Document:

Exhibit 10.26

 

SECURITIES PURCHASE AGREEMENT

 

LAURUS MASTER FUND, LTD.

 

and

 

IWT TESORO CORPORATION

 

Dated: February 10, 2006

 

 

TABLE OF CONTENTS

 

	
   

  	
   

  	
  Page

  
	
  1.

  	
  Agreement to Sell and
  Purchase.

  	
  1

  
	
   

  	
   

  	
   

  
	
  2.

  	
  Fees and Warrant. On the
  Closing Date:

  	
  2

  
	
   

  	
   

  	
   

  
	
  3.

  	
  Closing, Delivery and
  Payment.

  	
  2

  
	
   

  	
  3.1

  	
  Closing

  	
  2

  
	
   

  	
  3.2

  	
  Delivery.

  	
  2

  
	
   

  	
   

  	
   

  	
   

  
	
  4.

  	
  Representations and
  Warranties of the Company.

  	
  3

  
	
   

  	
  4.1

  	
  Organization, Good
  Standing and Qualification.

  	
  3

  
	
   

  	
  4.2

  	
  Subsidiaries.

  	
  3

  
	
   

  	
  4.3

  	
  Capitalization; Voting
  Rights.

  	
  4

  
	
   

  	
  4.4

  	
  Authorization; Binding
  Obligations.

  	
  4

  
	
   

  	
  4.5

  	
  Liabilities.

  	
  5

  
	
   

  	
  4.6

  	
  Agreements; Action.

  	
  5

  
	
   

  	
  4.7

  	
  Obligations to Related
  Parties.

  	
  6

  
	
   

  	
  4.8

  	
  Changes.

  	
  7

  
	
   

  	
  4.9

  	
  Title to Properties and
  Assets; Liens, Etc.

  	
  8

  
	
   

  	
  4.10

  	
  Intellectual Property.

  	
  8

  
	
   

  	
  4.11

  	
  Compliance with Other
  Instruments.

  	
  9

  
	
   

  	
  4.12

  	
  Litigation.

  	
  9

  
	
   

  	
  4.13

  	
  Tax Returns and Payments.

  	
  9

  
	
   

  	
  4.14

  	
  Employees.

  	
  10

  
	
   

  	
  4.15

  	
  Registration Rights and
  Voting Rights.

  	
  10

  
	
   

  	
  4.16

  	
  Compliance with Laws;
  Permits.

  	
  11

  
	
   

  	
  4.17

  	
  Environmental and Safety
  Laws.

  	
  11

  
	
   

  	
  4.18

  	
  Valid Offering.

  	
  11

  
	
   

  	
  4.19

  	
  Full Disclosure.

  	
  11

  
	
   

  	
  4.20

  	
  Insurance.

  	
  12

  
	
   

  	
  4.21

  	
  SEC Reports.

  	
  12

  
	
   

  	
  4.22

  	
  Listing.

  	
  12

  
	
   

  	
  4.23

  	
  No Integrated Offering.

  	
  12

  
	
   

  	
  4.24

  	
  Stop Transfer.

  	
  13

  
	
   

  	
  4.25

  	
  Dilution.

  	
  13

  
	
   

  	
  4.26

  	
  Patriot Act.

  	
  13

  
	
   

  	
  4.27

  	
  ERISA.

  	
  13

  
	
   

  	
   

  	
   

  	
   

  
	
  5.

  	
  Representations and
  Warranties of the Purchaser.

  	
  14

  
	
   

  	
  5.1

  	
  No Shorting.

  	
  14

  
	
   

  	
  5.2

  	
  Requisite Power and
  Authority.

  	
  14

  
	
   

  	
  5.3

  	
  Investment
  Representations.

  	
  14

  
	
   

  	
  5.4

  	
  The Purchaser Bears
  Economic Risk.

  	
  15

  
	
   

  	
  5.5

  	
  Acquisition for Own
  Account.

  	
  15

  
	
   

  	
  5.6

  	
  The Purchaser Can Protect
  Its Interest.

  	
  15

  
	
   

  	
  5.7

  	
  Accredited Investor.

  	
  15

  
	
   

  	
  5.8

  	
  Legends.

  	
  16

  

 

i

 

	
   

  	
   

  	
  Page(s)

  
	
  6.

  	
  Covenants of the Company.

  	
  17

  
	
   

  	
  6.1

  	
  Stop-Orders.

  	
  17

  
	
   

  	
  6.2

  	
  Listing.

  	
  17

  
	
   

  	
  6.3

  	
  Market Regulations.

  	
  17

  
	
   

  	
  6.4

  	
  Reporting Requirements.

  	
  17

  
	
   

  	
  6.5

  	
  Use of Funds.

  	
  17

  
	
   

  	
  6.6

  	
  Access to Facilities.

  	
  17

  
	
   

  	
  6.7

  	
  Taxes.

  	
  17

  
	
   

  	
  6.8

  	
  Insurance.

  	
  18

  
	
   

  	
  6.9

  	
  Intellectual Property.

  	
  19

  
	
   

  	
  6.10

  	
  Properties.

  	
  19

  
	
   

  	
  6.11

  	
  Confidentiality.

  	
  19

  
	
   

  	
  6.12

  	
  Required Approvals.

  	
  19

  
	
   

  	
  6.13

  	
  Reissuance of Securities.

  	
  21

  
	
   

  	
  6.14

  	
  Opinion.

  	
  21

  
	
   

  	
  6.15

  	
  Margin Stock.

  	
  21

  
	
   

  	
  6.16

  	
  Financing Right of First
  Refusal.

  	
  22

  
	
   

  	
  6.17

  	
  Authorization and
  Reservation of Shares.

  	
  22

  
	
   

  	
   

  	
   

  	
   

  
	
  7.

  	
  Covenants of the
  Purchaser.

  	
  22

  
	
   

  	
  7.1

  	
  Confidentiality.

  	
  22

  
	
   

  	
  7.2

  	
  Non-Public Information.

  	
  22

  
	
   

  	
  7.3

  	
  Limitation on Acquisition
  of Common Stock of the Company.

  	
  23

  
	
   

  	
   

  	
   

  	
   

  
	
  8.

  	
  Covenants of the Company
  and the Purchaser Regarding Indemnification.

  	
  23

  
	
   

  	
  8.1

  	
  Company Indemnification.

  	
  23

  
	
   

  	
  8.2

  	
  Purchaser’s
  Indemnification.

  	
  23

  
	
   

  	
   

  	
   

  	
   

  
	
  9.

  	
  Conversion of Convertible
  Note.

  	
  24

  
	
   

  	
  9.1

  	
  Mechanics of Conversion.

  	
   

  
	
   

  	
   

  	
   

  	
   

  
	
  10.

  	
  Registration Rights.

  	
  24

  
	
   

  	
  10.1

  	
  Registration Rights
  Granted.

  	
  24

  
	
   

  	
  10.2

  	
  Offering Restrictions.

  	
  24

  
	
   

  	
   

  	
   

  	
   

  
	
  11.

  	
  Miscellaneous.

  	
  24

  
	
   

  	
  11.1

  	
  Governing Law,
  Jurisdiction and Waiver of Jury Trial.

  	
  24

  
	
   

  	
  11.2

  	
  Severability.

  	
  25

  
	
   

  	
  11.3

  	
  Survival.

  	
  25

  
	
   

  	
  11.4

  	
  Successors.

  	
  25

  
	
   

  	
  11.5

  	
  Entire Agreement; Maximum
  Interest.

  	
  26

  
	
   

  	
  11.6

  	
  Amendment and Waiver.

  	
  26

  
	
   

  	
  11.7

  	
  Delays or Omissions.

  	
  26

  
	
   

  	
  11.8

  	
  Notices.

  	
  26

  
	
   

  	
  11.9

  	
  Attorneys’ Fees.

  	
  27

  
	
   

  	
  11.10

  	
  Titles and Subtitles.

  	
  28

  
	
   

  	
  11.11

  	
  Facsimile Signatures;
  Counterparts.

  	
  28

  
	
   

  	
  11.12

  	
  Broker’s Fees.

  	
  28

  
	
   

  	
  11.13

  	
  Construction.

  	
  28

  

 

ii

 

LIST OF EXHIBITS

 

	
  Form of Convertible Term Note

  	
   

  	
  Exhibit A

  	
   

  
	
  Form of
  Warrant

  	
   

  	
  Exhibit B

  	
   

  
	
  Form of
  Opinion

  	
   

  	
  Exhibit C

  	
   

  
	
  Form of
  Escrow Agreement

  	
   

  	
  Exhibit D

  	
   

  

 

iii

 

SECURITIES
PURCHASE AGREEMENT

 

THIS SECURITIES PURCHASE AGREEMENT (this “Agreement”)
is made and entered into as of February 102006, by and between IWT TESORO
CORPORATION, a                                  
(the “Company”), and LAURUS MASTER FUND, LTD., a Cayman Islands company (the “Purchaser”).

 

RECITALS

 

WHEREAS, the Company has authorized the sale to the
Purchaser of a Secured Convertible Term Note in the aggregate principal amount
of Two Million Dollars ($2,000,000.00) in the form of Exhibit A hereto (as
amended, modified and/or supplemented from time to time, the “Note”), which
Note is convertible into shares of the Company’s common stock, $0.001 par value
per share (the “Common Stock”) at an initial fixed conversion price of $2.17
per share of Common Stock (“Fixed Conversion Price”);

 

WHEREAS, the Company wishes to issue to the Purchaser
a warrant in the form of Exhibit B hereto (as amended, modified and/or
supplemented from time to time, the “Warrant”) to purchase up to 460,829 shares
of the Company’s Common Stock (subject to adjustment as set forth therein) in
connection with the Purchaser’s purchase of the Note;

 

WHEREAS, at Closing (as defined herein),   the Company wishes to grant 221,198
shares of Common Stock (the “Interest Shares”) to the Purchaser;

 

WHEREAS, the Purchaser desires to purchase the Note
and the Warrant on the terms and conditions set forth herein; and

 

WHEREAS, the Company desires to issue and sell the
Note and Warrant to the Purchaser on the terms and conditions set forth herein.

 

AGREEMENT

 

NOW, THEREFORE, in consideration of the foregoing
recitals and the mutual promises, representations, warranties and covenants
hereinafter set forth and for other good and valuable consideration, the
receipt and sufficiency of which are hereby acknowledged, the parties hereto
agree as follows:

 

1.                                       Agreement
to Sell and Purchase.  Pursuant to
the terms and conditions set forth in this Agreement, on the Closing Date (as
defined in Section 3), the Company shall sell to the Purchaser, and the
Purchaser shall purchase from the Company, the Note and the Warrant.  The sale of the Note on the Closing Date
shall be known as the “Offering.”  The
Note will mature on the Maturity Date (as defined in the Note).  Collectively, the Note, the Warrant, the
Interest Shares and the Common Stock issuable upon conversion of the Note and
upon exercise of the Warrant are referred to as the “Securities.”

 

 

2.                                       Fees
and Warrant.  On the Closing Date:

 

(a)                                  The
Company will issue and deliver to the Purchaser the Warrant to purchase up to
460,829 shares of Common Stock (subject to adjustment as set forth therein) in
connection with the Offering, pursuant to Section 1 hereof.  All the representations, covenants,
warranties, undertakings, and indemnification, and other rights made or granted
to or for the benefit of the Purchaser by the Company are hereby also made and
granted for the benefit of the holder of the Warrant and shares of the Company’s
Common Stock issuable upon exercise of the Warrant (the “Warrant Shares”).

 

(b)                                 Subject
to the terms of Section 2(d) below, the Company shall pay to Laurus
Capital Management, LLC, the manager of the Purchaser, a closing payment in an
amount equal to three and one half percent (3.50%) of the aggregate principal
amount of the Note.  The foregoing fee is
referred to herein as the “Closing Payment.”

 

(c)                                  The
Company shall reimburse the Purchaser for its reasonable expenses (including
legal fees and expenses) incurred in connection with the preparation and
negotiation of this Agreement and the Related Agreements (as hereinafter
defined), and expenses incurred in connection with the Purchaser’s due
diligence review of the Company and its Subsidiaries (as defined in Section 4.2)
and all related matters.  Amounts
required to be paid under this Section 2(c) will be paid on the
Closing Date and shall be $10,000  for
such expenses referred to in this Section 2(c).

 

(d)                                 The
Closing Payment and the expenses referred to in the preceding clause (c) (net
of deposits previously paid by the Company) shall be paid at closing out of
funds held pursuant to the Escrow Agreement (as defined below) and a
disbursement letter (the “Disbursement Letter”).

 

3.                                       Closing,
Delivery and Payment.

 

3.1                                 Closing.  Subject to the terms and conditions herein,
the closing of the transactions contemplated hereby (the “Closing”), shall take
place on the date hereof, at such time or place as the Company and the
Purchaser may mutually agree (such date is hereinafter referred to as the “Closing
Date”).

 

3.2                                 Delivery.  Pursuant to the Escrow Agreement, at the
Closing on the Closing Date, the Company will deliver to the Purchaser, among
other things, the Note, the Warrant and the Interest Shares and the Purchaser
will deliver to the Company, among other things, the amounts set forth in the
Disbursement Letter by certified funds or wire transfer. The Company hereby acknowledges and agrees
that Purchaser’s obligation to purchase
the Note from the Company on the Closing Date shall be contingent upon the
satisfaction (or waiver by the Purchaser in its sole discretion) of the
items and matters set forth in
the closing checklist provided by the
Purchaser to the Company on or prior to the Closing Date.

 

2

 

4.                                       Representations
and Warranties of the Company.  The Company
hereby represents and warrants to the Purchaser as follows

 

4.1                                 Organization,
Good Standing and Qualification.  Each of the
Company and each of its Subsidiaries is a corporation, partnership or limited
liability company, as the case may be, duly organized, validly existing and in
good standing under the laws of its jurisdiction of organization.  Each of the Company and each of its
Subsidiaries has the corporate, limited liability company or partnership, as
the case may be, power and authority to own and operate its properties and
assets and, insofar as it is or shall be a party thereto, to (1) execute
and deliver (i) this Agreement, (ii) the Note and the Warrant to be
issued in connection with this Agreement, (iii) the Master Security
Agreement dated as of the date hereof between the Company, certain Subsidiaries
of the Company and the Purchaser (as amended, modified and/or supplemented from
time to time, the “Master Security Agreement”), (iv) the Reaffirmation and
Ratification Agreement dated as of the date hereof by and among the Company,
certain Subsidiaries and the Purchaser (as amended, modified or supplemented,
the “Reaffirmation Agreement”), which reaffirms and ratifies the obligations of
the Company and the Subsidiaries under (a) that certain Security Agreement
by and among the Company, certain Subsidiaries of the Company and the Purchaser
dated as of August 25, 2005; (b) that certain Security Agreement
dated as of August 25, 2005 by and among certain Subsidiaries of the
Company and the Purchaser (as amended, modified and/or supplemented from time
to time, the “Subsidiary Security Agreement”) and (c) that certain
Continuing Guaranty Agreement dated as of August 25, 2005 among certain
Subsidiaries of the Company and the Purchaser (as amended, modified and/or or
supplemented from time to time, the “Continuing Guaranty”); (v) the
Registration Rights Agreement relating to the Securities dated as of the date
hereof between the Company and the Purchaser (as amended, modified and/or
supplemented from time to time, the “Registration Rights Agreement”), (vi) the
Funds Escrow Agreement dated as of the date hereof among the Company, the
Purchaser and the escrow agent referred to therein, substantially in the form
of Exhibit D hereto (as amended, modified and/or supplemented from time to
time, the “Escrow Agreement”) and (vii) all other documents, instruments
and agreements entered into in connection with the transactions contemplated
hereby and thereby (the preceding clauses (iii) through (vii),
collectively, the “Related Agreements”); (2) issue and sell the Note and
the shares of Common Stock issuable upon conversion of the Note (the “Note
Shares”); (3) issue and sell the Warrant and the Warrant Shares; (4) issue
and sell the Interest Shares; and (5) carry out the provisions of this
Agreement and the Related Agreements and to carry on its business as presently
conducted.  Each of the Company and each
of its Subsidiaries is duly qualified and is authorized to do business and is
in good standing as a foreign corporation, partnership or limited liability
company, as the case may be, in all jurisdictions in which the nature or
location of its activities and of its properties (both owned and leased) makes
such qualification necessary, except for those jurisdictions in which failure
to do so has not, or could not reasonably be expected to have, individually or
in the aggregate, a material adverse effect on the business, assets,
liabilities, condition (financial or otherwise), properties, operations or
prospects of the Company and its Subsidiaries, taken individually and as a
whole (a “Material Adverse Effect”).

 

4.2                                 Subsidiaries.  Each of its direct and
indirect Subsidiaries, the direct owner of each such Subsidiary and its
percentage ownership thereof, is set forth on Schedule 4.2.

 

3

 

4.3                                 Capitalization;
Voting Rights.

 

(a)                                  The
authorized capital stock of the Company, as of the date hereof consists of
100,000,000 shares, par value $0.001 per share, the number of shares issued and
outstanding are as set forth on Schedule 4.3, and 25,000,000 are shares of
preferred stock, par value $0.001 per share of which no shares of preferred
stock are issued and outstanding.  The
authorized, issued and outstanding capital stock of each Subsidiary of the
Company is set forth on Schedule 4.3.

 

(b)                                 Except
as disclosed on Schedule 4.3, other than: 
(i) the shares reserved for issuance under the Company’s stock
option plans; and (ii) shares which may be granted pursuant to this
Agreement and the Related Agreements, there are no outstanding options,
warrants, rights (including conversion or preemptive rights and rights of first
refusal), proxy or stockholder agreements, or arrangements or agreements of any
kind for the purchase or acquisition from the Company of any of its
securities.  Except as disclosed on Schedule 4.3,
neither the offer, issuance or sale of any of the Note, the Warrant or the
Interest Shares, or the issuance of any of the Note Shares or Warrant Shares,
nor the consummation of any transaction contemplated hereby will result in a
change in the price or number of any securities of the Company outstanding,
under anti-dilution or other similar provisions contained in or affecting any
such securities.

 

(c)                                  All
issued and outstanding shares of the Company’s Common Stock:  (i) have been duly authorized and
validly issued and are fully paid and nonassessable; and (ii) were issued
in compliance with all applicable state and federal laws concerning the
issuance of securities.

 

(d)                                 The
rights, preferences, privileges and restrictions of the shares of the Common
Stock are as stated in the Company’s Certificate of Incorporation (the “Charter”).  The Note Shares, Warrant Shares and Interest
Shares have been duly and validly reserved for issuance.  When issued in compliance with the provisions
of this Agreement and the Company’s Charter, the Securities will be validly
issued, fully paid and nonassessable, and will be free of any liens or
encumbrances; provided, however, that the Securities may be subject to
restrictions on transfer under state and/or federal securities laws as set
forth herein or as otherwise required by such laws at the time a transfer is
proposed.

 

4.4                                 Authorization;
Binding Obligations.  All corporate,
partnership or limited liability company, as the case may be, action on the
part of the Company and each of its Subsidiaries (including their respective
officers and directors) necessary for the authorization of this Agreement and
the Related Agreements, the performance of all obligations of the Company and
its Subsidiaries hereunder and under the other Related Agreements at the
Closing and, the authorization, sale, issuance and delivery of the Note,  Warrant and Interest Shares has been taken or
will be taken prior to the Closing.  This
Agreement and the Related Agreements, when executed and delivered and to the
extent it is a party thereto, will be valid and binding obligations of each of
the Company and each of its Subsidiaries, enforceable against each such person
or entity in accordance with their terms, except:

 

4

 

(a)                                  as
limited by applicable bankruptcy, insolvency, reorganization, moratorium or
other laws of general application affecting enforcement of creditors’ rights;
and

 

(b)                                 general
principles of equity that restrict the availability of equitable or legal
remedies.

 

The sale of the Note and the subsequent conversion of
the Note into Note Shares are not and will not be subject to any preemptive
rights or rights of first refusal that have not been properly waived or
complied with.  The issuance of the
Warrant and the subsequent exercise of the Warrant for Warrant Shares are not
and will not be subject to any preemptive rights or rights of first refusal
that have not been properly waived or complied with.  The issuance of the Interest Shares is not
and will not be subject to any preemptive rights or rights of first refusal
that have not been properly waived or complied with.

 

4.5                                 Liabilities.  Except as set forth on Schedule 4.5,
neither the Company nor any of its Subsidiaries has any liabilities, except
current liabilities incurred in the ordinary course of business and liabilities
disclosed in any of the Company’s filings under the Securities Exchange Act of
1934 (“Exchange Act”) made prior to the date of this Agreement (collectively,
the “Exchange Act Filings”), copies of which have been provided to the
Purchaser.

 

4.6                                 Agreements;
Action.  Except as set forth on Schedule 4.6 or
as disclosed in any Exchange Act Filings:

 

(a)                                  there
are no agreements, understandings, instruments, contracts, proposed
transactions, judgments, orders, writs or decrees to which the Company or any
of its Subsidiaries is a party or to its knowledge by which it is bound which
involves: (i) obligations (contingent or otherwise) of, or payments to,
the Company or any of its Subsidiaries in excess of $100,000 (other than
obligations of, or payments to, the Company or any of its Subsidiaries arising
from purchase or sale agreements entered into in the ordinary course of
business); or (ii) the transfer or license of any patent, copyright, trade
secret or other proprietary right to or from the Company or any of its
Subsidiaries (other than licenses arising from the purchase of “off the shelf”
or other standard products); or (iii) provisions restricting the
development, manufacture or distribution of the Company’s or any of its
Subsidiaries products or services; or (iv) indemnification by the Company
or any of its Subsidiaries with respect to infringements of proprietary rights.

 

(b)                                 Since
September 30, 2005, (the “Balance Sheet Date”), neither the Company nor
any of its Subsidiaries has:  (i) declared
or paid any dividends, or authorized or made any distribution upon or with
respect to any class or series of its capital stock; (ii) incurred any
indebtedness for money borrowed or any other liabilities (other than ordinary
course obligations) individually in excess of $100,000 or, in the case of
indebtedness and/or liabilities individually less than $100,000, in excess of
$100,000 in the aggregate; (iii) made any loans or advances to any person
or entity not in excess, individually or in the aggregate, of $100,000, other
than ordinary course advances for

 

5

 

travel expenses; or (iv) sold, exchanged or otherwise disposed of
any of its assets or rights, other than the sale of its inventory in the
ordinary course of business.

 

(c)                                  For
the purposes of subsections (a) and (b) above, all indebtedness, liabilities,
agreements, understandings, instruments, contracts and proposed transactions
involving the same person or entity (including persons or entities the Company
or any Subsidiary of the Company has reason to believe are affiliated
therewith) shall be aggregated for the purpose of meeting the individual
minimum dollar amounts of such subsections.

 

(d)                                 The
Company maintains disclosure controls and procedures (“Disclosure Controls”) as
required by the Securities and Exchange Commission (“SEC”) for companies the
size of the Company designed to ensure that information required to be
disclosed by the Company in the reports that it files or submits under the
Exchange Act is recorded, processed, summarized, and reported, within the time
periods specified in the rules and forms of the SEC.

 

(i)                                     The
Company makes and keep books, records, and accounts, that, in reasonable
detail, accurately and fairly reflect the transactions and dispositions of the
Company’s assets.  The Company maintains
internal control over financial reporting (“Financial Reporting Controls”) as
required by the SEC for entities of its size.

 

4.7                                 Obligations
to Related Parties.  Except as set
forth on Schedule 4.7, there are no obligations of the Company or any of
its Subsidiaries to officers, directors, stockholders or employees of the
Company or any of its Subsidiaries other than:

 

(a)                                  for
payment of salary for services rendered and for bonus payments;

 

(b)                                 reimbursement
for reasonable expenses incurred on behalf of the Company and its Subsidiaries;

 

(c)                                  for
other standard employee benefits made generally available to all employees
(including stock option agreements outstanding under any stock option plan
approved by the Board of Directors of the Company and each Subsidiary of the
Company, as applicable); and

 

(d)                                 obligations
listed in the Company’s and each of its Subsidiary’s financial statements or
disclosed in any of the Company’s Exchange Act Filings.

 

Except as described above or set forth on Schedule 4.7,
none of its officers, directors or, to the best of the Company’s knowledge, key
employees or stockholders of the Company or any of its Subsidiaries or any
members of their immediate families, are indebted to the Company or any of its
Subsidiaries, individually or in the aggregate, in excess of $100,000 or have
any direct or indirect ownership interest in any firm or corporation with which
the Company or any of its Subsidiaries is affiliated or with which the Company
or any of its Subsidiaries has a business relationship, or any firm or corporation
which competes with the Company or any of its Subsidiaries, other than passive
investments in publicly traded companies (representing less than

 

6

 

one percent (1%) of such company) which may compete
with the Company or any of its Subsidiaries. 
Except as described above, no officer, director or stockholder of the
Company or any of its Subsidiaries, or any member of their immediate families,
is, directly or indirectly, interested in any material contract with the
Company or any of its Subsidiaries and no agreements, understandings or
proposed transactions are contemplated between the Company or any of its
Subsidiaries and any such person.  Except
as set forth on Schedule 4.7, neither the Company nor any of its
Subsidiaries is a guarantor or indemnitor of any indebtedness of any other
person or entity.

 

4.8                                 Changes.  Since the Balance Sheet Date, except as
disclosed in any Exchange Act Filing or in any Schedule to this Agreement
or to any of the Related Agreements, there has not been:

 

(a)                                  any
change in the business, assets, liabilities, condition (financial or
otherwise), properties, operations or prospects of the Company or any of its
Subsidiaries, which individually or in the aggregate has had, or could
reasonably be expected to have, individually or in the aggregate, a Material
Adverse Effect;

 

(b)                                 any
resignation or termination of any officer, key employee or group of employees
of the Company or any of its Subsidiaries;

 

(c)                                  any
material change, except in the ordinary course of business, in the contingent
obligations of the Company or any of its Subsidiaries by way of guaranty,
endorsement, indemnity, warranty or otherwise;

 

(d)                                 any
damage, destruction or loss, whether or not covered by insurance, which has
had, or could reasonably be expected to have, individually or in the aggregate,
a Material Adverse Effect;

 

(e)                                  any
waiver by the Company or any of its Subsidiaries of a valuable right or of a
material debt owed to it;

 

(f)                                    any
direct or indirect loans made by the Company or any of its Subsidiaries to any
stockholder, employee, officer or director of the Company or any of its
Subsidiaries, other than advances made in the ordinary course of business;

 

(g)                                 any
material change in any compensation arrangement or agreement with any employee,
officer, director or stockholder of the Company or any of its Subsidiaries;

 

(h)                                 any
declaration or payment of any dividend or other distribution of the assets of
the Company or any of its Subsidiaries;

 

(i)                                     any
labor organization activity related to the Company or any of its Subsidiaries;

 

(j)                                     any
debt, obligation or liability incurred, assumed or guaranteed by the Company or
any of its Subsidiaries, except those for immaterial amounts and for current
liabilities incurred in the ordinary course of business;

 

7

 

(k)                                  any
sale, assignment or transfer of any patents, trademarks, copyrights, trade
secrets or other intangible assets owned by the Company or any of its
Subsidiaries;

 

(l)                                     any
change in any material agreement to which the Company or any of its
Subsidiaries is a party or by which either the Company or any of its
Subsidiaries is bound which either individually or in the aggregate has had, or
could reasonably be expected to have, individually or in the aggregate, a
Material Adverse Effect;

 

(m)                               any
other event or condition of any character that, either individually or in the
aggregate, has had, or could reasonably be expected to have, individually or in
the aggregate, a Material Adverse Effect; or

 

(n)                                 any
arrangement or commitment by the Company or any of its Subsidiaries to do any
of the acts described in subsection (a) through (m) above.

 

4.9                                 Title
to Properties and Assets; Liens, Etc. 
Except as set forth on Schedule 4.9, each of the Company and each
of its Subsidiaries has good and marketable title to its properties and assets,
and good title to its leasehold interests, in each case subject to no mortgage,
pledge, lien, lease, encumbrance or charge, other than:

 

(a)                                  Minor
liens and encumbrances which do not materially detract from the value of the
property subject thereto or materially impair the operations of the Company or
any of its Subsidiaries, so long as in each such case, such liens and
encumbrances have no effect on the lien priority of the Purchaser in such
property; and

 

(b)                                 Those
that have otherwise arisen in the ordinary course of business, so long as they
have no effect on the lien priority of the Purchaser therein.

 

All facilities, machinery, equipment, fixtures,
vehicles and other properties owned, leased or used by the Company and its
Subsidiaries are in good operating condition and repair and are reasonably fit
and usable for the purposes for which they are being used.  Except as set forth on Schedule 4.9, the
Company and its Subsidiaries are in compliance with all material terms of each
lease to which it is a party or is otherwise bound.

 

4.10                           Intellectual
Property.

 

(a)                                  Each
of the Company and each of its Subsidiaries owns or possesses sufficient legal
rights to all patents, trademarks, service marks, trade names, copyrights,
trade secrets, licenses, information and other proprietary rights and processes
necessary for its business as now conducted and, to the Company’s knowledge, as
presently proposed to be conducted (the “Intellectual Property”), without any
known infringement of the rights of others. 
There are no outstanding options, licenses or agreements of any kind
relating to the foregoing proprietary rights, nor is the Company or any of its
Subsidiaries bound by or a party to any options, licenses or agreements of any
kind with respect to the patents, trademarks, service marks, trade names,
copyrights, trade secrets, licenses, information and other proprietary rights
and processes of any other person or entity other than such licenses or
agreements arising from the purchase of “off the shelf” or standard products.

 

8

 

(b)                                 Neither
the Company nor any of its Subsidiaries has received any communications alleging
that the Company or any of its Subsidiaries has violated any of the patents,
trademarks, service marks, trade names, copyrights or trade secrets or other
proprietary rights of any other person or entity, nor is the Company or any of
its Subsidiaries aware of any basis therefor.

 

(c)                                  The
Company does not believe it is or will be necessary to utilize any inventions,
trade secrets or proprietary information of any of its employees made prior to
their employment by the Company or any of its Subsidiaries, except for
inventions, trade secrets or proprietary information that have been rightfully
assigned to the Company or any of its Subsidiaries.

 

4.11                           Compliance
with Other Instruments.  Neither the
Company nor any of its Subsidiaries is in violation or default of (x) any term
of its Charter or Bylaws, or (y) any provision of any indebtedness, mortgage,
indenture, contract, agreement or instrument to which it is party or by which
it is bound or of any judgment, decree, order or writ, which violation or default,
in the case of this clause (y), has had, or could reasonably be expected to
have, either individually or in the aggregate, a Material Adverse Effect.  The execution, delivery and performance of
and compliance with this Agreement and the Related Agreements to which it is a
party, and the issuance and sale of the Note by the Company and the other
Securities by the Company each pursuant hereto and thereto, will not, with or
without the passage of time or giving of notice, result in any such material
violation, or be in conflict with or constitute a default under any such term
or provision, or result in the creation of any mortgage, pledge, lien,
encumbrance or charge upon any of the properties or assets of the Company or
any of its Subsidiaries or the suspension, revocation, impairment, forfeiture
or nonrenewal of any permit, license, authorization or approval applicable to
the Company, its business or operations or any of its assets or properties.

 

4.12                           Litigation.  Except as set forth on Schedule 4.12
hereto, there is no action, suit, proceeding or investigation pending or, to
the Company’s knowledge, currently threatened against the Company or any of its
Subsidiaries that prevents the Company or any of its Subsidiaries from entering
into this Agreement or the other Related Agreements, or from consummating the
transactions contemplated hereby or thereby, or which has had, or could
reasonably be expected to have, either individually or in the aggregate, a
Material Adverse Effect or any change in the current equity ownership of the
Company or any of its Subsidiaries, nor is the Company aware that there is any
basis to assert any of the foregoing. 
Neither the Company nor any of its Subsidiaries is a party to or subject
to the provisions of any order, writ, injunction, judgment or decree of any
court or government agency or instrumentality. 
There is no action, suit, proceeding or investigation by the Company or
any of its Subsidiaries currently pending or which the Company or any of its
Subsidiaries intends to initiate.

 

4.13                           Tax
Returns and Payments.  Each of the
Company and each of its Subsidiaries has timely filed all tax returns (federal,
state and local) required to be filed by it. 
All taxes shown to be due and payable on such returns, any assessments
imposed, and all other taxes due and payable by the Company or any of its
Subsidiaries on or before the Closing, have been paid or will be paid prior to
the time they become delinquent.  Except
as set forth on Schedule 4.13, neither the Company nor any of its Subsidiaries
has been advised:

 

9

 

(a)                                  that
any of its returns, federal, state or other, have been or are being audited as
of the date hereof; or

 

(b)                                 of
any adjustment, deficiency, assessment or court decision in respect of its
federal, state or other taxes.

 

The Company has no knowledge of any liability for any
tax to be imposed upon its properties or assets as of the date of this
Agreement that is not adequately provided for.

 

4.14                           Employees.  Except as set forth on Schedule 4.14,
neither the Company nor any of its Subsidiaries has any collective bargaining
agreements with any of its employees. 
There is no labor union organizing activity pending or, to the Company’s
knowledge, threatened with respect to the Company or any of its
Subsidiaries.  Except as disclosed in the
Exchange Act Filings or on Schedule 4.14, neither the Company nor any of
its Subsidiaries is a party to or bound by any currently effective employment
contract, deferred compensation arrangement, bonus plan, incentive plan, profit
sharing plan, retirement agreement or other employee compensation plan or
agreement.  To the Company’s knowledge,
no employee of the Company or any of its Subsidiaries, nor any consultant with
whom the Company or any of its Subsidiaries has contracted, is in violation of
any term of any employment contract, proprietary information agreement or any
other agreement relating to the right of any such individual to be employed by,
or to contract with, the Company or any of its Subsidiaries because of the
nature of the business to be conducted by the Company or any of its
Subsidiaries; and to the Company’s knowledge the continued employment by the
Company and its Subsidiaries of their present employees, and the performance of
the Company’s and its Subsidiaries’ contracts with its independent contractors,
will not result in any such violation. 
Neither the Company nor any of its Subsidiaries is aware that any of its
employees is obligated under any contract (including licenses, covenants or
commitments of any nature) or other agreement, or subject to any judgment,
decree or order of any court or administrative agency that would interfere with
their duties to the Company or any of its Subsidiaries.  Neither the Company nor any of its
Subsidiaries has received any notice alleging that any such violation has
occurred.  Except for employees who have
a current effective employment agreement with the Company or any of its
Subsidiaries, no employee of the Company or any of its Subsidiaries has been
granted the right to continued employment by the Company or any of its
Subsidiaries or to any material compensation following termination of
employment with the Company or any of its Subsidiaries.  Except as set forth on Schedule 4.14,
the Company is not aware that any officer, key employee or group of employees
intends to terminate his, her or their employment with the Company or any of
its Subsidiaries, nor does the Company or any of its Subsidiaries have a
present intention to terminate the employment of any officer, key employee or
group of employees.

 

4.15                           Registration
Rights and Voting Rights.  Except for
registration rights previously granted to Purchaser and except as disclosed in
Exchange Act Filings, neither the Company nor any of its Subsidiaries is
presently under any obligation, and neither the Company nor any of its
Subsidiaries has granted any rights, to register any of the Company’s or its
Subsidiaries’ presently outstanding securities or any of its securities that
may hereafter be issued.  Except as set
forth on Schedule 4.15 and except as disclosed in Exchange Act Filings, to
the Company’s knowledge, no stockholder of the Company or any of its
Subsidiaries has entered

 

10

 

into any agreement with respect to the voting of equity
securities of the Company or any of its Subsidiaries.

 

4.16                           Compliance
with Laws; Permits.  Neither the
Company nor any of its Subsidiaries is in violation of any provision of the
Sarbanes-Oxley Act of 2002 or any SEC related regulation or rule or any rule of
the Principal Market (as hereafter defined) promulgated thereunder or any other
applicable statute, rule, regulation, order or restriction of any domestic or
foreign government or any instrumentality or agency thereof in respect of the
conduct of its business or the ownership of its properties which has had, or
could reasonably be expected to have, either individually or in the aggregate,
a Material Adverse Effect.  No
governmental orders, permissions, consents, approvals or authorizations are
required to be obtained and no registrations or declarations are required to be
filed in connection with the execution and delivery of this Agreement or any
other Related Agreement and the issuance of any of the Securities, except such
as have been duly and validly obtained or filed, or with respect to any filings
that must be made after the Closing, as will be filed in a timely manner.  Each of the Company and its Subsidiaries has
all material franchises, permits, licenses and any similar authority necessary
for the conduct of its business as now being conducted by it, the lack of which
could, either individually or in the aggregate, reasonably be expected to have
a Material Adverse Effect.

 

4.17                           Environmental
and Safety Laws.  Neither the
Company nor any of its Subsidiaries is in violation of any applicable statute,
law or regulation relating to the environment or occupational health and
safety, and to its knowledge, no material expenditures are or will be required
in order to comply with any such existing statute, law or regulation.  Except as set forth on Schedule 4.17, no
Hazardous Materials (as defined below) are used or have been used, stored, or
disposed of by the Company or any of its Subsidiaries or, to the Company’s
knowledge, by any other person or entity on any property owned, leased or used
by the Company or any of its Subsidiaries. 
For the purposes of the preceding sentence, “Hazardous Materials” shall
mean:

 

(a)                                  materials
which are listed or otherwise defined as “hazardous” or “toxic” under any
applicable local, state, federal and/or foreign laws and regulations that
govern the existence and/or remedy of contamination on property, the protection
of the environment from contamination, the control of hazardous wastes, or
other activities involving hazardous substances, including building materials;
or

 

(b)                                 any
petroleum products or nuclear materials.

 

4.18                           Valid
Offering.  Assuming the accuracy of the representations
and warranties of the Purchaser contained in this Agreement, the offer, sale
and issuance of the Securities will be exempt from the registration
requirements of the Securities Act of 1933, as amended (the “Securities Act”),
and will have been registered or qualified (or are exempt from registration and
qualification) under the registration, permit or qualification requirements of
all applicable state securities laws.

 

4.19                           Full
Disclosure.  Each of the Company and each of its
Subsidiaries has provided the Purchaser with all information requested by the
Purchaser in connection with its decision to purchase the Note and Warrant,
including all information the Company and its

 

11

 

Subsidiaries believe is reasonably necessary to make such
investment decision.  Neither this
Agreement, the Related Agreements, the exhibits and schedules hereto and
thereto nor any other document delivered by the Company or any of its
Subsidiaries to Purchaser or its attorneys or agents in connection herewith or
therewith or with the transactions contemplated hereby or thereby, contain any
untrue statement of a material fact nor omit to state a material fact necessary
in order to make the statements contained herein or therein, in light of the
circumstances in which they are made, not misleading.  Any financial projections and other estimates
provided to the Purchaser by the Company or any of its Subsidiaries were based
on the Company’s and its Subsidiaries’ experience in the industry and on
assumptions of fact and opinion as to future events which the Company or any of
its Subsidiaries, at the date of the issuance of such projections or estimates,
believed to be reasonable.

 

4.20                           Insurance.  Each of the Company and each of its
Subsidiaries has general commercial, product liability, fire and casualty
insurance policies with coverages which the Company believes are customary for
companies similarly situated to the Company and its Subsidiaries in the same or
similar business.

 

4.21                           SEC
Reports.  Except as set forth on Schedule 4.21,
the Company has filed all proxy statements, reports and other documents
required to be filed by it under the Securities Exchange Act 1934, as amended
(the “Exchange Act”).  The Company has
furnished the Purchaser copies of:  (i) its
Annual Reports on Form 10-KSB for its fiscal years ended [Insert Date];
and (ii) its Quarterly Reports on Form 10-QSB for its fiscal quarter
ended [Insert Date], and the Form 8-K filings which it has made during the
fiscal year [Insert Date] to date (collectively, the “SEC Reports”).  Except as set forth on Schedule 4.21,
each SEC Report was, at the time of its filing, in substantial compliance with
the requirements of its respective form and none of the SEC Reports, nor the
financial statements (and the notes thereto) included in the SEC Reports, as of
their respective filing dates, contained any untrue statement of a material
fact or omitted to state a material fact required to be stated therein or
necessary to make the statements therein, in light of the circumstances under
which they were made, not misleading.

 

4.22                           Listing.  The Company’s Common Stock is listed or
quoted, as applicable, on a Principal Market (as hereafter defined) and
satisfies and at all times hereafter will satisfy, all requirements for the
continuation of such listing or quotation, as applicable.  The Company has not received any notice that
its Common Stock will be delisted from, or no longer quoted on, as applicable,
the Principal Market or that its Common Stock does not meet all requirements
for such listing or quotation, as applicable. 
For purposes hereof, the term “Principal Market” means the NASD Over The
Counter Bulletin Board, NASDAQ Capital Market, NASDAQ National Markets System,
American Stock Exchange or New York Stock Exchange (whichever of the foregoing
is at the time the principal trading exchange or market for the Common Stock).

 

4.23                           No
Integrated Offering.  Neither the
Company, nor any of its Subsidiaries or affiliates, nor any person acting on
its or their behalf, has directly or indirectly made any offers or sales of any
security or solicited any offers to buy any security (other than securities
issued to Purchaser on August 25, 2005) under circumstances that would
cause the offering of the Securities pursuant to this Agreement or any of the
Related Agreements to be integrated with prior offerings by the Company for
purposes of the Securities Act which would prevent the Company from selling the
Securities pursuant to Rule 506 under the Securities Act, or any

 

12

 

applicable exchange-related stockholder approval provisions,
nor will the Company or any of its affiliates or Subsidiaries take any action
or steps that would cause the offering of the Securities to be integrated with
other offerings.

 

4.24                           Stop
Transfer.  The Securities are restricted securities as
of the date of this Agreement.  Neither
the Company nor any of its Subsidiaries will issue any stop transfer order or
other order impeding the sale and delivery of any of the Securities at such time
as the Securities are registered for public sale or an exemption from
registration is available, except as required by state and federal securities
laws.

 

4.25                           Dilution.  The Company specifically acknowledges that
its obligation to issue the Interest Shares, the shares of Common Stock upon
conversion of the Note and exercise of the Warrant is binding upon the Company
and enforceable regardless of the dilution such issuance may have on the
ownership interests of other shareholders of the Company.

 

4.26                           Patriot
Act.   The
Company certifies that, to the best of Company’s knowledge, neither the Company
nor any of its Subsidiaries has been designated, nor is or shall be owned or
controlled, by a “suspected terrorist” as defined in Executive Order
13224.  The Company hereby acknowledges
that the Purchaser seeks to comply with all applicable laws concerning money
laundering and related activities.  In
furtherance of those efforts, the Company hereby represents, warrants and covenants
that:  (i) none of the cash or
property that the Company or any of its Subsidiaries will pay or will
contribute to the Purchaser has been or shall be derived from, or related to,
any activity that is deemed criminal under United States law; and (ii) no
contribution or payment by the Company or any of its Subsidiaries to the
Purchaser, to the extent that they are within the Company’s and/or its
Subsidiaries’ control shall cause the Purchaser to be in violation of the
United States Bank Secrecy Act, the United States International Money Laundering
Control Act of 1986 or the United States International Money Laundering
Abatement and Anti-Terrorist Financing Act of 2001.  The Company shall promptly notify the
Purchaser if any of these representations, warranties or covenants ceases to be
true and accurate regarding the Company or any of its Subsidiaries.  The Company shall provide the Purchaser all
additional information regarding the Company or any of its Subsidiaries that
the Purchaser deems necessary or convenient to ensure compliance with all
applicable laws concerning money laundering and similar activities.  The Company understands and agrees that if at
any time it is discovered that any of the foregoing representations, warranties
or covenants are incorrect, or if otherwise required by applicable law or
regulation related to money laundering or similar activities, the Purchaser may
undertake appropriate actions to ensure compliance with applicable law or
regulation, including but not limited to segregation and/or redemption of the
Purchaser’s investment in the Company. 
The Company further understands that the Purchaser may release
confidential information about the Company and its Subsidiaries and, if
applicable, any underlying beneficial owners, to proper authorities if the
Purchaser, in its sole discretion, determines that it is in the best interests
of the Purchaser in light of relevant rules and regulations under the laws
set forth in subsection (ii) above.

 

4.27                           ERISA.  Based upon the Employee Retirement Income
Security Act of 1974 (“ERISA”), and the regulations and published
interpretations thereunder:  (i) neither
the Company nor any of its Subsidiaries has engaged in any Prohibited
Transactions (as defined in Section 406 of ERISA and Section 4975 of
the  Internal Revenue Code of 1986, as amended (the

 

13

 

“Code”)); (ii) each of the Company and each of
its Subsidiaries has met all applicable minimum funding requirements under Section 302
of ERISA in respect of its plans; (iii) neither the Company nor any of its
Subsidiaries has any knowledge of any event or occurrence which would cause the
Pension Benefit Guaranty Corporation to institute proceedings under Title IV of
ERISA to terminate any employee benefit plan(s); (iv) neither the Company
nor any of its Subsidiaries has any fiduciary responsibility for investments
with respect to any plan existing for the benefit of persons other than the
Company’s or such Subsidiary’s employees; and (v) neither the Company nor
any of its Subsidiaries has withdrawn, completely or partially, from any
multi-employer pension plan so as to incur liability under the Multiemployer
Pension Plan Amendments Act of 1980.

 

5.                                       Representations
and Warranties of the Purchaser.  The Purchaser
hereby represents and warrants to the Company as follows (such representations
and warranties do not lessen or obviate the representations and warranties of
the Company set forth in this Agreement):

 

5.1                                 No
Shorting.  The Purchaser or any of its affiliates and
investment partners has not, will not and will not cause any person or entity,
to directly engage in “short sales” of the Company’s Common Stock as long as
the Note shall be outstanding.

 

5.2                                 Requisite
Power and Authority.  The Purchaser
has all necessary power and authority under all applicable provisions of law to
execute and deliver this Agreement and the Related Agreements and to carry out
their provisions.  All corporate action
on the Purchaser’s part required for the lawful execution and delivery of this
Agreement and the Related Agreements have been or will be effectively taken
prior to the Closing.  Upon their
execution and delivery, this Agreement and the Related Agreements will be valid
and binding obligations of the Purchaser, enforceable in accordance with their
terms, except:

 

(a)                                  as
limited by applicable bankruptcy, insolvency, reorganization, moratorium or
other laws of general application affecting enforcement of creditors’ rights;
and

 

(b)                                 as
limited by general principles of equity that restrict the availability of
equitable and legal remedies.

 

5.3                                 Investment
Representations.  The Purchaser
understands that the Securities are being offered and sold pursuant to an
exemption from registration contained in the Securities Act based in part upon
the Purchaser’s representations contained in this Agreement, including, without
limitation, that the Purchaser is an “accredited investor” within the meaning
of Regulation D under the Securities Act of 1933, as amended (the “Securities
Act”).  The Purchaser confirms that it
has received or has had full access to all the information it considers
necessary or appropriate to make an informed investment decision with respect
to the Interest Shares to be issued to it under this Agreement, the Note and
the Warrant to be purchased by it under this Agreement and the Note Shares and
the Warrant Shares acquired by it upon the conversion of the Note and the
exercise of the Warrant, respectively. 
The Purchaser further confirms that it has had an opportunity to ask
questions and receive answers from the Company regarding the Company’s and its
Subsidiaries’ business, management and financial affairs and the terms and
conditions of the Offering, the Note, the Warrant and the Securities and to
obtain

 

14

 

additional information (to the extent the Company possessed
such information or could acquire it without unreasonable effort or expense)
necessary to verify any information furnished to the Purchaser or to which the
Purchaser had access.

 

5.4                                 The
Purchaser Bears Economic Risk.  The Purchaser
has substantial experience in evaluating and investing in private placement
transactions of securities in companies similar to the Company so that it is
capable of evaluating the merits and risks of its investment in the Company and
has the capacity to protect its own interests. 
The Purchaser must bear the economic risk of this investment until the
Securities are sold pursuant to: (i) an effective registration statement
under the Securities Act; or (ii) an exemption from registration is
available with respect to such sale.

 

5.5                                 Acquisition
for Own Account.  The Purchaser
is acquiring the Interest Shares, the Note and Warrant and the Note Shares and
the Warrant Shares for the Purchaser’s own account for investment only, and not
as a nominee or agent and not with a view towards or for resale in connection
with their distribution.

 

5.6                                 The
Purchaser Can Protect Its Interest.  The Purchaser
represents that by reason of its, or of its management’s, business and financial
experience, the Purchaser has the capacity to evaluate the merits and risks of
its investment in the Note, the Warrant and the Securities and to protect its
own interests in connection with the transactions contemplated in this
Agreement and the Related Agreements. 
Further, the Purchaser is aware of no publication of any advertisement
in connection with the transactions contemplated in the Agreement or the
Related Agreements.

 

5.7                                 Accredited
Investor.  The Purchaser represents that it is an
accredited investor within the meaning of Regulation D under the Securities
Act.

 

5.8                                 Patriot
Act.  The Purchaser certifies
that, to the best of its knowledge, the Purchaser has not been designated, and
is not owned or controlled, by a “suspected terrorist” as defined in Executive
Order 13224.  The Purchaser seeks to
comply with all applicable laws concerning money laundering and related
activities.  In furtherance of those
efforts, the Purchaser hereby represents, warrants and covenants that:  (i) none of the cash or property that
the Purchaser will use to make the Loans has been or shall be derived from, or
related to, any activity that is deemed criminal under United States law; and (ii) no
disbursement by the Purchaser to any Company to the extent within the Purchaser’s
control, shall cause the Purchaser to be in violation of the United States Bank
Secrecy Act, the United States International Money Laundering Control Act of
1986 or the United States International Money Laundering Abatement and
Anti-Terrorist Financing Act of 2001. 
The Purchaser shall promptly notify the Company Agent if any of these
representations ceases to be true and accurate regarding the Purchaser.  The Purchaser agrees to provide the Company
any additional information regarding the Purchaser that the Company deems
necessary or convenient to ensure compliance with all applicable laws
concerning money laundering and similar activities.  The Purchaser understands and agrees that if
at any time it is discovered that any of the foregoing representations are
incorrect, or if otherwise required by applicable law or regulation related to
money laundering similar activities, The Purchaser may undertake appropriate
actions to ensure compliance with applicable law or regulation, including but
not limited to segregation and/or redemption of the

 

15

 

Purchaser’s investment in
the Company.  The Purchaser further
understands that the Company  may release
information about the Purchaser and, if applicable, any underlying beneficial
owners, to proper authorities if the Company, in its sole discretion,
determines that it is in the best interests of the Company in light of relevant
rules and regulations under the laws set forth in subsection (ii) above

 

5.9                                 Legends.

 

(a)                                  The
Note shall bear substantially the following legend:

 

“THIS NOTE AND THE COMMON STOCK ISSUABLE UPON
CONVERSION OF THIS NOTE HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF
1933, AS AMENDED, OR ANY APPLICABLE STATE SECURITIES LAWS.  THIS NOTE AND THE COMMON STOCK ISSUABLE UPON
CONVERSION OF THIS NOTE MAY NOT BE SOLD, OFFERED FOR SALE, PLEDGED OR
HYPOTHECATED IN THE ABSENCE OF AN EFFECTIVE REGISTRATION STATEMENT AS TO THIS
NOTE OR SUCH SHARES UNDER SAID ACT AND APPLICABLE STATE SECURITIES LAWS OR AN OPINION
OF COUNSEL REASONABLY SATISFACTORY TO IWT TESORO CORPORATION THAT SUCH
REGISTRATION IS NOT REQUIRED.”

 

(b)                                 The
Interest Shares, the Note Shares and the Warrant Shares, if not issued by DWAC
system (as hereinafter defined), shall bear a legend which shall be in
substantially the following form until such shares are covered by an effective
registration statement filed with the SEC:

 

“THE SHARES REPRESENTED BY THIS CERTIFICATE HAVE NOT
BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED, OR ANY APPLICABLE
STATE SECURITIES LAWS.  THESE SHARES MAY NOT
BE SOLD, OFFERED FOR SALE, PLEDGED OR HYPOTHECATED IN THE ABSENCE OF AN
EFFECTIVE REGISTRATION STATEMENT UNDER SUCH SECURITIES ACT AND APPLICABLE STATE
LAWS OR AN OPINION OF COUNSEL REASONABLY SATISFACTORY TO IWT TESORO
CORPORATION  THAT SUCH REGISTRATION IS
NOT REQUIRED.”

 

(c)                                  The
Warrant shall bear substantially the following legend:

 

“THIS WARRANT AND THE COMMON SHARES ISSUABLE UPON
EXERCISE OF THIS WARRANT HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF
1933, AS AMENDED, OR ANY APPLICABLE STATE SECURITIES LAWS.  THIS WARRANT AND THE COMMON SHARES ISSUABLE
UPON EXERCISE OF THIS WARRANT MAY NOT BE SOLD, OFFERED FOR SALE, PLEDGED
OR HYPOTHECATED IN THE ABSENCE OF AN EFFECTIVE REGISTRATION STATEMENT AS TO
THIS WARRANT OR THE UNDERLYING SHARES OF COMMON STOCK

 

16

 

UNDER SAID ACT AND APPLICABLE STATE SECURITIES LAWS OR
AN OPINION OF COUNSEL REASONABLY SATISFACTORY TO IWT TESORO CORPORATION THAT
SUCH REGISTRATION IS NOT REQUIRED.”

 

6.                                       Covenants
of the Company.  The Company
covenants and agrees with the Purchaser as follows:

 

6.1                                 Stop-Orders.  The Company will advise the Purchaser,
promptly after it receives notice of issuance by the SEC, any state securities
commission or any other regulatory authority of any stop order or of any order
preventing or suspending any offering of any securities of the Company, or of
the suspension of the qualification of the Common Stock of the Company for
offering or sale in any jurisdiction, or the initiation of any proceeding for
any such purpose.

 

6.2                                 Listing.  The Company shall promptly secure the listing
or quotation, as applicable, of the Interest Shares, the shares of Common Stock
issuable upon conversion of the Note and upon the exercise of the Warrant on
the Principal Market upon which shares of Common Stock are listed or quoted for
trading, as applicable (subject to official notice of issuance) and shall
maintain such listing or quotation, as applicable, so long as any other shares
of Common Stock shall be so listed or quoted, as applicable.  The Company will maintain the listing or
quotation, as applicable, of its Common Stock on the Principal Market, and will
comply in all material respects with the Company’s reporting, filing and other
obligations under the bylaws or rules of the National Association of
Securities Dealers (“NASD”) and such exchanges, as applicable.

 

6.3                                 Market
Regulations.  The Company shall notify
the SEC, NASD and applicable state authorities, in accordance with their
requirements, of the transactions contemplated by this Agreement, and shall
take all other necessary action and proceedings as may be required and
permitted by applicable law, rule and regulation, for the legal and valid
issuance of the Securities to the Purchaser and promptly provide copies thereof
to the Purchaser.

 

6.4                                 Reporting
Requirements.  The Company
shall timely file with the SEC all reports required to be filed pursuant to the
Exchange Act and refrain from terminating its status as an issuer required by
the Exchange Act to file reports thereunder even if the Exchange Act or the rules or
regulations thereunder would permit such termination.

 

6.5                                 Use
of Funds.  The Company shall use the proceeds of the
sale of the Note and the Warrant for general working capital purposes only.

 

6.6                                 Access
to Facilities.  Intentionally
omitted.

 

6.7                                 Taxes.  Each of the Company and each of its
Subsidiaries will promptly pay and discharge, or cause to be paid and
discharged, when due and payable, all taxes, assessments and governmental
charges or levies imposed upon the income, profits, property or business of the
Company and its Subsidiaries; provided, however, that any such tax, assessment,

 

17

 

charge or levy need not be paid currently if (i) the
validity thereof shall currently and diligently be contested in good faith by
appropriate proceedings, (ii) such tax, assessment, charge or levy shall
have no effect on the lien priority of the Purchaser in any property of the
Company or any of its Subsidiaries and (iii) if the Company and/or such
Subsidiary shall have set aside on its books adequate reserves with respect
thereto in accordance with GAAP; and provided, further, that the Company and
its Subsidiaries will pay all such taxes, assessments, charges or levies
forthwith upon the commencement of proceedings to foreclose any lien which may
have attached as security therefor.

 

6.8                                 Insurance.  Each of the Company and its Subsidiaries will
keep its assets which are of an insurable character insured by financially
sound and reputable insurers against loss or damage by fire, explosion and
other risks customarily insured against by companies in similar business
similarly situated as the Company and its Subsidiaries; and the Company and its
Subsidiaries will maintain, with financially sound and reputable insurers,
insurance against other hazards and risks and liability to persons and property
to the extent and in the manner which the Company reasonably believes is
customary for companies in similar business similarly situated as the Company
and its Subsidiaries and to the extent available on commercially reasonable
terms.  The Company, and each of its
Subsidiaries, will jointly and severally bear the full risk of loss from any
loss of any nature whatsoever with respect to the assets pledged to the
Purchaser as security for their respective obligations hereunder and under the
Related Agreements.  At the Company’s and
each of its Subsidiaries’ joint and several cost and expense in amounts and
with carriers reasonably acceptable to the Purchaser, each of the Company and
each of its Subsidiaries shall (i) keep all its insurable properties and
properties in which it has an interest insured against the hazards of fire, flood,
sprinkler leakage, those hazards covered by extended coverage insurance and
such other hazards, and for such amounts, as is customary in the case of
companies engaged in businesses similar to the Company’s or the respective
Subsidiary’s including business interruption insurance; (ii) maintain a
bond in such amounts as is customary in the case of companies engaged in
businesses similar to the Company’s or the respective Subsidiary’s insuring
against larceny, embezzlement or other criminal misappropriation of insured’s
officers and employees who may either singly or jointly with others at any time
have access to the assets or funds of the Company or any of its Subsidiaries
either directly or through governmental authority to draw upon such funds or to
direct generally the disposition of such assets; (iii) maintain public and
product liability insurance against claims for personal injury, death or
property damage suffered by others; (iv) maintain all such worker’s
compensation or similar insurance as may be required under the laws of any
state or jurisdiction in which the Company or the respective Subsidiary is
engaged in business; and (v) furnish the Purchaser with (x) copies of all
policies and evidence of the maintenance of such policies at least thirty (30)
days before any expiration date, (y) excepting the Company’s workers’
compensation policy, endorsements to such policies naming the Purchaser as “co-insured”
or “additional insured” and appropriate loss payable endorsements in form and
substance satisfactory to the Purchaser, naming the Purchaser as loss payee,
and (z) evidence that as to the Purchaser the insurance coverage shall not be
impaired or invalidated by any act or neglect of the Company or any Subsidiary
and the insurer will provide the Purchaser with at least thirty (30) days
notice prior to cancellation.  The
Company and each Subsidiary shall instruct the insurance carriers that in the
event of any loss thereunder, the carriers shall make payment for such loss to
the Company and/or the Subsidiary and the Purchaser jointly.  In the event that as of the date of receipt
of each loss recovery upon any such insurance, the Purchaser has not declared
an event of default with

 

18

 

respect to this Agreement or any of the Related Agreements,
then the Company and/or such Subsidiary shall be permitted to direct the
application of such loss recovery proceeds toward investment in property, plant
and equipment that would comprise “Collateral” secured by the Purchaser’s
security interest pursuant to the Master Security Agreement or such other
security agreement as shall be required by the Purchaser, with any surplus
funds to be applied toward payment of the obligations of the Company to the
Purchaser.  In the event that the
Purchaser has properly declared an event of default with respect to this
Agreement or any of the Related Agreements, then all loss recoveries received
by the Purchaser upon any such insurance thereafter may be applied to the
obligations of the Company hereunder and under the Related Agreements, in such
order as the Purchaser may determine. 
Any surplus (following satisfaction of all Company obligations to the
Purchaser) shall be paid by the Purchaser to the Company or applied as may be
otherwise required by law.  Any
deficiency thereon shall be paid by the Company or the Subsidiary, as
applicable, to the Purchaser, on demand.

 

6.9                                 Intellectual
Property.  Each of the Company and each of its
Subsidiaries shall maintain in full force and effect its existence, rights and
franchises and all licenses and other rights to use Intellectual Property owned
or possessed by it and reasonably deemed to be necessary to the conduct of its
business.

 

6.10                           Properties.  Each of the Company and each of its
Subsidiaries will keep its properties in good repair, working order and
condition, reasonable wear and tear excepted, and from time to time make all
needful and proper repairs, renewals, replacements, additions and improvements
thereto; and each of the Company and each of its Subsidiaries will at all times
comply with each provision of all leases to which it is a party or under which
it occupies property if the breach of such provision could, either individually
or in the aggregate, reasonably be expected to have a Material Adverse Effect.

 

6.11                           Confidentiality.  The Company will not, and will not permit any
of its Subsidiaries to, disclose, and will not include in any public
announcement, the name of the Purchaser, unless expressly agreed to by the
Purchaser or unless and until such disclosure is required by law or applicable
regulation, and then only to the extent of such requirement.  Notwithstanding the foregoing, the Company
may disclose the Purchaser’s identity and the terms of this Agreement to its
current and prospective debt and equity financing sources.

 

Required Approvals.  Subject to the provisions of that certain Amended
and Restated Loan and Security Agreement dated as of December 31, 2004
among Fleet Capital Corporation, the Company, International Wholesale Tile, Inc.
(“IWT”), The Tile Club, Inc. (“Tile Club”) and Import Flooring Group, Inc.
(“Import”) (as amended, modified or supplemented from time to time, the “Working
Capital Lender Loan Agreement”) and all agreements, instruments,
documents,  mortgages, pledges, powers of
attorney, consents, assignments, contracts, notice, security agreements, trust
agreements and guarantees executed in connection with the Working Capital
Lender Loan Agreement (all such documents, as each may be amended, supplemented
or modified, the “Working Capital Lender Loan Documents”).

 

19

 

6.12                           (I)  For so long as twenty-five percent (25%) of
the principal amount of the Note is outstanding, the Company, without the prior
written consent of the Purchaser, shall not, and shall not permit any of its
Subsidiaries to:

 

(a)                                  (i) directly
or indirectly declare or pay any dividends, other than dividends paid to the
Company or any of its wholly-owned Subsidiaries, (ii) issue any preferred
stock that is manditorily redeemable prior to the one year anniversary of the
Maturity Date (as defined in the Note) or (iii) redeem any of its
preferred stock or other equity interests;

 

(b)                                 liquidate,
dissolve or effect a material reorganization (it being understood that in no
event shall the Company or any of its Subsidiaries dissolve, liquidate or merge
with any other person or entity (unless, in the case of such a merger, the
Company or, in the case of merger not involving the Company, such Subsidiary,
as applicable, is the surviving entity);

 

(c)                                  become
subject to (including, without limitation, by way of amendment to or
modification of) any agreement or instrument which by its terms would (under
any circumstances) restrict the Company’s or any of its Subsidiaries, right to
perform the provisions of this Agreement, any Related Agreement or any of the
agreements contemplated hereby or thereby;

 

(d)                                 materially
alter or change the scope of the business of the Company and its Subsidiaries
taken as a whole; or

 

(e)                                  (i) create,
incur, assume or suffer to exist any indebtedness (exclusive of trade debt and
debt incurred to finance the purchase of equipment (not in excess of five
percent (5%) of the fair market value of the Company’s and its Subsidiaries’
assets)) whether secured or unsecured other than (x) the Company’s obligations
owed to the Purchaser, (y) indebtedness set forth on Schedule 6.12(e) attached
hereto and made a part hereof and any refinancings or replacements thereof on
terms no less favorable to the Purchaser than the indebtedness being refinanced
or replaced, and (z) any indebtedness incurred in connection with the purchase
of assets (other than equipment) in the ordinary course of business, or any
refinancings or replacements thereof on terms no less favorable to the
Purchaser than the indebtedness being refinanced or replaced, so long as any
lien relating thereto shall only encumber the fixed assets so purchased and no
other assets of the Company or any of its Subsidiaries; (ii) cancel any
indebtedness owing to it in excess of $100,000 in the aggregate during any 12
month period; (iii) assume, guarantee, endorse or otherwise become
directly or contingently liable in connection with any obligations of any other
person or entity, except the endorsement of negotiable instruments by the
Company or any Subsidiary thereof for deposit or collection or similar
transactions in the ordinary course of business or guarantees of indebtedness
otherwise permitted to be outstanding pursuant to this clause (e); and

 

(II) The Company, without the prior written consent of
the Purchaser, shall not, and shall not permit any of its Subsidiaries to,
create or acquire any Subsidiary after the date hereof unless (i) such
Subsidiary is a wholly-owned Subsidiary of the Company and (ii) such
Subsidiary

 

20

 

becomes a party to the
Security Agreement, the Subsidiary Security Agreement and the Continuing
Guaranty (either by executing a counterpart thereof or an assumption or joinder
agreement in respect thereof) and, to the extent required by the Purchaser,
satisfies each condition of this Agreement and the Related Agreements as if
such Subsidiary were a Subsidiary on the Closing Date.

 

(III)                            Required Approvals.  Subject to the provisions of that certain Amended
and Restated Loan and Security Agreement dated as of December 31, 2004
among Fleet Capital Corporation, the Company, International Wholesale Tile, Inc.
(“IWT”), The Tile Club, Inc. (“Tile Club”) and Import Flooring Group, Inc.
(“Import”) (as amended, modified or supplemented from time to time, the “Working
Capital Lender Loan Agreement”) and all agreements, instruments,
documents,  mortgages, pledges, powers of
attorney, consents, assignments, contracts, notice, security agreements, trust
agreements and guarantees executed in connection with the Working Capital
Lender Loan Agreement (all such documents, as each may be amended, supplemented
or modified, the “Working Capital Lender Loan Documents”).

 

6.13                           Reissuance
of Securities.  The Company
agrees to undertake to have certificates reissued representing the Securities
without the legends set forth in Section 5.8 above at such time as:

 

(a)                                  the
holder thereof is permitted to dispose of such Securities pursuant to Rule 144(k)
under the Securities Act; or

 

(b)                                 upon
resale subject to an effective registration statement after such Securities are
registered under the Securities Act.

 

The Company agrees to cooperate with the Purchaser in
connection with all resales pursuant to Rule 144(d) and Rule 144(k)
and provide legal opinions necessary to allow such resales provided the Company
and its counsel receive reasonably requested representations from the Purchaser
and broker, if any.

 

6.14                           Opinion.  On the Closing Date, the Company will deliver
to the Purchaser an opinion acceptable to the Purchaser from the Company’s
external legal counsel.  The Company will
provide, at the Company’s expense, such other legal opinions in the future as
are deemed reasonably necessary by the Purchaser (and acceptable to the
Purchaser) in connection with the conversion of the Note and exercise of the
Warrant.

 

6.15                           Margin
Stock.                     The Company
will not permit any of the proceeds of the Note or the Warrant to be used
directly or indirectly to “purchase” or “carry” “margin stock” or to repay
indebtedness incurred to “purchase” or “carry” “margin stock” within the
respective meanings of each of the quoted terms under Regulation U of the Board
of Governors of the Federal Reserve System as now and from time to time
hereafter in effect.

 

21

 

6.16                           Financing
Right of First Refusal.

 

(a)                                  The Company
hereby grants to the Purchaser a right of first refusal to provide any
Additional Financing (as defined below) to be issued by the Company and/or any
of its Subsidiaries, subject to the following terms and conditions.  From and after the date hereof,  prior to the incurrence of any additional
indebtedness and/or the sale or issuance of any equity interests of the Company
or any of its Subsidiaries (an “Additional Financing”), the Company and/or any
Subsidiary of the Company, as the case may be, shall notify the Purchaser of
its intention to enter into such Additional Financing.  In connection therewith, the Company and/or
the applicable Subsidiary thereof shall submit a fully executed term sheet (a “Proposed
Term Sheet”) to the Purchaser setting forth the terms, conditions and pricing
of any such Additional Financing (such financing to be negotiated on “arm’s
length” terms and the terms thereof to be negotiated in good faith) proposed to
be entered into by the Company and/or such Subsidiary.  The Purchaser shall have the right, but not
the obligation, to deliver its own proposed term sheet (the “Purchaser Term
Sheet”) setting forth the terms and conditions upon which the Purchaser would
be willing to provide such Additional Financing to the Company and/or such
Subsidiary.  The Purchaser Term Sheet
shall contain terms no less favorable to the Company and/or such Subsidiary
than those outlined in Proposed Term Sheet. 
The Purchaser shall deliver such Purchaser Term Sheet  within ten business days of receipt of each
such Proposed Term Sheet.  If the
provisions of the Purchaser Term Sheet are at least as favorable to the Company
and/or such Subsidiary, as the case may be, as the provisions of the Proposed
Term Sheet, the Company and/or such Subsidiary shall enter into and consummate
the Additional Financing transaction outlined in the Purchaser Term Sheet.

 

(b)                                 The Company
will not, and will not permit its Subsidiaries to, agree, directly or
indirectly, to any restriction with any person or entity which limits the
ability of the Purchaser to consummate an Additional Financing with the Company
or any of its Subsidiaries.

 

6.17                           Authorization
and Reservation of Shares.  The
Company shall at all times have authorized and reserved a sufficient number of
shares of Common Stock to provide for the conversion of the Note and exercise
of the Warrants.

 

7.                                       Covenants
of the Purchaser.  The Purchaser
covenants and agrees with the Company as follows:

 

7.1                                 Confidentiality.  The Purchaser will not and will not permit
any of its affiliates to, disclose, and will not include in any public
announcement, the name of the Company, unless expressly agreed to by the
Company or unless and until such disclosure is required by law or applicable
regulation, and then only to the extent of such requirement.

 

7.2                                 Public
Information.  The Purchaser will not
effect any sales in the shares of the Company’s Common Stock while in possession
of material, non-public information regarding the Company if such sales would
violate applicable securities law.

 

22

 

7.3                                 Limitation
on Acquisition of Common Stock of the Company. 
Notwithstanding anything to the contrary contained in this Agreement,
any Related Agreement or any document, instrument or agreement entered into in
connection with any other transactions between the Purchaser and the Company,
the Purchaser may not acquire stock in the Company (including, without
limitation, pursuant to a contract to purchase, by exercising an option or
warrant, by converting any other security or instrument, by acquiring or
exercising any other right to acquire, shares of stock or other security
convertible into shares of stock in the Company, or otherwise, and such
contracts, options, warrants, conversion or other rights shall not be
enforceable or exercisable) to the extent such stock acquisition would cause
any interest (including any original issue discount) payable by the Company to
the Purchaser not to qualify as “portfolio interest” within the meaning of Section 881(c)(2) of
the Code, by reason of Section 881(c)(3) of the Code, taking into
account the constructive ownership rules under Section 871(h)(3)(C) of
the Code (the “Stock Acquisition Limitation”). 
The Stock Acquisition Limitation shall automatically become null and
void without any notice to the Company upon the earlier to occur of either (a) the
Company’s delivery to the Purchaser of a Notice of Redemption (as defined in
the Note) or (b) the existence of an Event of Default (as defined in the
Note) at a time when the average closing price of the Company’s common stock as
reported by Bloomberg, L.P. on the Principal Market for the immediately preceding
five trading days is greater than or equal to [150%] of the Fixed Conversion
Price (as defined in the Note).

 

8.                                       Covenants
of the Company and the Purchaser Regarding Indemnification.

 

8.1                                 Company
Indemnification.  The Company
agrees to indemnify, hold harmless, reimburse and defend the Purchaser, each of
the Purchaser’s officers, directors, agents, affiliates, control persons, and
principal shareholders, against all claims, costs, expenses, liabilities,
obligations, losses or damages (including reasonable legal fees) of any nature,
incurred by or imposed upon the Purchaser which result, arise out of or are
based upon: (i) any misrepresentation by the Company or any of its
Subsidiaries or breach of any warranty by the Company or any of its
Subsidiaries in this Agreement, any other Related Agreement or in any exhibits
or schedules attached hereto or thereto; or (ii) any breach or default in
performance by Company or any of its Subsidiaries of any covenant or
undertaking to be performed by Company or any of its Subsidiaries hereunder,
under any other Related Agreement or any other agreement entered into by the
Company and/or any of its Subsidiaries and the Purchaser relating hereto or
thereto.

 

8.2                                 Purchaser’s
Indemnification.  The Purchaser
agrees to indemnify, hold harmless, reimburse and defend the Company and each
of the Company’s officers, directors, agents, affiliates, control persons and
principal shareholders, at all times against any claims, costs, expenses,
liabilities, obligations, losses or damages (including reasonable legal fees)
of any nature, incurred by or imposed upon the Company which result, arise out
of or are based upon:  (i) any
misrepresentation by the Purchaser or breach of any warranty by the Purchaser
in this Agreement or in any exhibits or schedules attached hereto or any
Related Agreement; or (ii) any breach or default in performance by the
Purchaser of any covenant or undertaking to be performed by the Purchaser
hereunder, or any other agreement entered into by the Company and the Purchaser
relating hereto.

 

23

 

9.                                       THIS
SECTION INTENTIALLY OMITTED.  

 

10.                                 Registration
Rights.

 

10.1                           Registration
Rights Granted.  The Company
hereby grants registration rights to the Purchaser pursuant to the Registration
Rights Agreement.

 

10.2                           Offering
Restrictions.  Except as
previously disclosed in the SEC Reports or in the Exchange Act Filings, or
stock or stock options granted to employees or directors of the Company (these
exceptions hereinafter referred to as the “Excepted Issuances”), neither the
Company nor any of its Subsidiaries will, prior to the full exercise by
Purchaser of the Warrants, (x) enter into any equity line of credit agreement
or similar agreement or (y) issue, or enter into any agreement to issue, any
securities with a variable/floating conversion and/or pricing feature which are
or could be (by conversion or registration) free-trading securities (i.e.  common stock subject to a registration statement).

 

11.                                 Miscellaneous.

 

11.1                           Governing
Law, Jurisdiction and Waiver of Jury Trial.

 

(a)                                  THIS
AGREEMENT AND THE OTHER RELATED AGREEMENTS SHALL BE GOVERNED BY AND CONSTRUED
AND ENFORCED IN ACCORDANCE WITH THE LAWS OF THE STATE OF NEW YORK APPLICABLE TO
CONTRACTS MADE AND PERFORMED IN SUCH STATE, WITHOUT REGARD TO PRINCIPLES OF
CONFLICTS OF LAWS.

 

(b)                                 THE
COMPANY HEREBY CONSENTS AND AGREES THAT THE STATE OR FEDERAL COURTS LOCATED IN
THE COUNTY OF NEW YORK, STATE OF NEW YORK SHALL HAVE EXCLUSIVE JURISDICTION TO
HEAR AND DETERMINE ANY CLAIMS OR DISPUTES BETWEEN THE COMPANY, ON THE ONE HAND,
AND THE PURCHASER, ON THE OTHER HAND, PERTAINING TO THIS AGREEMENT OR ANY OF
THE RELATED AGREEMENTS OR TO ANY MATTER ARISING OUT OF OR RELATED TO THIS
AGREEMENT OR ANY OF THE OTHER RELATED AGREEMENTS; PROVIDED, THAT THE
PURCHASER AND THE COMPANY ACKNOWLEDGE THAT ANY APPEALS FROM THOSE COURTS MAY HAVE
TO BE HEARD BY A COURT LOCATED OUTSIDE OF THE COUNTY OF NEW YORK, STATE OF NEW
YORK; AND FURTHER  PROVIDED, THAT, NOTHING IN THIS
AGREEMENT SHALL BE DEEMED OR OPERATE TO PRECLUDE THE PURCHASER FROM BRINGING
SUIT OR TAKING OTHER LEGAL ACTION IN ANY OTHER JURISDICTION TO COLLECT THE
OBLIGATIONS, TO REALIZE ON THE COLLATERAL (AS DEFINED IN THE MASTER SECURITY
AGREEMENT) OR ANY OTHER SECURITY FOR THE OBLIGATIONS (AS DEFINED IN THE MASTER
SECURITY AGREEMENT), OR TO ENFORCE A JUDGMENT OR OTHER COURT ORDER IN FAVOR OF
THE PURCHASER.  THE COMPANY EXPRESSLY
SUBMITS AND CONSENTS IN ADVANCE TO SUCH JURISDICTION IN ANY ACTION OR SUIT
COMMENCED

 

24

 

IN ANY SUCH COURT, AND THE COMPANY HEREBY WAIVES ANY OBJECTION THAT IT MAY HAVE
BASED UPON LACK OF PERSONAL JURISDICTION, IMPROPER VENUE OR FORUM NON
CONVENIENS.  THE COMPANY HEREBY
WAIVES PERSONAL SERVICE OF THE SUMMONS, COMPLAINT AND OTHER PROCESS ISSUED IN
ANY SUCH ACTION OR SUIT AND AGREES THAT SERVICE OF SUCH SUMMONS, COMPLAINT AND
OTHER PROCESS MAY BE MADE BY REGISTERED OR CERTIFIED MAIL ADDRESSED TO THE
COMPANY AT THE ADDRESS SET FORTH IN SECTION 11.9 AND THAT SERVICE SO MADE
SHALL BE DEEMED COMPLETED UPON THE EARLIER OF THE COMPANY’S ACTUAL RECEIPT
THEREOF OR THREE (3) DAYS AFTER DEPOSIT IN THE U.S. MAILS, PROPER POSTAGE
PREPAID.

 

(c)                                  THE
PARTIES DESIRE THAT THEIR DISPUTES BE RESOLVED BY A JUDGE APPLYING SUCH
APPLICABLE LAWS.  THEREFORE, TO ACHIEVE
THE BEST COMBINATION OF THE BENEFITS OF THE JUDICIAL SYSTEM AND OF ARBITRATION,
THE PARTIES HERETO WAIVE ALL RIGHTS TO TRIAL BY JURY IN ANY ACTION, SUIT, OR
PROCEEDING BROUGHT TO RESOLVE ANY DISPUTE, WHETHER ARISING IN CONTRACT, TORT,
OR OTHERWISE BETWEEN THE PURCHASER AND/OR THE COMPANY ARISING OUT OF, CONNECTED
WITH, RELATED OR INCIDENTAL TO THE RELATIONSHIP ESTABLISHED BETWEEN THEM IN
CONNECTION WITH THIS AGREEMENT, ANY OTHER RELATED AGREEMENT OR THE TRANSACTIONS
RELATED HERETO OR THERETO.

 

11.2                           Severability.  Wherever possible each provision of this
Agreement and the Related Agreements shall be interpreted in such manner as to
be effective and valid under applicable law, but if any provision of this
Agreement or any Related Agreement shall be prohibited by or invalid or illegal
under applicable law such provision shall be ineffective to the extent of such
prohibition or invalidity or illegality, without invalidating the remainder of
such provision or the remaining provisions thereof which shall not in any way
be affected or impaired thereby.

 

11.3                           Survival.  The representations, warranties, covenants
and agreements made herein shall survive any investigation made by the
Purchaser and the closing of the transactions contemplated hereby to the extent
provided therein.  All statements as to
factual matters contained in any certificate or other instrument delivered by
or on behalf of the Company pursuant hereto in connection with the transactions
contemplated hereby shall be deemed to be representations and warranties by the
Company hereunder solely as of the date of such certificate or instrument.  All indemnities set forth herein shall
survive the execution, delivery and termination of this Agreement and the Note
and the making and repayment of the obligations arising hereunder, under the
Note and under the other Related Agreements.

 

11.4                           Successors.  Except as otherwise expressly provided
herein, the provisions hereof shall inure to the benefit of, and be binding
upon, the successors, heirs, executors and administrators of the parties hereto
and shall inure to the benefit of and be enforceable by each person or entity
which shall be a holder of the Securities from time to time, other than the
holders of Common Stock which has been sold by the Purchaser pursuant to Rule 144
or an

 

25

 

effective registration statement.  The Purchaser shall not be permitted to
assign its rights hereunder or under any Related Agreement to a competitor of
the Company unless an Event of Default (as defined in the Note) has occurred
and is continuing.

 

11.5                           Entire
Agreement; Maximum Interest.  This
Agreement, the Related Agreements, the exhibits and schedules hereto and
thereto and the other documents delivered pursuant hereto constitute the full
and entire understanding and agreement between the parties with regard to the
subjects hereof and no party shall be liable or bound to any other in any
manner by any representations, warranties, covenants and agreements except as specifically
set forth herein and therein.  Nothing
contained in this Agreement, any Related Agreement or in any document referred
to herein or delivered in connection herewith shall be deemed to establish or
require the payment of a rate of interest or other charges in excess of the
maximum rate permitted by applicable law. 
In the event that the rate of interest or dividends required to be paid
or other charges hereunder exceed the maximum rate permitted by such law, any
payments in excess of such maximum shall be credited against amounts owed by
the Company to the Purchaser and thus refunded to the Company.

 

11.6                           Amendment
and Waiver.

 

(a)                                  This
Agreement may be amended or modified only upon the written consent of the
Company and the Purchaser.

 

(b)                                 The
obligations of the Company and the rights of the Purchaser under this Agreement
may be waived only with the written consent of the Purchaser.

 

(c)                                  The
obligations of the Purchaser and the rights of the Company under this Agreement
may be waived only with the written consent of the Company.

 

11.7                           Delays
or Omissions.  It is agreed
that no delay or omission to exercise any right, power or remedy accruing to
any party, upon any breach, default or noncompliance by another party under
this Agreement or the Related Agreements, shall impair any such right, power or
remedy, nor shall it be construed to be a waiver of any such breach, default or
noncompliance, or any acquiescence therein, or of or in any similar breach,
default or noncompliance thereafter occurring. 
All remedies, either under this Agreement or the Related Agreements, by
law or otherwise afforded to any party, shall be cumulative and not
alternative.

 

11.8                           Notices.  All notices required or permitted hereunder
shall be in writing and shall be deemed effectively given:

 

(a)                                  upon
personal delivery to the party to be notified;

 

(b)                                 when
sent by confirmed facsimile if sent during normal business hours of the
recipient, if not, then on the next business day;

 

(c)                                  three
(3) business days after having been sent by registered or certified mail,
return receipt requested, postage prepaid; or

 

26

 

(d)                                 one
(1) day after deposit with a nationally recognized overnight courier,
specifying next day delivery, with written verification of receipt.

 

All communications shall be sent as follows:

 

	
  If to the Company, to:

  	
   

  	
  IWT Tesoro Corporation

  191 Post Road West

  Westport, Connecticut 06880

  

  Attention:                                         Henry
  J. Boucher, Jr., CEO

  Facsimile:                                            (203)
  221-2797

  
	
   

  	
   

  	
   

  
	
   

  	
   

  	
  with a copy to:

  
	
   

  	
   

  	
   

  
	
   

  	
   

  	
  Rader and Coleman, P.L.

  2101 N.W. Boca Raton Blvd., Suite 1

  Boca Raton, Florida 33431

  

  

  Attention:                                         Gayle
  Coleman, Esq.

  Facsimile:                                            (561)
  367-1725

  
	
   

  	
   

  	
   

  
	
  If to the Purchaser, to:

  	
   

  	
  Laurus Master Fund,
  Ltd.

  c/o M&C Corporate Services Limited

  P.O.  Box 309 GT

  Ugland House 

  George Town

  South Church Street

  Grand Cayman, Cayman Islands

  Facsimile:                                            345-949-8080

  
	
   

  	
   

  	
   

  
	
   

  	
   

  	
  with a copy to:

  
	
   

  	
   

  	
   

  
	
   

  	
   

  	
  John E.
  Tucker, Esq.

  825 Third Avenue 14th Floor

  New York, NY 10022

  Facsimile:                                            212-541-4434

  

 

or at such other address as the Company or the
Purchaser may designate by written notice to the other parties hereto given in
accordance herewith.

 

11.9                           Attorneys’
Fees.  In the event that any suit or action is
instituted to enforce any provision in this Agreement or any Related Agreement,
the prevailing party in such dispute shall be entitled to recover from the
losing party all fees, costs and expenses of enforcing any right of such
prevailing party under or with respect to this Agreement and/or such Related

 

27

 

Agreement, including, without limitation, such reasonable
fees and expenses of attorneys and accountants, which shall include, without
limitation, all fees, costs and expenses of appeals.

 

11.10                     Titles and Subtitles.  The titles of the sections and subsections of
this Agreement are for convenience of reference only and are not to be
considered in construing this Agreement.

 

11.11                     Facsimile Signatures;
Counterparts.  This
Agreement may be executed by facsimile signatures and in any number of
counterparts, each of which shall be an original, but all of which together
shall constitute one agreement.

 

11.12                     Broker’s Fees.  Except as set forth on Schedule 11.12
hereof, each party hereto represents and warrants that no agent, broker,
investment banker, person or firm acting on behalf of or under the authority of
such party hereto is or will be entitled to any broker’s or finder’s fee or any
other commission directly or indirectly in connection with the transactions
contemplated herein.  Each party hereto
further agrees to indemnify each other party for any claims, losses or expenses
incurred by such other party as a result of the representation in this Section 11.13
being untrue.

 

11.13                     Construction.  Each party acknowledges that its legal counsel
participated in the preparation of this Agreement and the Related Agreements
and, therefore, stipulates that the rule of construction that ambiguities
are to be resolved against the drafting party shall not be applied in the
interpretation of this Agreement or any Related Agreement to favor any party
against the other.

 

[THE REMAINDER OF
THIS PAGE IS INTENTIONALLY LEFT BLANK

 

28

 

IN WITNESS WHEREOF, the parties hereto have executed
the SECURITIES PURCHASE AGREEMENT as of the date set forth in the first
paragraph hereof.

 

	
  COMPANY:

  	
   

  	
  PURCHASER:

  
	
   

  	
   

  	
   

  
	
  IWT TESORO CORPORATION

  	
   

  	
  LAURUS MASTER FUND,
  LTD.

  
	
   

  	
   

  	
   

  
	
   

  	
   

  	
   

  
	
  By:

  	
   

  	
   

  	
   

  	
  By:

  	
   

  	
   

  
	
   

  	
   

  	
   

  
	
  Name:

  	
   

  	
   

  	
   

  	
  Name:

  	
   

  	
   

  
	
   

  	
   

  	
   

  
	
  Title:

  	
   

  	
   

  	
   

  	
  Title:

  	
   

  	
   

  
												

 

29

 

EXHIBIT A

 

FORM OF
CONVERTIBLE NOTE

 

A-1

 

EXHIBIT B

 

FORM OF
WARRANT

 

B-1

 

EXHIBIT C

 

FORM OF
OPINION

 

The form of opinion will be in substantially the same
form as the Borrower’s Counsel opinion provided by Rader and Coleman P.L. on August 25,
2005, as follows:

 

Based upon the foregoing
and and subject to other qualifications, limitations and assumptions set forth
herein, we are of the opinion that:

 

1.               Tesoro
has been formed as a corporation under the laws of Nevada and its status is
active.

 

2.               IWT
has been formed as a corporation under the laws of Florida and its status is
active.

 

3.               Transport
has been formed as a corporation under the laws of Florida and its status is
active.

 

4.               International
has been formed as a Bermuda exempt company under the laws of Bermuda and its
status is active.

 

5.               IFG
has been formed as a corporation under the laws of Delaware and its status is
active.

 

6.               TTC
has been formed as a corporation under the laws of Delaware and its status is
active.

 

7.               The
Company and its Subsidiaries each has the corporate power and authority to own
and lease its properties and to carry on its respective business as presently
conducted.

 

8.               The
execution and delivery of the Agreement and the Related Agreements by the
Company and its Subsidiaries  to which
each is a party and the observance and performance by the Company and its
Subsidiaries of its respective obligations thereunder, have been duly
authorized by requisite actions by the Company and its Subsidiaries.  Each of the Agreement and the Related
Agreements delivered by the Company and its Subsidiaries to Purchaser on the
Closing Date is based upon adequate consideration and constitutes, and each of
the other Agreement and the Related Agreements to which the Company and its
Subsidiaries is a party, when duly executed and delivered will constitute,
legal, valid and binding obligations of the Company and its Subsidiaries and is
enforceable in accordance with their respective terms.  Our opinion concerning the validity, binding
effect and enforceability of the Agreement and the Related Agreements to which
the Company and its Subsidiaries is a party means that (a) the Agreement
and the Related Agreements constitute effective contracts under Florida Law, (b) the
Agreement and the Related Agreements are not invalid because of a specific
statutory prohibition or public policy and are not subject in their entirety to
a contractual defense, and (c) subject to the last sentence of this
paragraph, some remedy is available if a Company or a Subsidiary is in material
default under the Agreement and the Related Agreements to which it is a
party.  This opinion does not mean that (a) any
particular remedy is available upon a material default or (b) every
provision of the Agreement and the Related Agreements to which the Company or a
Subsidiary is a party will be upheld

 

D-1

 

or enforced in any or each circumstance by a court.  Furthermore, the validity, binding effect and
enforceability of the Agreement and the Related Agreements to which the Company
or a  Subsidiary is a party may be
limited or otherwise affected by:  (a) bankruptcy,
insolvency, reorganization, moratorium, fraudulent conveyance or other similar
statutes, rules, regulations or other laws affecting the enforcement of
creditors’ rights and remedies generally; and (b) the unavailability of,
or limitation on the availability of, a particular right or remedy (whether in
a proceeding in equity or at law) because of an equitable principle or a
requirement as to commercial reasonableness, conscionability or good faith.

 

9.     The execution
and delivery by the Company and its Subsidiaries of the Agreement and the
Related Agreements delivered or to be delivered by each party and observance
and performance by the Company and its Subsidiaries of each of their respective
obligations thereunder, do not:

 

a.               Violate
the provisions of their respective Charter or bylaws; or

 

b.              Violate
any judgment, decree, order or award of any court binding upon the Company or
any of its subsidiaries; or

 

c.               Violate
any Florida or federal law.

 

10.   There is no
action, suit, proceeding or investigation pending or, to such counsel’s
knowledge, currently threatened against the Company or any of its Subsidiaries
that prevents the right of the Company or any of its Subsidiaries to enter into
this Agreement or any Related Agreement, or to consummate the transactions
contemplated thereby.  To such counsel’s
knowledge, the Company is not a party or subject to the provisions of any
order, writ, injunction, judgment or decree of any court or government agency
or instrumentality; nor is there any action, suit, proceeding or investigation
by the Company currently pending or which the Company intends to initiate.

 

11.   The shares of
Common Stock of Tesoro issuable upon conversion of the Notes (the “Note Shares”)
and the Warrants (the “Warrant Shares”), when issued pursuant to and in
accordance with the terms of the Agreement and the Related Agreements and upon
delivery shall, in each case, be validly issued and outstanding, fully paid and
non assessable.

 

12.   To our knowledge,
the issuance of the Notes and the subsequent conversion of the Notes into Note
Shares are not subject to any preemptive rights or rights of first refusal that
have not been properly waived or complied with. 
To our knowledge, the issuance of the Warrant and the subsequent
exercise of the Warrant for Warrant Shares are not subject to any preemptive
rights or, to our knowledge, rights of first refusal that have not been
properly waived or complied with.  To our
knowledge, the issuance of the Option and the subsequent exercise of the Option
for Option Shares are not subject to any preemptive rights or, to our
knowledge, rights of first refusal that have not been properly waived or
complied with

 

2

 

13.   Assuming the
accuracy of the representations and warranties of Purchaser contained in the
Agreement, the offer, sale and issuance of the Note, the Warrant and the Option
(the “Securities”) will be exempt from the registration requirements of the
Securities Act.  To the best of such
counsel’s knowledge, neither Tesoro, nor any of its affiliates, nor any person
acting on its or their behalf, has directly or indirectly made any offers or
sales of any security or solicited any offers to buy and security under
circumstances that would cause the issuance of the Securities pursuant to the
Agreement and the Related Agreements to be integrated with prior offerings by
Tesoro for purposes of the Securities Act which would prevent Tesoro from
selling the Securities pursuant to Rule 506 under the Securities Act, or
any applicable exchange-related stockholder approval provisions.

 

3

 

EXHIBIT D

 

FORM OF
ESCROW AGREEMENT

 

4Exhibit 10.27

 

THIS NOTE AND THE COMMON SHARES ISSUABLE UPON
CONVERSION OF THIS NOTE HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF
1933, AS AMENDED, OR ANY STATE SECURITIES LAWS. 
THIS NOTE AND THE COMMON SHARES ISSUABLE UPON CONVERSION OF THIS NOTE MAY NOT
BE SOLD, OFFERED FOR SALE, PLEDGED OR HYPOTHECATED IN THE ABSENCE OF AN
EFFECTIVE REGISTRATION STATEMENT AS TO THIS NOTE UNDER SAID ACT AND ANY
APPLICABLE STATE SECURITIES LAWS OR AN OPINION OF COUNSEL REASONABLY
SATISFACTORY TO IWT TESORO CORPORATION THAT SUCH REGISTRATION IS NOT REQUIRED.

 

THIS NOTE IS
SUBJECT TO THE TERMS OF THE SENIOR SUBORDINATION AGREEMENT BETWEEN LAURUS
MASTER FUND, LTD. AND FLEET CAPITAL CORPORATION TO WHICH REFERENCE IS MADE FOR
THE TERMS OF SUBORDINATION AND FOR LIMITATIONS OF ENFORCEMENT OF THE PROVISIONS
HEREOF.

 

SECURED
CONVERTIBLE TERM NOTE

 

FOR VALUE RECEIVED, IWT TESORO CORPORATION, a Nevada
corporation (the “Company”),
promises to pay to LAURUS MASTER FUND, LTD., c/o M&C Corporate Services
Limited, P.O. Box 309 GT, Ugland House, South Church Street, George Town,
Grand Cayman, Cayman Islands, Fax: 345-949-8080 (the “Holder”)
or its registered assigns or successors in interest, the sum of Two Million
Dollars ($2,000,000), together with any accrued and unpaid interest hereon, on February 10,
2009 (the “Maturity Date”) if not sooner
paid.

 

Capitalized terms used herein without definition shall
have the meanings ascribed to such terms in that certain Securities Purchase
Agreement dated as of the date hereof by and between the Company and the Holder
(as amended, modified and/or supplemented from time to time, the “Purchase Agreement”).

 

The following terms shall
apply to this Secured Convertible Term Note (this “Note”):

 

ARTICLE I

CONTRACT RATE AND AMORTIZATION

 

1.1                                 Contract
Rate.  Subject to Sections 4.2 and
5.10, interest payable on the outstanding principal amount of this Note (the “Principal Amount”) shall accrue at a rate per annum equal to
the “prime rate” published in The Wall Street Journal from time to time
(the “Prime Rate”), plus two percent (2.0%)
(the “Contract Rate”).  The Contract Rate shall be increased or
decreased as the case may be for each increase or decrease in the Prime Rate in
an amount equal to such increase or decrease in the Prime Rate; each change to
be effective as of the day of the change in the Prime Rate.  Interest shall be (i) calculated on the
basis of a 360 day year, and (ii) payable monthly, in arrears, commencing
on March 1, 2006, on the first business

 

 

day of each consecutive
calendar month thereafter through and including the Maturity Date, and on the
Maturity Date, whether by acceleration or otherwise.

 

1.2                                 Principal
Payments.  Amortizing payments of the
aggregate principal amount outstanding under this Note at any time (the “Principal Amount”) shall be made by the Company on August 1,
2006 and on the first business day of each succeeding month thereafter through
and including the Maturity Date (each, an “Amortization Date”).  Subject to Article III below, commencing
on the first Amortization Date, the Company shall make monthly payments to the
Holder on each Amortization Date, each such payment in the amount of $66,666.67
together with any accrued and unpaid interest on such portion of the Principal
Amount plus any and all other unpaid amounts which are then owing under this
Note, the Purchase Agreement and/or any other Related Agreement (collectively,
the “Monthly Amount”).  Any outstanding Principal Amount together
with any accrued and unpaid interest and any and all other unpaid amounts which
are then owing by the Company to the Holder under this Note, the Purchase
Agreement and/or any other Related Agreement shall be due and payable on the
Maturity Date.

 

ARTICLE II

CONVERSION AND REDEMPTION

 

2.1                                 Payment
of Monthly Amount.

 

(a)                                  Payment
in Cash or Common Stock.  If the
Monthly Amount (or a portion of such Monthly Amount if not all of the Monthly
Amount may be converted into shares of Common Stock pursuant to Section 3.2)
is required to be paid in shares of Common Stock pursuant to Section 2.1(b),
the number of such shares to be issued by the Company to the Holder on such
Amortization Date (in respect of such portion of the Monthly Amount converted
into shares of Common Stock pursuant to Section 2.1(b)), shall be the
number determined by dividing (i) the portion of the Monthly Amount
converted into shares of Common Stock, by (ii) the then applicable Fixed
Conversion Price.  For purposes hereof,
subject to Section 3.6 hereof, the initial “Fixed
Conversion Price” means $2.17 
..

 

(b)                                 Monthly
Amount Conversion Conditions. 
Subject to Sections 2.1(a), 2.2, and 3.2 hereof, the Holder shall
convert into shares of Common Stock all or a portion of the Monthly Amount due
on each Amortization Date if the following conditions (the “Conversion Criteria”) are satisfied: (i) the average
closing price of the Common Stock as reported by Bloomberg, L.P. on the
Principal Market for the five (5) trading days immediately preceding such
Amortization Date shall be greater than or equal to 110% of the Fixed Conversion
Price and (ii) the amount of such conversion does not exceed twenty five
percent (25%) of the aggregate dollar trading volume of the Common Stock for
the period of twenty-two (22) trading days immediately preceding such
Amortization Date.  If subsection (i) of
the Conversion Criteria is met but subsection (ii) of the Conversion
Criteria is not met as to the entire Monthly Amount, the Holder shall convert
only such part of the Monthly Amount that meets subsection (ii) of
the Conversion Criteria.  Any portion of
the Monthly Amount due on an Amortization Date that the Holder has not been
able to convert into shares of Common Stock due to the failure to meet the
Conversion Criteria, shall be paid in cash by the Company at the rate of 100%
of the Monthly Amount otherwise due on such Amortization Date, within three (3) business
days of such Amortization Date.

 

2

 

2.2                                 No
Effective Registration. 
Notwithstanding anything to the contrary herein, none of the Company’s
obligations to the Holder may be converted into Common Stock unless (a) either
(i) an effective current Registration Statement (as defined in the
Registration Rights Agreement) covering the shares of Common Stock to be issued
in connection with satisfaction of such obligations exists or (ii) an
exemption from registration for resale of all of the Common Stock issued and
issuable is available pursuant to Rule 144 of the Securities Act and (b) no
Event of Default (as hereinafter defined) exists and is continuing, unless such
Event of Default is cured within any applicable cure period or otherwise waived
in writing by the Holder.

 

2.3                                 Optional
Redemption in Cash.  The Company may
prepay this Note (“Optional Redemption”)
by paying to the Holder a sum of money equal to one hundred ten percent (110%)
of the Principal Amount outstanding at such time together with accrued but
unpaid interest thereon and any and all other sums due, accrued or payable to
the Holder arising under this Note, the Purchase Agreement or any other Related
Agreement (the “Redemption Amount”) outstanding on
the Redemption Payment Date (as defined below). 
The Company shall deliver to the Holder a written notice of redemption
(the “Notice of Redemption”) specifying the
date for such Optional Redemption (the “Redemption Payment Date”),
which date shall be seven (7) business days after the date of the Notice
of Redemption (the “Redemption Period”).  A Notice of Redemption shall not be effective
with respect to any portion of this Note for which the Holder has previously
delivered a Notice of Conversion (as hereinafter defined) or for conversions
elected to be made by the Holder pursuant to Article III during the
Redemption Period.  The Redemption Amount
shall be determined as if the Holder’s conversion elections had been completed
immediately prior to the date of the Notice of Redemption.  On the Redemption Payment Date, the
Redemption Amount must be paid in good funds to the Holder.  In the event the Company fails to pay the
Redemption Amount on the Redemption Payment Date as set forth herein, then such
Redemption Notice will be null and void.

 

ARTICLE III

HOLDER’S CONVERSION RIGHTS

 

3.1                                 Optional
Conversion.  Subject to the terms set
forth in this Article III, the Holder shall have the right, but not the
obligation, to convert all or any portion of the issued and outstanding
Principal Amount and/or accrued interest and fees due and payable into fully
paid and nonassessable shares of Common Stock at the Fixed Conversion Price.  The shares of Common Stock to be issued upon
such conversion are herein referred to as, the “Conversion
Shares.”

 

3.2                                 Conversion
Limitation.  Notwithstanding anything
contained herein to the contrary, the Holder shall not be entitled to convert
pursuant to the terms of this Note an amount that would be convertible into
that number of Conversion Shares which would exceed the difference between (i) 4.99%
of the outstanding shares of Common Stock and (ii) the number of shares of
Common Stock beneficially owned by the Holder. 
For purposes of the immediately preceding sentence, beneficial ownership
shall be determined in accordance with Section 13(d) of the Exchange
Act and Regulation 13d-3 thereunder.  The
Conversion Shares limitation described in this Section 3.2 shall
automatically become null and void following notice to any

 

3

 

Company upon the
occurrence and during the continuance of an Event of Default, upon 75 days
prior notice to the Parent, or upon receipt by the Holder of a Notice of
Redemption.  Notwithstanding anything
contained herein to the contrary, the provisions of this Section 3.2 are
irrevocable and may not be waived by the Holder or any Company.

 

3.3                                 Mechanics
of Holder’s Conversion.  In the event
that the Holder elects to convert this Note into Common Stock, the Holder shall
give notice of such election by delivering an executed and completed notice of
conversion in substantially the form of Exhibit A hereto (appropriate
completed)  (“Notice of
Conversion”) to the Company and such Notice of Conversion shall
provide a breakdown in reasonable detail of the Principal Amount, accrued
interest and fees that are being converted. 
On each Conversion Date (as hereinafter defined) and in accordance with
its Notice of Conversion, the Holder shall make the appropriate reduction to
the Principal Amount, accrued interest and fees as entered in its records and
shall provide written notice thereof to the Company within five (5) business
days after the Conversion Date.  Each
date on which a Notice of Conversion is delivered or telecopied to the Company
in accordance with the provisions hereof shall be deemed a Conversion Date (the
“Conversion Date”).  Pursuant to the terms of the Notice of
Conversion, the Company will issue instructions to the transfer agent
accompanied by an opinion of counsel within three (3) business days of the
date of the delivery to the Company of the Notice of Conversion and shall cause
the transfer agent to transmit the certificates representing the Conversion Shares
to the Holder by crediting the account of the Holder’s designated broker with
the Depository Trust Corporation (“DTC”) through
its Deposit Withdrawal Agent Commission (“DWAC”) system
within three (3) business days after receipt by the Company of the Notice
of Conversion (the “Delivery Date”).  In the case of the exercise of the conversion
rights set forth herein the conversion privilege shall be deemed to have been
exercised and the Conversion Shares issuable upon such conversion shall be
deemed to have been issued upon the date of receipt by the Company of the
Notice of Conversion.  The Holder shall
be treated for all purposes as the record holder of the Conversion Shares,
unless the Holder provides the Company written instructions to the contrary.

 

3.4                                 Late
Payments.  The Company understands
that a delay in the delivery of the Conversion Shares in the form required
pursuant to this Article beyond the Delivery Date could result in economic
loss to the Holder.  As compensation to
the Holder for such loss, in addition to all other rights and remedies which
the Holder may have under this Note, applicable law or otherwise, the Company
shall pay late payments to the Holder for any late issuance of Conversion
Shares in the form required pursuant to this Article II upon conversion of
this Note, in the amount equal to $500 per business day after the Delivery
Date.  The Company shall make any
payments incurred under this Section in immediately available funds upon
demand.

 

3.5                                 Conversion
Mechanics.  The number of shares of
Common Stock to be issued upon each conversion of this Note shall be determined
by dividing that portion of the principal and interest and fees to be
converted, if any, by the then applicable Fixed Conversion Price.  In the event of any conversions of a portion
of the outstanding Principal Amount pursuant to this Article III, such
conversions shall be deemed to constitute conversions of the outstanding
Principal Amount applying to Monthly Amounts for the remaining Amortization
Dates in chronological order.

 

4

 

3.6                                 Adjustment
Provisions.  The Fixed Conversion
Price and number and kind of shares or other securities to be issued upon
conversion determined pursuant to this Note shall be subject to adjustment from
time to time upon the occurrence of certain events during the period that this
conversion right remains outstanding, as follows:

 

(a)                                  Reclassification.  If the Company at any time shall, by
reclassification or otherwise, change the Common Stock into the same or a
different number of securities of any class or classes, this Note, as to the
unpaid Principal Amount and accrued interest thereon, shall thereafter be
deemed to evidence the right to purchase an adjusted number of such securities
and kind of securities as would have been issuable as the result of such change
with respect to the Common Stock (i) immediately prior to or (ii) immediately
after, such reclassification or other change at the sole election of the
Holder.

 

(b)                                 Stock
Splits, Combinations and Dividends. 
If the shares of Common Stock are subdivided or combined into a greater
or smaller number of shares of Common Stock, or if a dividend is paid on the
Common Stock or any preferred stock issued by the Company in shares of Common
Stock, the Fixed Conversion Price shall be proportionately reduced in case of
subdivision of shares or stock dividend or proportionately increased in the
case of combination of shares, in each such case by the ratio which the total
number of shares of Common Stock outstanding immediately after such event bears
to the total number of shares of Common Stock outstanding immediately prior to
such event.

 

3.7                                 Reservation
of Shares.  During the period the
conversion right exists, the Company will reserve from its authorized and
unissued Common Stock a sufficient number of shares to provide for the issuance
of Conversion Shares upon the full conversion of this Note and the
Warrant.  The Company represents that
upon issuance, the Conversion Shares will be duly and validly issued, fully
paid and non-assessable.  The Company
agrees that its issuance of this Note shall constitute full authority to its
officers, agents, and transfer agents who are charged with the duty of
executing and issuing stock certificates to execute and issue the necessary
certificates for the Conversion Shares upon the conversion of this Note.

 

3.8                                 Registration
Rights.  The Holder has been granted
registration rights with respect to the Conversion Shares as set forth in the
Registration Rights Agreement.

 

3.9                                 Issuance
of New Note.  Upon any partial
conversion of this Note, a new Note containing the same date and provisions of
this Note shall, at the request of the Holder, be issued by the Company to the
Holder for the principal balance of this Note and interest which shall not have
been converted or paid.  Subject to the
provisions of Article IV of this Note, the Company shall not pay any
costs, fees or any other consideration to the Holder for the production and
issuance of a new Note.

 

ARTICLE IV

EVENTS OF DEFAULT

 

4.1                                 Events
of Default.  The occurrence of any of
the following events set forth in this Section 4.1 shall constitute an
event of default (“Event of Default”)
hereunder:

 

5

 

(a)                                  Failure
to Pay.  The Company fails to pay
when due any installment of principal, interest or other fees hereon in
accordance herewith, or the Company fails to pay any of the other Obligations
(under and as defined in the Master Security Agreement) when due, and, in any
such case, such failure shall continue for a period of three (3) days
following the date upon which any such payment was due.

 

(b)                                 Breach
of Covenant.  The Company or any of
its Subsidiaries breaches any covenant or any other term or condition of this
Note in any material respect and such breach, if subject to cure, continues for
a period of fifteen (15) days after the occurrence thereof.

 

(c)                                  Breach
of Representations and Warranties. 
Any representation, warranty or statement made or furnished by the
Company or any of its Subsidiaries in this Note, the Purchase Agreement or any
other Related Agreement shall at any time be false or misleading in any
material respect on the date as of which made or deemed made.

 

(d)                                 Default
Under Other Agreements.  The
occurrence of any default (or similar term) in the observance or performance of
any other agreement or condition relating to any indebtedness or contingent
obligation of the Company or any of its Subsidiaries (including, without
limitation, the indebtedness evidenced by the Working Capital Lender Loan
Documents (as such term is defined in the Purchase Agreement) or that certain
Security Agreement dated as of August 25, 2005 among the Company,
International Wholesale Tile, Inc., The Tile Club, Inc. and Import
Flooring Group, Inc. in favor of the Holder (the “Security Agreement”) or
the Ancillary Agreements (as such term is defined in the Security Agreement)
beyond the period of grace (if any), the effect of which default is to cause,
or permit the holder or holders of such indebtedness or beneficiary or
beneficiaries of such contingent obligation to cause, such indebtedness to
become due prior to its stated maturity or such contingent obligation to become
payable;

 

(e)                                  Material
Adverse Effect.  Any change or the
occurrence of any event which could reasonably be expected to have a Material
Adverse Effect;

 

(f)                                    Bankruptcy.  The Company or any of its Subsidiaries shall (i) apply
for, consent to or suffer to exist the appointment of, or the taking of
possession by, a receiver, custodian, trustee or liquidator of itself or of all
or a substantial part of its property, (ii) make a general assignment for
the benefit of creditors, (iii) commence a voluntary case under the
federal bankruptcy laws (as now or hereafter in effect), (iv) be
adjudicated a bankrupt or insolvent, (v) file a petition seeking to take
advantage of any other law providing for the relief of debtors, (vi) acquiesce
to, without challenge within ten (10) days of the filing thereof, or
failure to have dismissed, within thirty (30) days, any petition filed against
it in any involuntary case under such bankruptcy laws, or (vii) take any
action for the purpose of effecting any of the foregoing;

 

(g)                                 Judgments.  Attachments or levies in excess of $250,000
in the aggregate are made upon the Company or any of its Subsidiary’s assets or
a judgment is rendered against the Company’s property involving a liability of
more than $250,000 which shall not have been vacated, discharged, stayed or
bonded within thirty (30) days from the entry thereof;

 

6

 

(h)                                 Insolvency.  The Company or any of its Subsidiaries shall
admit in writing its inability, or be generally unable, to pay its debts as
they become due or cease operations of its present business;

 

(i)                                     Change
of Control.  A Change of Control (as
defined below) shall occur with respect to the Company, unless Holder shall
have expressly consented to such Change of Control in writing.  A “Change of Control” shall mean any event or
circumstance as a result of which (i) any “Person” or “group” (as such
terms are defined in Sections 13(d) and 14(d) of the Exchange Act, as
in effect on the date hereof), other than the Holder, is or becomes the “beneficial
owner” (as defined in Rules 13(d)-3 and 13(d)-5 under the Exchange Act),
directly or indirectly, of 35% or more on a fully diluted basis of the then
outstanding voting equity interest of the Company [(other than a “Person” or “group”
that beneficially owns 35% or more of such outstanding voting equity interests
of the Company on the date hereof)], (ii) the Board of Directors of the
Company shall cease to consist of a majority of the Company’s board of
directors on the date hereof (or directors appointed by a majority of the board
of directors in effect immediately prior to such appointment or (iii) the
Company or any of its Subsidiaries merges or consolidates with, or sells all or
substantially all of its assets to, any other person or entity;);

 

(j)                                     Indictment;
Proceedings.  The indictment or
conviction of the Company or any of its Subsidiaries or any executive officer
of the Company or any of its Subsidiaries under any criminal statute, or
commencement or threatened commencement of criminal or civil proceeding against
the Company or any of its Subsidiaries or any executive officer of the Company
or any of its Subsidiaries pursuant to which statute or proceeding penalties or
remedies sought or available include forfeiture of any of the property of the
Company or any of its Subsidiaries;

 

(k)                                  The
Purchase Agreement and Related Agreements. 
(i) An Event of Default shall occur under and as defined in the
Purchase Agreement or any other Related Agreement, (ii) the Company or any
of its Subsidiaries shall breach any term or provision of the Purchase Agreement
or any other Related Agreement in any material respect and such breach, is not
cured within any applicable cure or grace period provided in respect thereof
(if any) (iii) the Company or any of its Subsidiaries attempts to
terminate, challenges the validity of, or its liability under, the Purchase
Agreement or any Related Agreement, (iv) any proceeding shall be brought
to challenge the validity, binding effect of the Purchase Agreement or any
Related Agreement or (v) the Purchase Agreement or any Related Agreement
ceases to be a valid, binding and enforceable obligation of the Company or any
of its Subsidiaries (to the extent such persons or entities are a party
thereto);

 

(l)                                     Stop
Trade.  An SEC stop trade order or
Principal Market trading suspension of the Common Stock shall be in effect for
five (5) consecutive days or five (5) days during a period of ten (10) consecutive
days, excluding in all cases a suspension of all trading on a Principal Market,
provided that the Company shall not have been able to cure such trading
suspension within thirty (30) business days of the notice thereof or list the
Common Stock on another Principal Market within sixty (60) business days of
such notice; or

 

7

 

(m)                               Failure
to Deliver Common Stock or Replacement Note.  The Company’s failure to deliver Common Stock
to the Holder pursuant to and in the form required by this Note and the
Purchase Agreement and, if such failure to deliver Common Stock shall not be
cured within two (2) business days or the Company is required to issue a
replacement Note to the Holder and the Company shall fail to deliver such
replacement Note within seven (7) business days.Default Interest.  Following the occurrence and during the
continuance of an Event of Default, the Company shall pay additional interest
on this Note in an amount equal to the Contract Rate plus five percent (5%) per
month, and all outstanding obligations under this Note, the Purchase Agreement
and each other Related Agreement, including unpaid interest, shall continue to
accrue interest at such additional interest rate from the date of such Event of
Default until the date such Event of Default is cured or waived.

 

4.2                                 Default
Payment.  Following the occurrence
and during the continuance of an Event of Default, the Holder, at its option,
may demand repayment in full of all obligations and liabilities owing by
Company to the Holder under this Note, the Purchase Agreement and/or any other
Related Agreement and/or may elect, in addition to all rights and remedies of
the Holder under the Purchase Agreement and the other Related Agreements and
all obligations and liabilities of the Company under the Purchase Agreement and
the other Related Agreements, to require the Company to make a Default Payment
(“Default Payment”).  The Default Payment shall be 130% of the
outstanding principal amount of the Note, plus accrued but unpaid interest, all
other fees then remaining unpaid, and all other amounts payable hereunder.  The Default Payment shall be applied first to
any fees due and payable to the Holder pursuant to this Note, the Purchase
Agreement, and/or the other Related Agreements, then to accrued and unpaid
interest due on this Note and then to the outstanding principal balance of this
Note.  The Default Payment shall be due
and payable immediately on the date that the Holder has exercised its rights
pursuant to this Section 4.3.

 

ARTICLE V

MISCELLANEOUS

 

5.1                                 Conversion
Privileges.  The conversion
privileges set forth in Article III shall remain in full force and effect
immediately from the date hereof until the date this Note is indefeasibly paid
in full and irrevocably terminated.

 

5.2                                 Cumulative
Remedies.  The remedies under this
Note shall be cumulative.

 

5.3                                 Failure
or Indulgence Not Waiver.  No failure
or delay on the part of the Holder hereof 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.  All rights and remedies existing hereunder
are cumulative to, and not exclusive of, any rights or remedies otherwise
available.

 

5.4                                 Notices.  Any notice herein required or permitted to be
given shall be in writing and shall be deemed effectively given: (a) upon
personal delivery to the party notified, (b) when sent by confirmed telex
or facsimile if sent during normal business hours of the recipient, if not,
then on the next business day, (c) five days after having been sent by
registered

 

8

 

or certified mail, return
receipt requested, postage prepaid, or (d) one day after deposit with a
nationally recognized overnight courier, specifying next day delivery, with
written verification of receipt.  All
communications shall be sent to the Company at the address provided in the
Purchase Agreement executed in connection herewith, and to the Holder at the
address provided in the Purchase Agreement for such Holder, with a copy to John
E. Tucker, Esq., 825 Third Avenue, 14th Floor, New York, New
York 10022, facsimile number (212) 541-4434, or at such other address as the
Company or the Holder may designate by ten days advance written notice to the
other parties hereto.  A Notice of
Conversion shall be deemed given when made to the Company pursuant to the
Purchase Agreement.

 

5.5                                 Amendment
Provision.  The term “Note” and all
references thereto, as used throughout this instrument, shall mean this
instrument as originally executed, or if later amended or supplemented, then as
so amended or supplemented, and any successor instrument as such successor
instrument may be amended or supplemented.

 

5.6                                 Assignability.  This Note shall be binding upon the Company
and its successors and assigns, and shall inure to the benefit of the Holder
and its successors and assigns, and may be assigned by the Holder in accordance
with the requirements of the Purchase Agreement.  The Company may not assign any of its
obligations under this Note without the prior written consent of the Holder,
any such purported assignment without such consent being null and void.

 

5.7                                 Cost
of Collection.  In case of any Event
of Default under this Note, the Company shall pay the Holder reasonable costs
of collection, including reasonable attorneys’ fees.

 

5.8                                 Governing
Law, Jurisdiction and Waiver of Jury Trial.

 

(a)                                  THIS
NOTE SHALL BE GOVERNED BY AND CONSTRUED AND ENFORCED IN ACCORDANCE WITH THE
LAWS OF THE STATE OF NEW YORK, WITHOUT REGARD TO PRINCIPLES OF CONFLICTS OF
LAW.

 

(b)                                 THE
COMPANY HEREBY CONSENTS AND AGREES THAT THE STATE OR FEDERAL COURTS LOCATED IN
THE COUNTY OF NEW YORK, STATE OF NEW YORK SHALL HAVE EXCLUSIVE JURISDICTION TO
HEAR AND DETERMINE ANY CLAIMS OR DISPUTES BETWEEN THE COMPANY, ON THE ONE HAND,
AND THE HOLDER, ON THE OTHER HAND, PERTAINING TO THIS NOTE OR ANY OF THE OTHER
RELATED AGREEMENTS OR TO ANY MATTER ARISING OUT OF OR RELATED TO THIS NOTE OR
ANY OF THE RELATED AGREEMENTS; PROVIDED, THAT THE COMPANY ACKNOWLEDGES
THAT ANY APPEALS FROM THOSE COURTS MAY HAVE TO BE HEARD BY A COURT LOCATED
OUTSIDE OF THE COUNTY OF NEW YORK, STATE OF NEW YORK; AND FURTHER  PROVIDED,
THAT NOTHING IN THIS NOTE SHALL BE DEEMED OR OPERATE TO PRECLUDE THE HOLDER
FROM BRINGING SUIT OR TAKING OTHER LEGAL ACTION IN ANY OTHER JURISDICTION TO
COLLECT THE OBLIGATIONS, TO REALIZE ON THE COLLATERAL OR ANY OTHER SECURITY FOR
THE OBLIGATIONS, OR TO ENFORCE A JUDGMENT OR OTHER COURT ORDER IN FAVOR OF THE
HOLDER.  THE

 

9

 

COMPANY EXPRESSLY SUBMITS
AND CONSENTS IN ADVANCE TO SUCH JURISDICTION IN ANY ACTION OR SUIT COMMENCED IN
ANY SUCH COURT, AND THE COMPANY HEREBY WAIVES ANY OBJECTION WHICH IT MAY HAVE
BASED UPON LACK OF PERSONAL JURISDICTION, IMPROPER VENUE OR FORUM NON
CONVENIENS.  THE COMPANY HEREBY
WAIVES PERSONAL SERVICE OF THE SUMMONS, COMPLAINT AND OTHER PROCESS ISSUED IN
ANY SUCH ACTION OR SUIT AND AGREES THAT SERVICE OF SUCH SUMMONS, COMPLAINT AND
OTHER PROCESS MAY BE MADE BY REGISTERED OR CERTIFIED MAIL ADDRESSED TO THE
COMPANY AT THE ADDRESS SET FORTH IN THE PURCHASE AGREEMENT AND THAT SERVICE SO
MADE SHALL BE DEEMED COMPLETED UPON THE EARLIER OF THE COMPANY’S ACTUAL RECEIPT
THEREOF OR THREE (3) DAYS AFTER DEPOSIT IN THE U.S. MAILS, PROPER POSTAGE
PREPAID.

 

(c)                                  THE
COMPANY DESIRES THAT ITS DISPUTES BE RESOLVED BY A JUDGE APPLYING SUCH
APPLICABLE LAWS.  THEREFORE, TO ACHIEVE
THE BEST COMBINATION OF THE BENEFITS OF THE JUDICIAL SYSTEM AND OF ARBITRATION,
THE COMPANY HERETO WAIVES ALL RIGHTS TO TRIAL BY JURY IN ANY ACTION, SUIT, OR
PROCEEDING BROUGHT TO RESOLVE ANY DISPUTE, WHETHER ARISING IN CONTRACT, TORT,
OR OTHERWISE BETWEEN THE HOLDER AND THE COMPANY ARISING OUT OF, CONNECTED WITH,
RELATED OR INCIDENTAL TO THE RELATIONSHIP ESTABLISHED BETWEEN THEM IN CONNECTION
WITH THIS NOTE, ANY OTHER RELATED AGREEMENT OR THE TRANSACTIONS RELATED HERETO
OR THERETO.

 

5.9                                 Severability.  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.

 

5.10                           Maximum
Payments.  Nothing contained herein
shall be deemed to establish or require the payment of a rate of interest or
other charges in excess of the maximum permitted by applicable law.  In the event that the rate of interest
required to be paid or other charges hereunder exceed the maximum rate
permitted by such law, any payments in excess of such maximum rate shall be
credited against amounts owed by the Company to the Holder and thus refunded to
the Company.

 

5.11                           Security
Interest and Guarantee.  The Holder
has been granted a security interest (i) in certain assets of the Company
and its Subsidiaries as more fully described in the Master Security Agreement
dated as of the date hereof and (ii) in the equity interests of the
Companies’ Subsidiaries pursuant to the Stock Pledge Agreement dated as of the
date hereof.  The obligations of the
Company under this Note are guaranteed by certain Subsidiaries of the Company
pursuant to the Subsidiary Guaranty dated as of the date hereof.

 

5.12                           Construction.  Each party acknowledges that its legal
counsel participated in the preparation of this Note and, therefore, stipulates
that the rule of construction that

 

10

 

ambiguities are to be
resolved against the drafting party shall not be applied in the interpretation
of this Note to favor any party against the other.

 

5.13                           Registered
Obligation. This Note is intended to be a registered obligation within the
meaning of Treasury Regulation Section 1.871-14(c)(1)(i) and the
Company (or its agent) shall register this Note (and thereafter shall maintain
such registration) as to both principal and any stated interest.  Notwithstanding any document, instrument or
agreement relating to this Note to the contrary, transfer of this Note (or the
right to any payments of principal or stated interest thereunder) may only be
effected by (i) surrender of this Note and either the reissuance by the
Company of this Note to the new holder or the issuance by the Company of a new
instrument to the new holder, or (ii) transfer through a book entry system
maintained by the Company (or its agent), within the meaning of Treasury
Regulation Section 1.871-14(c)(1)(i)(B).

 

[Balance of page intentionally
left blank; signature page follows]

 

11

 

IN WITNESS
WHEREOF, the Company has caused this Secured
Convertible Term Note to be signed in its name effective as of this 10 day of
February, 2006.,

 

 

	
   

  	
  IWT TESORO CORPORATION

  
	
   

  	
   

  
	
   

  	
  By:

  	
   

  	
   

  
	
   

  	
   

  	
  Name:

  
	
   

  	
   

  	
  Title:

  
	
   

  	
   

  
	
  WITNESS:

  	
   

  
	
   

  	
   

  
	
   

  	
   

  	
   

  
					

 

12

 

EXHIBIT A

 

NOTICE OF
CONVERSION

 

(To be executed by the Holder in order to convert all
or part of

the Secured Convertible Term Note into Common Stock)

 

IWT Tesoro Corporation

 

The undersigned hereby
converts $                  
of the principal due on [specify applicable Repayment Date] under the Secured
Convertible Term Note dated as of                   ,
200     (the “Note”) issued
by IWT Tesoro Corporation (the “Company”) by
delivery of shares of Common Stock of the Company (“Shares”) on and subject to the conditions set forth in the
Note.

 

1.                                       Date
of Conversion

 

2.                                       Shares
To Be Delivered:

 

	
   

  	
  [HOLDER]

  
	
   

  	
   

  
	
   

  	
   

  
	
   

  	
  By:

  	
   

  	
   

  
	
   

  	
  Name:

  	
   

  	
   

  
	
   

  	
  Title:

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