded Securities) or (C)
for determining rights to vote with respect to any Fundamental Transaction,
dissolution or liquidation, provided in each case
that such information has been made known to the public prior to or in
conjunction with such notice being provided to the Holder.

       

      9.      AMENDMENT AND
WAIVER.  Except as otherwise provided herein, the provisions of
this Warrant may be amended and the Company may take any action herein
prohibited, or omit to perform any act herein required to be performed by it,
only if the Company has obtained the written consent of the Required Holders;
provided, however, that without
the

       

      
        
          
             

          

           

        

        
          -12-

          
            

          

        

        
           

        

      

      prior
written consent of the Holder, no such action may be taken that (x) would
increase the exercise price of any SPA Warrant or decrease the number of shares
or class of stock obtainable upon exercise of any SPA Warrant (except in
connection with recapitalizations, reclassifications, stock dividends, stock
splits and the like), (y) has or would reasonably be expected to have a
material adverse effect upon the rights of the Holder under this Warrant or
(z) would modify this Section 9; provided that,
notwithstanding the foregoing, none of a Dilutive Issuance, a Distribution or a
Fundamental Transaction shall require the prior written consent of the Holder
(solely in its capacity as a holder of this Warrant) under this
Section 9.  No such amendment shall be effective to the extent
that it applies to less than all of the holders of the SPA Warrants then
outstanding unless consented to in writing by the Holder and each other holder
of the SPA Warrants then outstanding.

       

      10.           GOVERNING
LAW.  This Warrant shall be governed by and construed and
enforced in accordance with, and all questions concerning the construction,
validity, interpretation and performance of this Warrant shall be governed by,
the internal laws of the State of New York, without giving effect to any choice
of law or conflict of law provision or rule (whether of the State of New York or
any other jurisdictions) that would cause the application of the laws of any
jurisdictions other than the State of New York.

       

      11.           CONSTRUCTION;
HEADINGS.  This Warrant shall be deemed to be jointly drafted
by the Company and all the Buyers and shall not be construed against any person
as the drafter hereof.  The headings of this Warrant are for
convenience of reference and shall not form part of, or affect the
interpretation of, this Warrant.

       

      12.           DISPUTE
RESOLUTION.  In the case of a dispute as to the determination
of the Exercise Price or the arithmetic calculation of the Warrant Shares, the
Company shall submit the disputed determinations or arithmetic calculations via
facsimile within five (5) Business Days of receipt of the Exercise Notice giving
rise to such dispute, as the case may be, to the Holder.  If the
Holder and the Company are unable to agree upon such determination or
calculation of the Exercise Price or the Warrant Shares within three Business
Days of such disputed determination or arithmetic calculation being submitted to
the Holder, then the Company shall, within two (2) Business Days submit via
facsimile (a) the disputed determination of the Exercise Price to an
independent, reputable investment bank selected by the Company and approved by
the Holder, which approval shall not be unreasonably withheld, conditioned or
delayed,  or (b) the disputed arithmetic calculation of the Warrant
Shares to the Company’s independent, outside accountant.  The Company
shall use its best efforts to cause at its expense the investment bank or the
accountant, as the case may be, to perform the determinations or calculations
and notify the Company and the Holder of the results no later than ten Business
Days from the time it receives the disputed determinations or
calculations.  Such investment bank’s or accountant’s determination or
calculation, as the case may be, shall be binding upon all parties absent
demonstrable error.

       

      13.           REMEDIES, OTHER OBLIGATIONS,
BREACHES AND INJUNCTIVE RELIEF.  The remedies provided in this
Warrant shall be cumulative and in addition to all other remedies available
under this Warrant and the other Transaction Documents, at law or in equity
(including a decree of specific performance and/or other injunctive relief), and
nothing herein shall limit the right of the Holder right to pursue actual
damages for any failure by the Company

       

      
        
          
             

          

           

        

        
          -13-

          
            

          

        

        
           

        

      

      to comply
with the terms of this Warrant.  The Company acknowledges that a
breach by it of its obligations hereunder may cause irreparable harm to the
Holder and that the remedy at law for any such breach may be
inadequate.  The Company therefore agrees that, in the event of any
such breach or threatened breach, the Holder shall be entitled, in addition to
all other available remedies, to an injunction restraining any breach, without
the necessity of showing economic loss and without any bond or other security
being required.

       

      14.           CERTAIN
DEFINITIONS.  For purposes of this Warrant, the following terms
shall have the following meanings:

       

      (a)              “1933 Act” means the Securities
Act of 1933, as amended.

       

      (b)              “Affiliate” means
with respect to a specified Person, any other Person who or which is (a)
directly or indirectly controlling, controlled by or under common control with
the specified Person, or (b) any member, stockholder, director, officer,
manager, or comparable principal of, or relative or spouse of, the specified
Person. For purposes of this definition, “control”, “controlling”, and
“controlled” mean the right to exercise, directly or indirectly, more than fifty
percent of the voting power of the stockholders, members or owners and, with
respect to any individual, partnership, trust or other entity or association,
the possession, directly or indirectly, of the power to direct or cause the
direction of the management or policies of the controlled
entity.

       

      (c)              “Bloomberg” means Bloomberg
Financial Markets.

       

      (d)              “Business Day” means any day
other than Saturday, Sunday or other day on which commercial banks in The City
of New York are authorized or required by law to remain closed.

       

      (e)              “Closing Sale Price” means, for
any security as of any date, the last closing trade price for such security on
the Principal Market, as reported by Bloomberg, or, if the Principal Market
begins to operate on an extended hours basis and does not designate the closing
trade price then the last trade price of such security prior to 4:00:00 p.m.,
New York time, as reported by Bloomberg, or, if the Principal Market is not the
principal securities exchange or trading market for such security, the last
trade price of such security on the principal securities exchange or trading
market where such security is listed or traded as reported by Bloomberg, or if
the foregoing do not apply, the last trade price of such security in the
over-the-counter market on the electronic bulletin board for such security as
reported by Bloomberg, or, if no last trade price is reported for such security
by Bloomberg, , the average of the highest closing bid price and the lowest
closing ask price of any of the market makers for such security as reported in
the “pink sheets”.  If the Closing Sale Price cannot be calculated for
a security on a particular date on any of the foregoing bases, the Closing Sale
Price of such security on such date shall be the fair market value as mutually
determined by the Company and the Holder in good faith.  If the
Company and the Holder are unable to agree upon the fair market value of such
security, then such dispute shall be resolved pursuant to Section
12.  All such determinations to be appropriately adjusted for any
stock dividend, stock split, stock combination or other similar transaction
during the applicable calculation period.

       

      
        
          
             

          

           

        

        
          -14-

          
            

          

        

        
           

        

      

      (f)              “Common Stock” means
(i) the Company’s shares of common stock, par value $0.01 per share, and
(ii) any share capital into which such common stock shall have been changed
or any share capital resulting from a reclassification of such common
stock.

       

      (g)              “Common Stock Deemed
Outstanding” means, at any given time, the number of shares of Common
Stock actually outstanding at such time, plus the number of shares of Common
Stock deemed to be outstanding pursuant to Sections 2(a)(i) and 2(a)(ii) hereof
regardless of whether the Options or Convertible Securities are actually
exercisable at such time, but excluding any shares of Common Stock owned or held
by or for the account of the Company or issuable upon exercise of the SPA
Warrants.

       

      (h)              “Convertible Securities” means
any stock or securities (other than Options) directly or indirectly convertible
into or exercisable or exchangeable for shares of Common Stock.

       

      (i)              “Eligible Market” means The New
York Stock Exchange, Inc., the American Stock Exchange, The NASDAQ Global
Market, The NASDAQ Global Select Market, The NASDAQ Capital Market or the OTC
Bulletin Board.

       

      (j)              “Excluded Securities” has the
meaning ascribed to such term in the SPA Securities.

       

      (k)              “Expiration Date” means the
date five (5) years after the Issuance Date or, if such date falls on a day
other than a Business Day or on which trading does not take place on the
Principal Market (a “Holiday”), the first date
thereafter that is not a Holiday.

       

      (l)              “Fundamental Transaction”
means any of the following transactions, in which the Company shall,
directly or indirectly, in one or more related transactions, (i) consolidate or
merge with or into (whether or not the Company is the surviving corporation)
another Person or Persons, and the holders of the Voting Stock (not
including any shares of Voting Stock held by the Person or Persons making or
party to, or associated or affiliated with the Persons making or party to, such
consolidation or merger) immediately prior to such consolidation or merger hold
or have the right to direct the voting of less than 50% of the Voting Stock or
such voting securities of such other surviving Person immediately following such
transaction, or (ii) sell, assign, transfer, convey or otherwise dispose of all
or substantially all of the properties or assets of the Company to another
Person, or (iii) be the subject of a purchase, tender or exchange offer
that is accepted by the holders of more than 50% of the outstanding shares of
Voting Stock (not including any shares of Voting Stock held by the Person or
Persons making or party to, or associated or affiliated with the Persons making
or party to, such purchase, tender or exchange offer), or (iv) consummate a
stock purchase agreement or other business combination (including, without
limitation, a reorganization, recapitalization, spin-off or scheme of
arrangement) with another Person other than Goodnow Capital, L.L.C., Xmark
Opportunity Partners, LLC or an Affiliate of either of the foregoing whereby
such other Person acquires more than 50% of the outstanding shares of Voting
Stock (not including

       

      
        
          
             

          

           

        

        
          -15-

          
            

          

        

        
           

        

      

      any
shares of Voting Stock held by the other Person or other Persons making or party
to, or associated or affiliated with the other Persons making or party to, such
stock purchase agreement or other business combination), or (v) be the
subject of a change in ownership such that any “person” or “group” (as these
terms are used for purposes of Sections 13(d) and 14(d) of the Exchange Act)
other than Goodnow Capital, L.L.C., Xmark Opportunity Partners, LLC or an
Affiliate of either of the foregoing is or shall become the “beneficial owner”
(as defined in Rule 13d-3 under the Exchange Act), directly or indirectly, of
50% of the aggregate ordinary voting power represented by issued and outstanding
Common Stock.

       

      (m)              “Options” means any rights,
warrants or options to subscribe for or purchase shares of Common Stock or
securities convertible into or exercisable or exchangeable for Common
Stock.

       

      (n)              “Parent Entity” of a Person
means an entity that, directly or indirectly, controls the applicable Person and
whose common stock or equivalent equity security is quoted or listed on an
Eligible Market, or, if there is more than one such Person or Parent Entity, the
Person or Parent Entity with the largest public market capitalization as of the
date of consummation of the Fundamental Transaction.

       

      (o)              “Person” means an individual, a
limited liability company, a partnership, a joint venture, a corporation, a
trust, an unincorporated organization, any other entity and a government or any
department or agency thereof.

       

      (p)              “Principal Market” means the
Eligible Market the Common Stock is then listed on.

       

      (q)              “Required Holders” means the
holders of the SPA Warrants representing at least fifty and one-tenth percent
(50.1%) of the shares of Common Stock underlying the SPA Warrants then
outstanding.

       

      (r)              “SPA Securities” means the
Notes issued pursuant to the Securities Purchase Agreement.

       

      (s)              “Successor Entity” means the
Person, which may be the Company, formed by, resulting from or surviving any
Fundamental Transaction or the Person with which such Fundamental Transaction
shall have been made, provided that if such
Person is not a publicly traded entity whose common stock or equivalent equity
security is quoted or listed for trading on an Eligible Market, Successor Entity
shall mean such Person’s Parent Entity.

       

      (t)              “Trading Day” means any day on
which the Common Stock are traded on the Principal Market, or, if the Principal
Market is not the principal trading market for the Common Stock, then on the
principal securities exchange or securities market on which the Common Stock are
then traded; provided that
“Trading Day” shall not include any day on which the Common Stock are scheduled
to trade on such exchange or market for less than 4.5 hours or any day that the
Common Stock are suspended from trading during the final hour of trading on such
exchange or market (or if such exchange or

       

      
        
          
             

          

           

        

        
          -16-

          
            

          

        

        
           

        

      

      market
does not designate in advance the closing time of trading on such exchange or
market, then during the hour ending at 4:00:00 p.m., New York
time).

       

      (u)              “Voting Stock” of a Person
means capital stock of such Person of the class or classes pursuant to which the
holders thereof have the general voting power to elect, or the general power to
appoint, at least a majority of the board of directors, managers or trustees of
such Person (irrespective of whether or not at the time capital stock of any
other class or classes shall have or might have voting power by reason of the
happening of any contingency).

       

      (v)              “Weighted Average Price” means,
for any security as of any date, the dollar volume-weighted average price for
such security on the Principal Market during the period beginning at 9:30:01
a.m., New York City time, and ending at 4:00:00 p.m., New York City time, as
reported by Bloomberg through its “Volume at Price” function or, if the
foregoing does not apply, the dollar volume-weighted average price of such
security in the over-the-counter market on the electronic bulletin board for
such security during the period beginning at 9:30:01 a.m., New York City time,
and ending at 4:00:00 p.m., New York City time, as reported by Bloomberg, or, if
no dollar volume-weighted average price is reported for such security by
Bloomberg for such hours, the average of the highest closing bid price and the
lowest closing ask price of any of the market makers for such security as
reported in the “pink sheets”.  If the Weighted Average Price cannot
be calculated for such security on such date on any of the foregoing bases, the
Weighted Average Price of such security on such date shall be the fair market
value as mutually determined by the Company and the Required Holders in good
faith; provided
that if the Company and the Required Holders are unable to agree upon the fair
market value of such security, then such dispute shall be resolved pursuant to
Section 12 with the term “Weighted Average Price” being substituted for the term
“Exercise Price.” All such determinations shall be appropriately adjusted for
any share dividend, share split or other similar transaction during such
period.

       

      [Signature Page Follows.]

      
        
          
             

          

           

        

        
          -17-

          
            

          

        

        
           

        

      

      IN WITNESS WHEREOF, the
Company has caused this Warrant to Purchase Common Stock to be duly executed as
of the Issuance Date set out above.

      

      

      
        	
                 
      

              	
                AEOLUS
      PHARMACEUTICALS, INC.

              

      

       

      

       

      
        	
                 
      

              	
                By:

              	
                /s/ Michael P.
      McManus

              	 

      

       

      
        	
                 
      

              	
                Name:

              	
                Michael
      P. McManus

              

      

       

      
        	
                 
      

              	
                Title:

              	
                Chief
      Financial Officer

              

      

       

      
        
          
            Signature
Page to Warrant to Purchase Common Stock

          

           

        

        
           

          
            

          

        

        
           

        

      

       EXHIBIT
A

      

      EXERCISE
NOTICE

      TO
BE EXECUTED BY THE REGISTERED HOLDER TO EXERCISE THIS

      WARRANT
TO PURCHASE COMMON STOCK

      

      AEOLUS
PHARMACEUTICALS, INC.

      The undersigned holder hereby exercises
the right to purchase _________________ of the shares of Common Stock (“Warrant Shares”) of Aeolus
Pharmaceuticals, Inc., a Delaware corporation (the “Company”), evidenced by the
attached Warrant to Purchase Common Stock (the “Warrant”).  Capitalized
terms used herein and not otherwise defined shall have the respective meanings
set forth in the Warrant.

      

      1.  Form of Exercise
Price.  The Holder intends that payment of the Exercise Price shall be
made as:

      

      
        	
                 
      

              	
                ____________

              	
                a
      “Cash
      Exercise” with respect to _________________ Warrant Shares;
      and/or

              

      

      

      
        	
                 
      

              	
                ____________

              	
                a
      “Cashless
      Exercise” with respect to _______________ Warrant
      Shares.

              

      

      

      2.  Payment of Exercise
Price.  In the event that the holder has elected a Cash Exercise with
respect to some or all of the Warrant Shares to be issued pursuant hereto, the
holder shall pay the Aggregate Exercise Price in the sum of $___________________
to the Company in accordance with the terms of the Warrant.

      

      3.  Maximum
Exercise Percentage.  The Holder represents and warrants to the
Company that the Holder, together with the Holder’s affiliates, will not
beneficially own in excess of 9.99% of the shares of Common Stock of the Company
outstanding immediately after giving effect to the exercise of the Warrant for
the number of Warrant Shares to be issued pursuant to this Exercise
Notice.

      

      4.  Delivery of Warrant
Shares.  The Company shall deliver to the holder __________ Warrant
Shares in accordance with the terms of the Warrant.

      

      Date:
_______________ __, ______

      

      

      

         Name
of Registered Holder

      

      

      By:      _______________________     

      Name:

      Title:

      
        
           

        

        
           

          
            

          

        

        
           

        

      

      ACKNOWLEDGMENT

      

      

      The Company hereby acknowledges this
Exercise Notice and hereby directs American Stock Transfer and Trust Company to
issue the above indicated number of shares of Common Stock in accordance with
the Irrevocable Transfer Agent Instructions dated August 1, 2008 from the
Company and acknowledged and agreed to by American Stock Transfer and Trust
Company.

      

      
        	
                 
      

              	
                AEOLUS
      PHARMACEUTICALS, INC.

              

      

       

      

       

      
        	
                 
      

              	
                By:

              	 _________________________________

      

       

      
        	
                 
      

              	
                Name:

              

      

       

      
        	
                 
      

              	
                Title:

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