Document:

Unassociated Document

    
      EMPLOYMENT
        AGREEMENT

       

      EMPLOYMENT
        AGREEMENT, effective as of November 6th
        ___,
        2007 (this “Agreement”),
        between Craig Moody, an individual residing at _C/O Content Partners 10877
        Wilshire Blvd. Suite 603, Los Angeles, CA 90024_______________________________
        (“CM”), and North Coast Partners, Inc., of 909 Logan Street, Suite 7J, Denver,
        Colorado 80203, a Delaware corporation (the “Company”).

       

      W
        I T N E S S E T H :

       

      WHEREAS,
        the Company and the Board of Directors of the Company desire to memorialize
        the
        employment of CM on a full-time basis as its Chief Executive Officer and
        the
        Executive desires to accept such employment subject to the terms and conditions
        set forth in this Agreement.

       

      NOW,
        THEREFORE, in consideration of the mutual agreements and covenants set forth
        herein, the parties hereto agree as follows:

       

      ARTICLE
        I

      POSITION;
        DUTIES; TERM

       

      1.1 Position.
        The
        Company hereby employs CM as the Chief Executive Officer of the Company,
        which
        employment the Executive hereby accepts, all in the capacity and on the terms
        and conditions hereinafter set forth. 

       

      1.2 Duties.
        

      

      (a)
        During the Term (as defined below), the Executive shall be a full-time employee
        of the Company, all under and subject to the direction of the Board of Directors
        of the Company (the “Board”).
        

      

      (c) In
        his
        capacity as Chief Executive Officer, CM shall be the senior officer of the
        Company with principal responsibility for the operations of the Company and
        shall perform such duties for the Company as are consistent with the foregoing,
        including without limitation, conducting market research and assessing
        competitive environment to identify business opportunities, developing and
        expanding clientele base for Company’s offering of technologies, products and
        services, preparing and obtaining approval from the Board; preparing the
        Company’s annual budget and plan, reviewing current market growth, distribution
        and sales strategies, proposing and developing revenue models, growth strategies
        and plans of action, preparing and managing growth forecast and presenting
        findings to Board.

      

      (d)
         The
        services to be performed by CM shall be commensurate with the position of
        CM as
        the Chief Executive Officer of the Company. In this connection, during the
        Term
        (i) CM shall not render services to or for any other person, firm, corporation
        or business in this capacity and (ii) shall have no interest directly or
        indirectly in any other person, firm, corporation or business whose business
        competitive with the business of the Company; provided,
        however,
        CM may
        own, directly or indirectly, solely as an investment, securities of any entity
        which are traded on any national securities exchange or which are admitted
        to
        quotation on The NASDAQ Stock Market Inc. if CM (a) is not a controlling
        person
        of, or a member of a group which controls, such entity and (b) does not,
        directly or indirectly, own one percent or more of any class of securities
        of
        such entity. Notwithstanding the foregoing, so long as it does not interfere
        with his full time employment hereunder, CM may attend to outside investments
        and serve as a director, trustee or officer of or otherwise participate in
        companies, charitable and civic organizations and serve as director of
        corporations whose business is unrelated to the business of the Company and
        continue to pursue his other business interests.

       

      
        
          
          

        

        
          
          

          
            

          

        

        
          
          

        

      

      1.3 Term.
        The
        term of employment shall commence as of the date set forth above and shall
        continue until this Agreement is terminated in accordance with the terms
        hereof
        (the “Term”).
        Notwithstanding anything contained herein to the contrary, CM can terminate
        his
        employment hereunder at any time hereafter upon sending written notice of
        termination to the Company at least sixty (60) days prior to the
        termination.

       

      ARTICLE
        II

      COMPENSATION

      

      2.1 Compensation.
        The
        Company hereby grants CM Six Hundred Thousand (600,000) common shares in
        the
        capital of the Company which are restricted securities pursuant to Rule 144
        of
        the Rules and Regulations promulgated under the Securities Act of 1933 as
        amended as his compensation for acting as Chief Executive Officer of the
        Company
        (“Company Shares”). Two weeks after completion of any future financing
        undertaken by the Company for $3 to $5 million should the Company choose
        to
        pursue financing, CM shall receive an additional compensation in the form
        of
        annual salary of $240,000 payable in equal monthly installments of $20,000
        per
        month, or in such other manner as the parties shall mutually agree, subject
        to
        withholding for applicable taxes. The annual salary shall be subject to an
        annual increase at the discretion of the Board.

       

      ARTICLE
        III

      BENEFITS

      

      3.1 Business
        Expenses The
        Company, upon presentation by CM of appropriate documentation, shall reimburse
        CM for all reasonable and necessary business expenses incurred by CM in
        connection with the performance of his duties under this Agreement provided
        that
        no single expense amount is in excess of $3,000 a month supported by appropriate
        documentation shall require a prior approval from the Company. Such
        reimbursement shall be paid to CM within five (5) business days
        thereafter.

      

      3.2 Additional
        Benefits. 
        CM shall
        be entitled to participate in any pension or profit sharing plans, group
        health,
        accident or life insurance plans, group medical and hospitalization plan,
        and
        other similar benefits as may be available to the Executives of the Company.
        CM
        shall assist the Company in adopting the proper plans for the
        Company.

      

      
        
          
          

        

        
          2

          
            

          

        

        
          
          

        

      

      ARTICLE
        IV

      TERMINATION

      

      4.1
        Termination
        without Cause.
        CM's
        employment hereunder may be terminated by the Company without Cause at any
        time.
        If the Company terminates CM without cause, the Company shall pay CM the
        compensation due to CM through the date of termination in the form of cash,
        and
        cash equal to 3 month compensation, and Company Shares which shall be pro-rated
        at a rate of 25,000 shares per month.

      

      4.2
        Termination
        with Cause.
        CM's
        employment hereunder may be terminated by the Company for Cause (hereafter
        defined) at any time upon notice from the Company to CM. For purposes hereof,
        “Cause”
shall
        mean any one of the following: (i) willful and continuing disregard of his
        job
        responsibilities or material breach by CM of this Agreement, which continues
        for
        10 days after delivery to CM of notice thereof or (ii) fraud, embezzlement,
        conviction of a felony or serious crime, violation of ethics code or other
        serious misconduct. If CM’s employment is terminated by the Company for Cause or
        by CM for any reason, including without limitation, CMs death or disability,
        the
        Company shall pay CM or his heirs or personal representatives the compensation
        accrued through the date of termination. 

       

      ARTICLE
        V

      REPRESENTATION;
        NON-COMPETITION; CONFIDENTIALITY

      

      5.1 Representation
        of CM.
        CM
        represents that CM’s execution of this Agreement and the performance of his
        duties required hereunder will neither be a breach of any other employment
        or
        other agreement nor a breach of any non-competition or similar
        agreement.

      

      5.2 Non-Competition.
        (a) CM
        agrees that during the Term and for the period of one (1) year thereafter,
        he
        will not engage, directly or directly, either as principal, agent, consultant,
        proprietor, creditor, stockholder, director, officer or employee, or participate
        in the ownership, management, operation or control of any business which
        directly or indirectly competes with the business of the Company. CM
        acknowledges and agrees that the current market for the Company's business
        extends throughout the world and that it is therefore reasonable to prohibit
        CM
        from competing with the Company anywhere in such territory. This Section
        shall
        not apply to CM’s ownership of less than five percent (5%) of the capital stock
        of a company having a class of capital stock which is traded on any national
        stock exchange or on the over-the-counter market.

      

      (b) During
        the Term and for the period of one (1) year thereafter, CM agrees that he
        will
        not, directly or indirectly, (i) solicit, divert or recruit or encourage
        any of
        the employees of the Company, or any person who was an employee of the Company
        during the Term, to leave the employ of the Company or terminate or alter
        their
        contractual relationship in a way that is adverse to the Company's interests,
        (ii) solicit or divert business from the Company, or assist any person or
        entity
        in doing so or attempting to do so or (iii) cause or seek to cause any person
        or
        entity to refrain from dealing or doing business with the Company or assist
        any
        person or entity in doing so or attempting to do so.

      

      
        
          
          

        

        
          3

          
            

          

        

        
          
          

        

      

      5.3 Confidential
        Information.
        (a) CM
        agrees that he shall hold in strict confidence and shall not at any time
        during
        or after his employment with the Company, directly or indirectly, (i) reveal,
        report, publicize, disclose, or transfer any Confidential Information (as
        described below) or any part thereof to any person or entity, (ii) use any
        of
        the Confidential Information or any part thereof for any purpose other than
        in
        the course of his duties on behalf of the Company, or (iii) assist any person
        or
        entity other than the Company to secure any benefit from the Confidential
        Information or any part thereof. All Confidential Information (regardless
        of the
        medium retained) and all abstracts, summaries or writings based upon or
        reflecting any Confidential Information in CM's possession shall be delivered
        by
        CM to the Company upon request therefor by the Company or automatically upon
        the
        expiration of the Term or termination of this Agreement.

       

      (b) For
        purposes of this Agreement, "Confidential
        Information"
        shall
        mean any information relating to the business, operations, affairs, assets
        or
        condition (financial or otherwise) of the Company which is not generally
        known
        by non-company personnel, or is proprietary or in any way constitutes a trade
        secret (regardless of the medium in which information is maintained) which
        CM
        develops or which CM obtains knowledge of or access to through or as a result
        of
        CM’s relationship with the Company. Confidential Information specifically
        includes, without limitation, business and marketing plans, financings, cost
        and
        pricing information, supplier information, all source code, system and user
        documentation, and other technical documentation pertaining to the hardware
        and
        software programs of the Company, including any proposed design and
        specifications for future products and products in development, and all other
        technical and business information considered confidential by the Company.
        Confidential Information shall not include any information that is generally
        publicly available or otherwise in the public domain other than as a result
        of a
        breach by CM of his obligations hereunder. For purposes of this Agreement,
        information shall not be deemed Confidential Information if (i) such information
        is available from public sources, (ii) such information is received from
        a third
        party not under an obligation to keep such information confidential, or (iii)
        CM
        can conclusively demonstrate that such information had been independently
        developed by CM.

      

      5.4 Remedies. CM
        agrees
        and acknowledges that the foregoing restrictions and the duration and the
        territorial scope thereof as set forth in this Sections 5.2 and 5.3 are under
        all of the circumstances reasonable and necessary for the protection of the
        Company and its business. In the event that CM shall breach any of the
        provisions of Sections 5.2 or 5.3, in addition to and without limiting or
        waiving any other remedies available to the Company, at law or in equity,
        the
        Company shall be entitled to immediate injunctive relief in any court, domestic
        or foreign, having the capacity to grant such relief, to restrain any such
        breach or threatened breach and to enforce the provision of this Agreement.
        

      

      
        
          
          

        

        
          4

          
            

          

        

        
          
          

        

      

      ARTICLE
        VI

      MISCELLANEOUS

      

      6.1 Entire
        Agreement.
        This
        Agreement constitutes the entire understanding between the Company and CM
        with
        respect to the subject matter hereof and supersedes any and all previous
        agreements or understandings between CM and the Company concerning the subject
        matter hereof, all of which are merged herein.

      

      6.2 Mutual
        Indemnity.
        CM and
        the Company agree to indemnify and hold harmless each other, (and in the
        case of
        the Company, its directors, officers, representatives, consultants, advisors,
        successors and assigns), against any loss, liability, claim, damage and expense
        whatsoever (including but not limited to any and all expenses reasonably
        incurred in preparation of litigation, claim and legal fees and expenses)
        arising out of or based upon any false representation or warranty or breach
        or
        failure by the other party to comply with any agreement made
        herein.

      

      6.3 Successors.
        This
        Agreement shall be binding upon and inure to the benefit of CM and his heirs
        and
        personal representatives, and the Company and its successors and
        assigns.

      

      6.4 Notices.
        All
        notices and other communications required or permitted hereunder shall be
        delivered personally, sent via facsimile, certified or registered mail, return
        receipt requested, or next day express mail or overnight, nationally recognized
        courier, postage prepaid with proof of receipt, to the address or telephone
        number (in the case of facsimile) set forth above. Such addresses and/or
        telephone numbers may be changed by notice given in the manner provided herein.
        Any such notice shall be deemed given (i) when delivered if delivered
        personally, (ii) the day after deposit with the express or courier service
        when
        sent by next day express mail or courier, (iii) five (5) days after deposit
        with
        the postal service when sent by certified or registered mail, or (iv) when
        sent
        over a facsimile system with answer back response set forth on the sender's
        copy
        of the document.

      

      6.5 Governing
        Law.
        This
        Agreement shall be governed by and construed in accordance with the laws
        of the
        State of Delaware, without regard to choice of law principles.

      

      6.6 Amendment
        and Modification.
        This
        Agreement may be amended, modified or supplemented only by written agreement
        executed by the Company and CM.

      

      6.7 Headings.
        The
        section headings herein are inserted for the convenience of the parties only
        and
        are not to be construed as part of the terms of this Agreement or to be taken
        into account in the construction or interpretation of this
        Agreement.

      

      6.8 Counterparts.
        This
        Agreement may be executed in counterparts and by facsimile, each of which
        shall
        be deemed to be an original but both of which together will constitute one
        and
        the same instrument.

      

      
        
          
          

        

        
          5

          
            

          

        

        
          
          

        

      

       

      IN
        WITNESS WHEREOF, the parties have entered into this Agreement as of the day
        and
        year first above written.

       

      

      
        	 	
                NORTH
                  COAST PARTNERS, INC.

              
	 	 
	 	 
	 	
                By:
                  /s/ Robert
                  Montesano                                    
                  

              
	 	
                Name:
                  Robert Montesano

              
	 	
                Title:
                  Director

              

      

      
 

      
        	
                /s/
                  Alexander J.
                  Sarnoff                          
                  

              	
                /s/
                  Craig
                  Moody                                                      
                  

              
	
                In
                  the presence of:

              	
                CRAIG
                  MOODY

              
	
                Witness:
                  Alexander J. Sarnoff

              	 

      

       

       

       

       

      
        
          
          

        

        
          6Exhibit
      4.1

    CONVERTIBLE
      SECURED SUBORDINATED NOTE PURCHASE AGREEMENT

     

    This
      Convertible Secured Subordinated Note Purchase Agreement, dated as of November
      14, 2007, (this “Agreement”)
      is
      entered into by and among Smart Online, Inc., a Delaware corporation (the
“Company”),
      and
      the persons and entities listed on the schedule of investors attached hereto
      as
Schedule I
      (each an
“Investor”
and,
      collectively, the “Investors”).

     

    RECITALS
      

     

    A. On
      the
      terms and subject to the conditions set forth herein, each Investor is willing
      to purchase from the Company, and the Company is willing to sell to such
      Investor, a secured subordinated convertible promissory note in the principal
      amount set forth opposite such Investor’s name on Schedule I
      hereto.

     

    B. Capitalized
      terms not otherwise defined herein shall have the meaning set forth in the
      form
      of Note (as defined below) attached hereto as Exhibit A.
      

     

    AGREEMENT

     

    NOW
      THEREFORE, in consideration of the foregoing, and the representations,
      warranties, and conditions set forth below, the parties hereto, intending to
      be
      legally bound, hereby agree as follows:

     

    1.  The
      Notes.

     

    (a)  Issuance
      of Notes.
      At the
      Initial Closing (as defined below), the Company agrees to issue and sell to
      each
      of the Investors, and, subject to all of the terms and conditions hereof, each
      of the Investors severally agrees to purchase a convertible secured subordinated
      promissory note in the form of Exhibit A
      hereto
      (each, a “Note”
and,
      collectively, the “Notes”)
      in the
      principal amount set forth opposite the respective Investor’s name on
Schedule I
      hereto,
      (which amount shall not be less than $250,000.00). The obligations of the
      Investors to purchase Notes are several and not joint. 

     

    (b)  Initial
      Closing; Delivery.
      The
      sale and purchase of the Notes shall take place at one or more closings with
      the
      initial closing (the “Initial
      Closing”)
      to be
      held on the date hereof at such place as the Company and the Investors may
      determine. At the Initial Closing, the Company will deliver to each of the
      Investors the respective Note to be purchased by such Investor, against receipt
      by the Company of the corresponding purchase price set forth on Schedule
      I hereto
      (the “Purchase
      Price”).
      Each
      of the Notes will be registered in such Investor’s name in the Company’s
      records. In addition, to secure the full payment of all obligations under the
      Notes, the Company and Doron Roethler, as agent for the Investors (the
“Agent”),
      shall
      execute the Security Agreement (as defined below).

     

    
      
        
        

      

      
        
        

        
          

        

      

      
        
        

      

    

     

    (c)  Subsequent
      Closing; Delivery. 
      Subject
      to
      compliance with federal and applicable state securities laws, at any time after
      the date of this Agreement but on or prior to the third anniversary hereof,
      the
      Company may elect to sell and issue to the Investors, and, upon such election,
      the Investors shall purchase from the Company in one or more subsequent closings
      (each, a “Subsequent
      Closing”),
      additional Notes (the “Additional
      Notes”);
      provided that the aggregate principal amount of all Additional Notes issued
      in
      all Subsequent Closings pursuant to this Agreement does not exceed
      $5,200,000.
      Each
      time the Company elects to sell Additional Notes in a Subsequent Closing, the
      Company shall provide to each Investor written notice of such election (the
      “Subsequent
      Closing Notice”),
      which
      notice shall include the aggregate principal amount of the Additional Notes
      the
      Company proposes to sell in such Subsequent Closing (which amount shall not
      be
      less than $500,000) (the “Subsequent
      Closing Amount”),
      the
      anticipated date upon which such Subsequent Closing will occur (which date
      shall
      not be more than fifteen (15) days after the Company provides such notice to
      the
      Investors) and the Investor’s pro rata share of the Subsequent Closing Amount
      (which shall be calculated by dividing the principal amount of the Note
      purchased by such Investor in the Initial Closing by the aggregate principal
      amount of all Notes purchased in the Initial Closing). At each Subsequent
      Closing, each Investor shall purchase an Additional Note equal to such
      Investor’s pro rata share of the Subsequent Closing Amount. All such sales of
      Additional Notes shall be made on the terms and conditions set forth in this
      Agreement and the exhibits attached hereto. Any Additional Notes sold and issued
      pursuant to this Section 1(d) shall be deemed to be “Notes”
for
      all
      purposes under this Agreement. Should any such sales be made, the Company shall
      prepare a revised Schedule
      I
      to this
      Agreement reflecting such sales. At each Subsequent Closing, the Company will
      deliver to each of the Investors participating in such Subsequent Closing the
      respective Note to be purchased by such Investor, against receipt by the Company
      of the corresponding Purchase Price set forth on Schedule
      I
      hereto.
      Each of the Notes will be registered in such Investor’s name in the Company’s
      records. The Initial Closing and each Subsequent Closing, if any, shall each
      be
      considered a “Closing”
for
      the
      purposes of this Agreement and the date of each such Closing shall be a
“Closing
      Date.”

     

    (d)  Use
      of Proceeds.
      The
      proceeds of the sale and issuance of the Notes shall be used for ongoing working
      capital and capital spending requirements.

     

    2.  Representations
      and Warranties of the Company.
      Except
      as otherwise described in the Company’s Annual Report on Form 10-K for the year
      ended December 31, 2006 (and any amendments thereto filed at least two (2)
      Business Days prior to the Closing Date), the Company’s Quarterly Reports on
      Form 10-Q for the quarters ended June 30, 2007 and March 31, 2007 (and any
      amendments thereto filed at least two (2) Business Days prior to the Closing
      Date), the Company’s Proxy Statement for its 2007 Annual Meeting of
      Shareholders, and any of the Company’s Current Reports on Form 8-K filed since
      August 14, 2007 (and any amendments thereto filed at least two (2) Business
      Days
      prior to the Closing Date) (all collectively, the “SEC
      Reports”),
      the
      Company hereby represents and warrants to, and covenants with, the Investor
      as
      of the date hereof and the applicable Closing Date, as follows:

     

    (a)  Organization.
       The
      Company is duly incorporated and validly existing in good standing under the
      laws of the State of Delaware. The Company has full power and authority to
      own,
      operate and occupy its properties and to conduct its business as presently
      conducted and is registered or qualified to do business and in good standing
      in
      each jurisdiction in which it owns property or transacts business and where
      the
      failure to be so qualified would have a material adverse effect upon the Company
      and its subsidiaries as a whole or the business, financial condition,
      properties, operations or assets of the Company and its subsidiaries as a whole
      or the Company’s ability to perform its obligations under the this Agreement,
      the Notes, the Security Agreement (as defined below), the Registration Rights
      Agreement (as defined below) (collectively, the “Transaction
      Agreements”)
      in all
      material respects (“Material
      Adverse Effect”),
      and
      no proceeding has been instituted in any such jurisdiction revoking, limiting
      or
      curtailing, or seeking to revoke, limit or curtail, such power and authority
      or
      qualification.

     

    
      
        
        

      

      
        2

        
          

        

      

      
        
        

      

    

     

    (b)  Due
      Authorization. The
      Company has all requisite power and authority to execute, deliver and perform
      its obligations under the Transaction Agreements. The execution and delivery
      of
      the Transaction Agreements, and the consummation by the Company of the
      transactions contemplated hereby, have been duly authorized by all necessary
      corporate action and no further action on the part of the Company or its Board
      of Directors or stockholders is required. The Transaction Agreements have been
      validly executed and delivered by the Company and constitute legal, valid and
      binding agreements of the Company enforceable against the Company in accordance
      with their terms, except to the extent (i) rights to indemnity and contribution
      may be limited by state or federal securities laws or the public policy
      underlying such laws, (ii) such enforceability may be limited by applicable
      bankruptcy, insolvency, reorganization, moratorium or similar laws affecting
      creditors’ and contracting parties’ rights generally and (iii) such
      enforceability may be subject to general principles of equity (regardless of
      whether such enforceability is considered in a proceeding in equity or at
      law).

     

    (c)  No
      Conflict or Default. The
      execution and delivery of the Transaction Agreements, the sale and issuance
      of
      the Notes to be sold by the Company pursuant to this Agreement, the issuance
      of
      the shares of the Company’s Common Stock (the “Common
      Stock”)
      issuable upon conversion of the Notes (the “Conversion
      Shares”)
      in
      accordance with the terms of the Notes, the fulfillment of the terms of the
      Transaction Agreements and the consummation of the transactions contemplated
      thereby will not: (A) result in a conflict with or constitute a material
      violation of, or material default (with the passage of time or otherwise) under,
      (i) any bond, debenture, note, loan agreement or other evidence of
      indebtedness, or any material lease,
      or
      contract to which the Company is a party or by which the Company or their
      respective properties are bound, (ii) the Certificate of Incorporation,
      by-laws or other organizational documents of the Company, as amended, or
      (iii) any law, administrative regulation, or existing order of any court or
      governmental agency, or other authority binding upon the Company or the
      Company’s respective properties; or, (B) result in the creation or
      imposition of any lien, encumbrance, claim, or security interest upon any of
      the
      material assets of the Company or an acceleration of indebtedness pursuant
      to
      any obligation, agreement or condition contained in any material bond,
      debenture, note or any other evidence of indebtedness or any material indenture,
      mortgage, deed of trust or any other agreement or instrument to which the
      Company is a party or by which it is bound or to which any of the property
      or
      assets of the Company is subject, except as contemplated by the Transaction
      Agreements. No consent, approval, authorization or other order of, or
      registration, qualification or filing with, any regulatory body, administrative
      agency, or other governmental body is required for the execution and delivery
      of
      the Transaction Agreements by the Company and the valid issuance or sale of
      the
      Securities by the Company pursuant to the Transaction Agreements, other than
      such as have been made or obtained, and except for any filings required to
      be
      made under federal or state securities laws

     

    
      
        
        

      

      
        3

        
          

        

      

      
        
        

      

    

     

    (d)  Capitalization.
      The
      outstanding capital stock of the Company is as described in the Company’s
      Quarterly Report on Form 10-Q for the three month period ending June 30,
      2007.
      The
      Company has not made any material issuances of capital stock since June 30,
      2007, other than pursuant to the purchase
      of shares under the Company’s employee stock equity plans and the exercise
      of outstanding warrants or stock options, in each case as disclosed in the
      SEC
      Reports, as well as the issuance of restricted shares to certain of its
      directors as part of its director compensation program and the issuance of
      restricted shares to certain of its employees under our 2004 Equity Compensation
      Plan. The Conversion Shares to be issued upon conversion of the Notes have
      been
      duly authorized, and when issued and paid for in accordance with the terms
      of
      the Transaction Agreements, will be duly and validly issued, fully paid and
      nonassessable, subject to no lien, claim or encumbrance (except
      for any such lien, claim or encumbrance created,
      directly or indirectly, by the Investor). The outstanding shares of capital
      stock of the Company have been duly and validly issued and are fully paid and
      nonassessable, have been issued in compliance with the registration requirements
      of federal and state securities laws, and were not issued in violation of any
      preemptive rights or similar rights to subscribe for or purchase securities.
      The
      Company owns one hundred percent of all of the outstanding capital stock of
      each
      of its subsidiaries, free and clear of all liens, claims and encumbrances except
      as disclosed in the SEC Reports. There are not (i) any outstanding preemptive
      rights, or (ii) any rights, warrants or options to acquire, or instruments
      convertible into or exchangeable for, any unissued shares of capital stock
      or
      other equity interest in the Company not disclosed in the SEC Reports, or (iii)
      any contract, commitment, agreement, understanding or arrangement of any kind
      to
      which the Company is a party that would provide for the issuance or sale of
      any
      capital stock of the Company, any such convertible or exchangeable securities
      or
      any such rights, warrants or options not disclosed in the SEC Reports. There
      are
      no shareholders agreements, voting agreements or other similar agreements with
      respect to the Common Stock to which the Company is a party

     

    (e)  Legal
      Proceedings. There
      is
      no material legal or governmental proceeding pending, or to the knowledge of
      the
      Company, threatened, to which the Company is a party or of which the business
      or
      property of the Company is subject that is required to be disclosed and that
      is
      not so disclosed in the SEC Reports or in the supplemental written disclosure
      on
      material legal proceedings provided to the Investors. Other than the information
      disclosed in the SEC Reports, the Company is not subject to any injunction,
      judgment, decree or order of any court, regulatory body, administrative agency
      or other government body.

     

    (f)  No
      Violations. To
      the
      knowledge of the Company, it is
      not in
      violation of its Certificate of Incorporation, bylaws or other organizational
      documents, as amended. To the knowledge of the Company, it is not in violation
      of any law, administrative regulation, ordinance or order of any court or
      governmental agency, arbitration panel or authority applicable to the Company,
      which violation, individually or in the aggregate, is reasonably likely to
      have
      a Material Adverse Effect. The Company is not in default (and there exists
      no
      condition which, with the passage of time or otherwise, would constitute a
      default) in the performance of any bond, debenture, note or any other evidence
      of indebtedness or any indenture, mortgage, deed of trust or any other material
      agreement or instrument to which the Company is a party or by which the Company
      is bound, which such default would have a Material Adverse Effect upon the
      Company.

     

    (g)  Governmental
      Permits, Etc. The
      Company has all necessary franchises, licenses, certificates and other
      authorizations from any foreign, federal, state or local government or
      governmental agency, department or body that are currently necessary for the
      operation of the business of the Company as currently conducted, except where
      the failure to currently possess such franchises, licenses, certificates and
      other authorizations is not reasonably likely to have a Material Adverse
      Effect.

     

    
      
        
        

      

      
        4

        
          

        

      

      
        
        

      

    

     

    (h)  Intellectual
      Property.

     

    (i)  Except
      for matters which are not reasonably likely to have a Material Adverse Effect,
      (i) each of the Company has ownership of, or a license or other legal right
      to
      use, all patents, copyrights, trade secrets, trademarks, customer lists,
      designs, manufacturing or other processes, computer software, systems, data
      compilation, research results or other proprietary rights used in the business
      of the Company (collectively, “Intellectual
      Property”)
      and
      (ii) all of the Intellectual Property owned by the Company consisting of
      patents, registered trademarks and registered copyrights have been duly
      registered in, filed in or issued by the United States Patent and Trademark
      Office, the United States Register of Copyrights or the corresponding offices
      of
      other jurisdictions and have been maintained and renewed in accordance with
      all
      applicable provisions of law and administrative regulations in the United States
      and/or such other jurisdictions.

     

    (ii)  Except
      for matters which are not reasonably likely to have a Material Adverse Effect,
      all material licenses or other material agreements under which (i) the Company
      employs rights in Intellectual Property, or (ii) the Company has granted rights
      to others in Intellectual Property owned or licensed by the Company are in
      full
      force and effect, and there is no default by the Company with respect
      thereto.

     

    (iii)  The
      Company believes that it has taken all steps reasonably required in accordance
      with sound business practice and business judgment to establish and preserve
      the
      ownership of the Company’s material Intellectual Property.

     

    (iv)  Except
      for matters which are not reasonably likely to have a Material Adverse Effect,
      to the knowledge of the Company, (i) the present business, activities and
      products of the Company do not infringe any intellectual property of any other
      person; (ii) neither the Company is making unauthorized use of any confidential
      information or trade secrets of any person; and (iii) the activities of any
      of
      the employees of the Company, acting on behalf of the Company, do not materially
      violate any agreements or arrangements related to confidential information
      or
      trade secrets of third parties.

     

    (v)  Except
      for matters which are not reasonably likely to have a Material Adverse Effect,
      and except as disclosed in the SEC Reports, no proceedings are pending, or
      to
      the knowledge of the Company, threatened, which challenge the rights of the
      Company to the use the Company’s Intellectual Property.

     

    (i)  Financial
      Statements.
      The
      financial statements of the Company and the related notes contained in the
      SEC
      Reports present fairly and accurately in all material respects the financial
      position of the Company as of the dates therein indicated, and the results
      of
      its operations, cash flows and the changes in shareholders’ equity for the
      periods therein specified, subject, in the case of unaudited financial
      statements for interim periods, to normal year-end audit adjustments. Such
      financial statements (including the related notes) have been prepared in
      accordance with generally accepted accounting principles applied on a consistent
      basis at the times and throughout the periods therein specified, except that
      unaudited financial statements may not contain all footnotes required by
      generally accepted accounting principles. 

     

    
      
        
        

      

      
        5

        
          

        

      

      
        
        

      

    

     

    (j)  No
      Material Adverse Change. Except
      as
      disclosed in the SEC Reports or
      in any
      press releases issued by the Company
      at least two (2) Business Days prior to the Closing Date,
      there
      has not been (i) an event, circumstance or change that has had or is
      reasonably likely to have a Material Adverse Effect upon the Company, (ii)
      any
      obligation incurred by the Company that is material to the Company,
      (iii) any dividend or distribution of any kind declared, paid or made on
      the capital stock of the Company, or (iv) any loss or damage (whether or not
      insured) to the physical property of the Company which has had a Material
      Adverse Effect.

     

    (k)  Trading. The
      principal United States market in which the Common Stock is quoted for trading
      is the Over-the-Counter Bulletin Board. The shares of Common Stock issuable
      upon
      conversion of the Notes must be registered with the SEC before trading can
      commence on the Over-the-Counter Bulletin Board with respect to such
      shares.

     

    (l)  Contracts.
      Except
      for matters which are not reasonably likely to have a Material Adverse Effect
      and those contracts that are substantially or fully performed or expired by
      their terms, the contracts listed as exhibits to or described in the SEC Reports
      that are material to the Company and all amendments thereto, are in full force
      and effect on the date hereof, and neither the Company nor, to the Company’s
      knowledge, any other party to such contracts is in breach of or default under
      any of such contracts.

     

    (m)  Taxes.
      Except
      for tax matters which are not reasonably likely to have a Material Adverse
      Effect, each of the Company and each of its subsidiaries has filed all necessary
      federal, state and foreign income and franchise tax returns and has paid or
      accrued all taxes shown as due thereon.

     

    (n)  Investment
      Company.
      The
      Company is not an “investment company” or an “affiliated person” of, or
“promoter” or “principal underwriter” for an investment company, within the
      meaning of the Investment Company Act of 1940, as amended, and will not be
      deemed an “investment company” as a result of the transactions contemplated by
      this Agreement.

     

    (o)  Insurance.
      The
      Company maintains insurance of the types and in the amounts that the Company
      reasonably believes is adequate for its businesses, including, but not limited
      to, insurance covering real and personal property owned or leased by the Company
      against theft, damage, destruction, acts of vandalism and all other risks
      customarily insured against by similarly situated companies, all of which
      insurance is in full force and effect.

     

    (p)  Offering
      Prohibitions.
      Neither
      the Company nor any person acting on its behalf or at its direction has in
      the
      past or will in the future take any action to sell, offer for sale or solicit
      offers to buy any securities of the Company which would bring the offer or
      sale
      of the Notes as contemplated by this Agreement or the issuance of the Conversion
      Shares as contemplated by the Notes within the provisions of Section 5 of the
      Securities Act. 

     

    
      
        
        

      

      
        6

        
          

        

      

      
        
        

      

    

     

    (q)  Related
      Party Transactions. Other
      than described in the SEC Reports, to the knowledge of the Company,
      no
      transaction has occurred between or among the Company or any of its affiliates,
      officers or directors or any affiliate or affiliates of any such officer or
      director that with the passage of time are reasonably likely be required to
      be
      disclosed pursuant to Section 13, 14 or 15(d) of the Securities Exchange Act
      of
      1934, as amended (the “Exchange Act”). 

     

    (r)  Books
      and Records.
      The
      books, records and accounts of the Company accurately and fairly reflect, in
      reasonable detail, the transactions in, and dispositions of, the assets of,
      and
      the operations of, the Company. The Company maintains a system of internal
      accounting controls sufficient to provide reasonable assurances that (i)
      transactions are executed in accordance with management’s general or specific
      authorizations, (ii) transactions are recorded as necessary to permit
      preparation of financial statements in accordance with generally accepted
      accounting principles and to maintain asset accountability, (iii) access to
      assets is permitted only in accordance with management’s general or specific
      authorization and (iv) the recorded accountability for assets is compared with
      the existing assets at reasonable intervals and appropriate action is taken
      with
      respect to any differences.

     

    3.  Representations
      and Warranties of Investors.
      Each
      Investor, for that Investor alone, represents and warrants to the Company upon
      the acquisition of the Note as follows:

     

    (a)  Investor
      Knowledge and Status.
      The
      Investor represents and warrants to, and covenants with, the Company that:
      (i)
      the Investor is an “accredited investor” as defined in Regulation D under the
      Securities Act, is knowledgeable, sophisticated and experienced in making,
      and
      is qualified to make decisions with respect to, investments in securities
      presenting an investment decision similar to that involved in the purchase
      of
      the Notes, and has requested, received, reviewed and considered all information
      it deemed relevant in making an informed decision to purchase the Notes; (ii)
      the Investor understands that the Notes and the Conversion Shares are
“restricted securities” and have not been registered under the Securities Act
      and is acquiring the Notes and the Conversion Shares in the ordinary course
      of
      its business and for its own account for investment only, has no present
      intention of distributing any of such Notes or Conversion Shares and has no
      arrangement or understanding with any other persons regarding the distribution
      of such Notes or Conversion Shares (this representation and warranty not
      limiting the Investor’s right to sell Conversion Shares pursuant to a
      registration statement filed under the Registration Rights Agreement (a
“Registration
      Statement”)
      or
      otherwise, or other than with respect to any claim arising out of a breach
      of
      this representation and warranty, the Investor’s right to indemnification under
      Section 3 of the Registration Rights Agreement); (iii) the Investor will not,
      directly or indirectly, offer, sell, pledge, transfer or otherwise dispose
      of
      (or solicit any offers to buy, purchase or otherwise acquire or take a pledge
      of) the Note acquired by the Investor or any of the Conversion Shares except
      in
      compliance with the Securities Act, applicable state securities laws and the
      respective rules and regulations promulgated thereunder; and (iv) the Investor
      has, in connection with its decision to purchase the Notes, relied upon the
      representations and warranties of the Company contained herein and the
      information contained in the SEC Reports. The Investor understands that neither
      the issuance of the Notes to the Investor nor the issuance of the Conversion
      Shares upon conversion of the Notes has been registered under the Securities
      Act, or registered or qualified under any state securities law, in reliance
      on
      specific exemptions therefrom, which exemptions may depend upon, among other
      things, the representations made by the Investor in this Agreement. To the
      best
      of the Investor’s knowledge, no person has been authorized by the Company to
      provide any representation that is inconsistent with or in addition to those
      contained herein or in the SEC Reports, and the Investor acknowledges that
      it
      has not received or relied on any such representations. The state in which
      Investor’s principal office is located, and from which the Investor is acquiring
      the Notes, is set forth on Schedule 1 hereto.

     

    
      
        
        

      

      
        7

        
          

        

      

      
        
        

      

    

     

    (b)  Transfer
      of Securities.
      The
      Investor agrees that it will not make any sale, transfer or other disposition
      of
      the Notes or the Conversion Shares (a “Disposition”)
      other
      than Dispositions that are made pursuant to the Registration Statement in
      compliance with any applicable prospectus delivery requirements or that are
      exempt from registration under the Securities Act. Investor has not taken and
      will not take any action designed to or that might reasonably be expected to
      cause or result in manipulation of the price of the Common Stock to facilitate
      the subscription to, or the sale or resale of the Notes or the Conversion
      Shares. 

     

    (c)  Power
      and Authority.
      The
      Investor represents and warrants to the Company that (i) the Investor has full
      right, power, authority and capacity to enter into this Agreement and each
      other
      Transaction Agreement to which Investor is a party and to consummate the
      transactions contemplated hereby and thereby and has taken all necessary action
      to authorize the execution, delivery and performance of this Agreement and
      each
      other Transaction Agreement to which Investor is a party, and (ii) this
      Agreement and each other Transaction Agreement to which Investor is a party
      constitutes a valid and binding obligation of the Investor enforceable against
      the Investor in accordance with its terms, except to the extent (i) rights
      to
      indemnity and contribution may be limited by state or federal securities laws
      or
      the public policy underlying such laws, (ii) such enforceability may be limited
      by applicable bankruptcy, insolvency, reorganization, moratorium or similar
      laws
      affecting creditors’ and contracting parties’ rights generally and (iii) such
      enforceability may be subject to general principles of equity (regardless of
      whether such enforceability is considered in a proceeding in equity or at law).
      

     

    (d)  Prohibited
      Transactions.
      During
      the thirty (30) days prior to the date hereof, no Investor nor any affiliate
      of
      any Investor, foreign or domestic, has, directly or indirectly, effected or
      agreed to effect any “short sale” (as defined in Rule 200 under Regulation SHO),
      whether or not against the box, established any “put equivalent position” (as
      defined in Rule 16a-1(h) under the Exchange Act) with respect to the Common
      Stock, borrowed or pre-borrowed any shares of the Common Stock, or granted
      any
      other right (including, without limitation, any put or call option) with respect
      to the Common Stock or with respect to any security that includes, relates
      to or
      derived any significant part of its value from the Common Stock or otherwise
      sought to hedge its position in the Notes or the Conversion Shares (each, a
      “Prohibited
      Transaction”).
      

     

    (e)  No
      Investment, Tax or Legal Advice.
      The
      Investor understands that nothing in the SEC Reports, the Transaction
      Agreements, or any other materials presented to the Investor in connection
      with
      the purchase and sale of the Notes constitutes legal, tax or investment advice.
      The Investor has consulted such legal, tax and investment advisors as it, in
      its
      sole discretion, has deemed necessary or appropriate in connection with its
      purchase of Notes. 

     

    
      
        
        

      

      
        8

        
          

        

      

      
        
        

      

    

     

    (f)  Confidential
      Information.
      The
      parties acknowledge and agree that as of the date hereof and as of the
      applicable Closing Date, the Company has not disclosed any material non-public
      information to the Investor.

     

    (g)  Additional
      Acknowledgement.
      Investor has thoroughly reviewed and the SEC Reports prior to making this
      investment. Investor has been granted a reasonable time prior to the date hereof
      during which we have had the opportunity to obtain such additional information
      as Investor deems necessary to permit Investor to make an informed decision
      with
      respect to the purchase of the Notes. After examination of the SEC Reports
      and
      other information available, Investor is fully aware of the business prospects,
      financial condition, risks associated with investment and the operating history
      relating to the Company, and therefore in subscribing for the purchase of the
      Notes, Investor is not relying upon any information other than information
      contained in the SEC Reports. The Investor acknowledges that it has
      independently evaluated the merits of the transactions contemplated by this
      Agreement, that it has independently determined to enter into the transactions
      contemplated hereby, that it is not relying on any advice from or evaluation
      by
      any other Investor, and that it is not acting in concert with any other Investor
      in making its purchase of the Notes hereunder. The Investor and, to its
      knowledge, the Company acknowledge that the Investors have not taken any actions
      that would deem the Investors to be members of a “group” for purposes of Section
      13(d) of the Exchange Act.

     

    (h)  Survival
      of Representations, Warranties and Agreements.
      Notwithstanding any investigation made by any party to this Agreement, all
      covenants, agreements, representations and warranties made by the Company and
      the Investor herein shall survive the execution of this Agreement, the delivery
      to the Investor of the Notes being purchased and the payment therefor, and
      a
      party’s reliance on such representations and warranties shall not be affected by
      any investigation made by such party or any information developed thereby.
      

     

    (i)  Legends
      and Restrictions on Transfer.
      Each of
      the Notes and the certificate or certificates for the Conversion Shares (and
      any
      securities issued in respect of or exchange for the Notes or the Conversion
      Shares) shall be subject to a legend or legends restricting transfer under
      the
      Securities Act of 1933, as amended (the “Securities
      Act”)
      and
      referring to restrictions on transfer herein, such legend to be substantially
      as
      follows:

     

    

    THE
      SECURITIES REPRESENTED BY THIS CERTIFICATE (THE “SECURITIES”) HAVE BEEN ISSUED
      AND SOLD IN RELIANCE UPON EXEMPTIONS FROM REGISTRATION UNDER THE SECURITIES
      ACT
      OF 1933, AS AMENDED (THE “1933 ACT”), AND APPROPRIATE EXEMPTIONS FROM
      REGISTRATION UNDER THE SECURITIES LAWS OF OTHER APPLICABLE JURISDICTIONS. THE
      SECURITIES MAY NOT BE OFFERED FOR SALE, SOLD OR TRANSFERRED OTHER THAN PURSUANT
      TO AN EFFECTIVE REGISTRATION STATEMENT OR AN EXEMPTION THEREFROM UNDER THE
      1933
      ACT AND THE APPLICABLE SECURITIES LAWS OF ANY OTHER JURISDICTION. THE ISSUER
      SHALL BE ENTITLED TO REQUIRE AN OPINION OF COUNSEL REASONABLY SATISFACTORY
      TO IT
      WITH RESPECT TO COMPLIANCE OF THE PROPOSED SALE OR TRANSFER WITH THE
      REGISTRATION REQUIREMENTS OF THE 1933 ACT OR EXEMPTION THEREFROM. 

     

    
      
        
        

      

      
        9

        
          

        

      

      
        
        

      

    

     

    4.  Conditions
      to Closing of the Investors.
      Each
      Investor’s obligations at the applicable Closing are subject to the fulfillment,
      on or prior to the applicable Closing Date, of all of the following conditions,
      any of which may be waived in whole or in part by all of the
      Investors:

     

    (a)  Representations
      and Warranties.
      The
      representations and warranties made by the Company in Section 2
      hereof
      shall have been true and correct when made, and shall be true and correct on
      the
      applicable Closing Date. 

     

    (b)  Proceedings
      and Documents.
      All
      corporate and other proceedings in connection with the transactions contemplated
      at the Closing and all documents and instruments incident to such transactions
      shall be reasonably satisfactory in substance and form to the
      Investors.

     

    (c)  Transaction
      Agreements.
      The
      Company shall have duly executed and delivered to the Investors the following
      documents:

     

    (i)  This
      Agreement;

     

    (ii)  Each
      Note
      issued hereunder;

     

    (iii)  The
      Security Agreement in the form of Exhibit B
      hereto
      (the “Security
      Agreement”);
      and

     

    (iv)  The
      Registration Rights Agreement in the form of Exhibit
      C
      hereto
      (the “Registration
      Rights Agreement”).

     

    (d)  Consents,
      Permits, and Waivers.
      The
      Company shall have obtained any and all consents, permits and waivers necessary
      or appropriate for consummation of the transactions contemplated by the
      Transaction Agreements (except for such as may be properly obtained subsequent
      to each Closing).

     

    (e)  Absence
      of Material Changes.
      No
      event has occurred or condition exists which could reasonably be expected to
      have a Material Adverse Effect on the ability of the Company to perform its
      obligations hereunder or under the Transaction Agreements.

     

    (f)  Covenants.
      All
      covenants, agreements and conditions contained in this Agreement to be performed
      by the Company on or prior to the applicable Closing shall have been performed
      or complied with in all material respects.

     

    5.  Conditions
      to Obligations of the Company.
      The
      Company’s obligation to issue and sell the Notes at each Closing is subject to
      the fulfillment, on or prior to the applicable Closing Date, of the following
      conditions, any of which may be waived in whole or in part by the
      Company:

     

    
      
        
        

      

      
        10

        
          

        

      

      
        
        

      

    

     

    (a)  Representations
      and Warranties.
      The
      representations and warranties made by the Investors in Section 3
      hereof
      shall be true and correct when made, and shall be true and correct on such
      Closing Date.

     

    (b)  Purchase
      Price.
      Each
      Investor shall have delivered to the Company the Purchase Price in respect
      of
      the Note being purchased by such Investor.

     

    (c)  Security
      Agreement.
      The
      Agent shall have executed and delivered the Security Agreement.

     

    (d)  Registration
      Rights Agreement.
      Each
      Investor shall have executed and delivered the Registration Rights
      Agreement.

     

    6.  Covenants
      in Favor
      of Investors.
      The
      Company covenants and agrees with the Investors that, so long as the Notes
      shall
      be outstanding, unless waived by the Agent it will perform the obligations
      set
      forth in this Section
      6:

     

    (a)  Taxes
      and Levies.
      The
      Company will promptly pay and discharge all taxes, assessments, and governmental
      charges or levies imposed upon the Company or upon its income and profits,
      or
      upon any of its property, before the same shall become delinquent, as well
      as
      all claims for labor, materials and supplies which, if unpaid, might become
      a
      lien or charge upon such properties or any part thereof; provided, however,
      that
      the Company shall not be required to pay and discharge any such tax, assessment,
      charge, levy or claim so long as the validity thereof shall be contested in
      good
      faith by appropriate proceedings and the Company shall set aside on its books
      adequate reserves in accordance with generally accepted accounting principles
      (“GAAP”)
      with
      respect to any such tax, assessment, charge, levy or claim so
      contested.

     

    (b)  Maintenance
      of Existence.
      The
      Company will do or cause to be done all things reasonably necessary to preserve
      and keep in full force and effect its corporate existence, rights and franchises
      and comply with all laws applicable to the Company, except where the failure
      to
      comply would not have a Material Adverse Effect.

     

    (c)  Maintenance
      of Property.
      The
      Company will at all times maintain, preserve, protect and keep its property
      used
      or useful in the conduct of its business in good repair, working order and
      condition, and from time to time make all needful and proper repairs, renewals,
      replacements and improvements thereto as shall be reasonably required in the
      conduct of its business.

     

    (d)  Insurance.
      The
      Company will, to the extent necessary for the operation of its business, keep
      adequately insured by financially sound reputable insurers, all property of
      a
      character usually insured by similarly situated corporations and carry such
      other insurance as is usually carried by similar corporations.

     

    (e)  Books
      and Records.
      The
      Company will maintain a system of accounting sufficient to enable the Company
      to
      prepare financial statements in accordance with GAAP and will furnish to the
      Investors such books, records and accounts reflecting all of the business
      affairs and transactions of the Company as the Investors may reasonably
      request.

     

    
      
        
        

      

      
        11

        
          

        

      

      
        
        

      

    

     

    (f)  Notice
      of Certain Events.
      The
      Company will give prompt written notice (with a description in reasonable
      detail) to the Investors upon becoming aware of the occurrence of any Event
      of
      Default (as hereinafter defined) or any event which, with the giving of notice
      or the lapse of time, would constitute an Event of Default.

     

    (g)  Matters
      Requiring Agent Approval.
      So long
      as any of the Notes remain outstanding, the Company will not, without the
      approval of the Agent:

     

    (i)  make
      any
      loan or advance to, or own any stock or other securities of, any subsidiary
      or
      other corporation, partnership, or other entity unless it is wholly owned by
      the
      Company (except that the Company may acquire and own securities of 1-800
      Pharmacy, Inc., a Delaware corporation, pursuant to the Services Agreement
      dated
      as of June 19, 2007 between the Company and 1-800 Pharmacy, Inc. without the
      approval of the Agent); 

     

    (ii)  make
      any
      loan or advance to any person, except advances and similar expenditures in
      the
      ordinary course of business or under the terms of a employee stock or option
      plan approved by the Company’s Board of Directors; 

     

    (iii)  guarantee
      any indebtedness except for trade accounts of the Company or any subsidiary
      arising in the ordinary course of business; 

     

    (iv)  make
      any
      investment other than investments in prime commercial paper, money market funds,
      certificates of deposit in any United States bank having a net worth in excess
      of $100,000,000 or obligations issued or guaranteed by the United States of
      America, in each case having a maturity not in excess of two years;

     

    (v)  incur
      any
      indebtedness in excess of $25,000 individually or in the aggregate, other than
      trade credit incurred in the ordinary course of business; 

     

    (vi)  increase
      or approve the compensation of the named executive officers, including benefits,
      bonuses and issuances of equity compensation; provided, however, that approval
      by the Agent of a pool of compensation benefits to be allocated by the Company
      will constitute approval of each specific allocation of such benefits by the
      Company; 

     

    (vii)  change
      the principal business of the Company, enter new lines of business, or exit
      the
      current line of business; 

     

    (viii)  sell,
      transfer, exclusively license, pledge or encumber any material Intellectual
      Property of the Company, except in the ordinary course of business;

     

    (ix)  create
      or
      authorize the creation of or issue any other security convertible into or
      exercisable for any equity security of the Company, other than issuances to
      officers, directors, employees, consultants or advisors pursuant to equity
      compensation plans approved by the Company’s Board of Directors; 

     

    
      
        
        

      

      
        12

        
          

        

      

      
        
        

      

    

     

    (x)  purchase
      or redeem or pay any dividend on any capital stock, other than stock repurchased
      from former employees or consultants in connection with the cessation of their
      employment or consulting services, at the lower of fair market value or cost;
      or

     

    (xi)  increase
      the number of shares authorized for issuance to officers, directors, employees,
      consultants and advisors pursuant to equity incentive plans or other similar
      compensatory agreements or arrangements.

     

    7.  Board
      Observation Right; Inspection Rights. 

     

    (a) Board
      Observation Right.
      So long
      as any Notes are outstanding, the Company shall invite a representative of
      the
      Agent to attend all meetings of its Board of Directors and any committee thereof
      in a nonvoting observer capacity and, in this respect, shall give the
      representative of the Agent copies of all notices, minutes, consents, and other
      materials that it provides to its directors at the same time and in the same
      manner as provided to such directors; provided,
      however,
      that
      such representative shall agree to hold in confidence and trust and to act
      in a
      fiduciary manner with respect to all information so provided; and provided
      further,
      that
      the Company reserves the right to withhold any information and to exclude such
      representative from any meeting or portion thereof if access to such information
      or attendance at such meeting could adversely affect the attorney-client
      privilege between the Company and its counsel or result in disclosure of trade
      secrets or a conflict of interest, or if such Investor or its representative
      is
      a competitor of the Company. The Company shall reimburse the representative
      of
      the Agent with board observation rights pursuant hereto for all reasonable
      out-of-pocket travel expenses incurred (consistent with the Company’s travel
      policy) in connection with attending meetings of the Board of Directors.

    (b) Inspection.
      The
      Company shall permit the Agent and its representatives to visit and inspect
      the
      Company’s properties; examine its books of account and records; and discuss the
      Company’s affairs, finances, and accounts with its officers, during normal
      business hours of the Company as may be reasonably requested by the Agent;
      provided, however, that the Company shall not be obligated pursuant to this
      Section 7(b) to provide access to any information that it reasonably considers
      to be a trade secret or confidential information (unless covered by an
      enforceable confidentiality agreement, in form acceptable to the Company) or
      the
      disclosure of which would adversely affect the attorney-client privilege between
      the Company and its counsel. The Company shall reimburse the Agent for all
      reasonable out-of-pocket travel expenses incurred (consistent with the Company’s
      travel policy) in connection with the exercise of its inspection rights under
      this Section 7(b).

     

     

    8.  Appointment
      of Agent.
      The
      Investors hereby appoint Doron Roethler, to act as agent (the “Agent”)
      for
      the Investors in accordance with the provisions of this Agreement and the Agent
      hereby accepts such appointment. The Company may look solely to the Agent with
      respect to any matters relating to the giving or receipt of notices, consents
      or
      waivers from the Investors under this Agreement, except that the Company shall
      provide all Investors with prompt written notice of an Event of
      Default.

     

    (a)  Rights
      and Duties of Agent.
      

     

    
      
        
        

      

      
        13

        
          

        

      

      
        
        

      

    

     

    (i)  In
      acting
      under this Agreement and in connection with the Notes, the Agent is acting
      solely as agent of the Investors and does not assume any obligation or
      relationship of agency or trust for or with the Company or any stockholder
      of
      the Company.

     

    (ii)  The
      Agent
      may consult with counsel satisfactory to it, and the advice of such counsel
      shall be full and complete authorization and protection in respect of any action
      taken, suffered or omitted by it hereunder in good faith and in accordance
      with
      the advice of such counsel.

     

    (iii)  The
      Agent
      shall be protected and shall incur no liability for or in respect of any action
      taken or thing suffered by it in reliance upon any notice, direction, consent,
      certificate, affidavit, statement or other paper or document reasonably believed
      by it to be genuine and to have been presented or signed by the Investors,
      or
      any of them. The Agent will not have any liability to any Investor or other
      person as a result of its inability to perform any of its obligations under
      this
      Agreement by reason of any preliminary or permanent injunction or other order,
      decree or ruling issued by a court of competent jurisdiction or by a
      governmental, regulatory or administrative agency or commission, or any statute,
      rule, regulation or executive order promulgated or enacted by any governmental
      authority, prohibiting or otherwise restraining performance of such
      obligation.

     

    (iv)  The
      Agent
      shall be obligated to perform only such duties as are herein or in the Security
      Agreement specifically set forth and no implied duties or obligations shall
      be
      read into this Agreement or in the Security Agreement against the Agent. The
      Agent shall not be under any obligation to take any action hereunder or
      thereunder which may tend to involve it in any expense or liability for which
      it
      does not receive indemnity. The Agent shall have no duty or responsibility
      in
      case of any default by the Company in the performance of its covenants or
      agreements contained herein except as directed by the Requisite Percentage,
      including any duty or responsibility to initiate or attempt to initiate any
      proceedings at law or otherwise.

     

    (v)  The
      Agent
      shall not at any time be under any duty or responsibility to any Investor to
      determine whether any facts exist that may constitute an Event of Default absent
      receipt of notice thereof from the Company or any Investor. The Agent shall
      not
      be accountable with respect to the validity or value of any Conversion Shares
      or
      of any securities or property which may at any time be issued or delivered
      upon
      conversion of the Conversion Shares and it makes no representation with respect
      thereto. The Agent shall not be responsible for any failure of the Company
      to
      comply with any of the covenants of the Company contained in this
      Agreement.

     

    (vi)  The
      Agent
      shall be entitled to use its discretion with respect to exercising or refraining
      from exercising any rights which may be vested in it by, and with respect to
      taking or refraining from taking any action or actions which it may be able
      to
      take under or in respect of, this Agreement or the Security Agreement, unless
      the Agent shall have been instructed by the Requisite Percentage to refrain
      from
      exercising such rights or to take or refrain from taking such action. The Agent
      is hereby authorized and directed to accept instructions with respect to the
      performance of its duties hereunder from any officer, director, or manager
      of
      any Investor, and to apply to such officers, directors or managers for advice
      or
      instructions in connection with its duties, and shall not be liable to such
      Investor for any action taken or suffered to be taken by it in good faith in
      accordance with instructions of any such officer, director or manager or in
      good
      faith reliance upon any statement signed by any one of such officers, directors
      or managers of the Investors with respect to any fact or matter (unless other
      evidence in respect thereof is herein specifically prescribed) which may be
      deemed to be conclusively proved and established by such signed
      statement.

     

    
      
        
        

      

      
        14

        
          

        

      

      
        
        

      

    

     

    (b)  Individual
      Rights of Agent.
      Nothing
      herein shall preclude the Agent from acting in any other capacity for any
      Investor or for any other legal entity.

     

    (c)  Agent’s
      Disclaimer.
      The
      Agent shall not be responsible for and makes no representation as to the
      validity or adequacy of this Agreement or the Notes and it shall not be
      responsible for any statement in this Agreement or the Notes other than its
      signature thereon as an Investor and with respect to representations made in
      such capacity. 

     

    (d)  Compensation
      and Indemnity.
      The
      Company agrees to reimburse the Agent upon request for all reasonable out of
      pocket expenses incurred by it, including the reasonable expenses of the Agent’s
      agents and counsel. Each of the Investors shall indemnify (to the extent not
      reimbursed by the Company) pro rata according to their respective aggregate
      principal amount of Notes and hold harmless the Agent against any loss,
      liability or reasonable expense (including reasonable agents’ and attorneys’
fees and expenses) incurred by it without willful misconduct, gross negligence
      or bad faith on its part arising out of or in connection with the acceptance
      or
      performance of its duties under this Agreement or the Security Agreement. The
      Agent shall notify the Investors promptly of any claim for which it may seek
      indemnity and the failure to provide such notice shall not prejudice the Agent’s
      right to indemnity hereunder unless and to the extent that the Investors’
ability to defend any such claim shall have been compromised as a result of
      such
      failure to notify. The Company need not reimburse any expense and the Investors
      shall not be obligated to indemnify against any loss or liability incurred
      by
      the Agent through willful misconduct, gross negligence or bad faith. The
      obligations pursuant to this Section
      8(d)
      shall
      survive the termination of this Agreement.

     

    (e)  Successor
      Agent.
      The
      Agent may at any time resign by giving written notice to the Investors of such
      intention on its part, specifying the date on which its desired resignation
      shall become effective; provided,
      however,
      that
      such date shall not be less than 30 days after the date on which such notice
      is
      given, unless the Investors otherwise agree. Such resignation under this
Section
      8(e)
      shall
      take effect upon the appointment by the (remaining) Investors as hereinafter
      provided of a successor Agent and the acceptance of such appointment by such
      successor Agent. Any successor Agent appointed hereunder shall execute,
      acknowledge and deliver to its predecessor and to the Investors an instrument
      accepting such appointment hereunder, and thereupon such successor Agent,
      without any further act, deed or conveyance, shall become vested with all the
      rights and obligations of such predecessor with like effect as if originally
      named as Agent hereunder. As soon as practicable after appointment of the
      successor Agent, the Investors shall cause written notice of the change in
      the
      Agent to be given to the Company. Failure to give any notice provided for in
      this Section
      8(e)
      or any
      defect therein, shall not affect the legality or validity of the appointment
      of
      a successor Agent, as the case may be.

     

    9.  Miscellaneous.

     

    
      
        
        

      

      
        15

        
          

        

      

      
        
        

      

    

     

    (a)  Waivers
      and Amendments.
      Any
      provision of this Agreement may be amended, waived or modified only upon the
      written consent of the Company and Investors holding at least a majority of
      the
      aggregate outstanding principal amount of the Notes (“Requisite
      Percentage”).

     

    (b)  Governing
      Law.
      This
      Agreement and all actions arising out of or in connection with this Agreement
      shall be governed by and construed in accordance with the laws of the State
      of
      Delaware, without regard to the conflicts of law provisions of the State of
      Delaware or of any other state.

     

    (c)  Survival.
      The
      representations, warranties, covenants and agreements made herein shall survive
      the execution and delivery of this Agreement.

     

    (d)  Successors
      and Assigns.
      Subject
      to the restrictions on transfer described in Sections 9(e)
      and 9(f) below,
      the rights and obligations of the Company and the Investors shall be binding
      upon and benefit the successors, assigns, heirs, administrators and transferees
      of the parties.

     

    (e)  Registration,
      Transfer and Replacement of the Notes.
      The
      Company will keep, at its principal executive office, books for the registration
      and registration of transfer of the Notes. Prior to presentation of any Note
      for
      registration of transfer, the Company shall treat the Person in whose name
      such
      Note is registered as the owner and holder of such Note for all purposes
      whatsoever, whether or not such Note shall be overdue, and the Company shall
      not
      be affected by notice to the contrary. Subject to any restrictions on or
      conditions to transfer set forth in any Note, the holder of any Note, at its
      option, may in person or by duly authorized attorney surrender the same for
      exchange at the Company’s chief executive office, and promptly thereafter and at
      the Company’s expense, except as provided below, receive in exchange therefor
      one or more new Note(s), each in the principal requested by such holder, dated
      the date to which interest shall have been paid on the Note so surrendered
      or,
      if no interest shall have yet been so paid, dated the date of the Note so
      surrendered and registered in the name of such Person or Persons as shall have
      been designated in writing by such holder or its attorney for the same principal
      amount as the then unpaid principal amount of the Note so surrendered. Upon
      receipt by the Company of evidence reasonably satisfactory to it of the
      ownership of and the loss, theft, destruction or mutilation of any Note and
      (a) in the case of loss, theft or destruction, of indemnity reasonably
      satisfactory to it; or (b) in the case of mutilation, upon surrender
      thereof, the Company, at its expense, will execute and deliver in lieu thereof
      a
      new Note executed in the same manner as the Note being replaced, in the same
      principal amount as the unpaid principal amount of such Note and dated the
      date
      to which interest shall have been paid on such Note or, if no interest shall
      have yet been so paid, dated the date of such Note.

     

    (f)  Assignment
      by the Company.
      The
      rights, interests or obligations hereunder may not be assigned, by operation
      of
      law or otherwise, in whole or in part, by the Company without the prior written
      consent of Investors holding a Requisite Percentage.

     

    (g)  Entire
      Agreement.
      This
      Agreement together with the other Transaction Agreements constitute and contain
      the entire agreement among the Company and Investors and supersede any and
      all
      prior agreements, negotiations, correspondence, understandings and
      communications among the parties, whether written or oral, respecting the
      subject matter hereof.

     

    
      
        
        

      

      
        16

        
          

        

      

      
        
        

      

    

     

    (h)  Notices.
      Except
      as set forth in Section 1(c), all notices, requests, demands, consents,
      instructions or other communications required or permitted hereunder shall
      in
      writing and faxed, mailed or delivered to each party as follows: (i) if to
      a Investor, at such Investor’s address or facsimile number set forth in the
      Schedule of Investors attached as Schedule I,
      or at
      such other address as such Investor shall have furnished the Company in writing,
      or (ii) if to the Company, at 2530 Meridian Parkway, 2nd
      Floor
      Durham, NC 27713, Attention: James Gayton, Corporate Counsel, (919) 765-5026
      (facsimile), with a copy to Smith, Anderson, Blount, Dorsett, Mitchell &
Jernigan, LLP, 2500 Wachovia Capitol Center, Raleigh, North Carolina 27602-2611,
      Attention: Margaret N. Rosenfeld, (919) 821-6800 (facsimile) or at such other
      address or facsimile number as the Company shall have furnished to the Investors
      in writing. All such notices and communications will be deemed effectively
      given
      the earlier of (i) when received, (ii) when delivered personally,
      (iii) one Business Day after being delivered by facsimile (with receipt of
      appropriate confirmation), (iv) one Business Day after being deposited with
      an overnight courier service of recognized standing or (v) two days after
      being deposited in the U.S. mail, first class with postage prepaid.

     

    (i)  Expenses.
      Each of
      the parties hereto shall bear its own expenses in connection with the
      preparation, execution and delivery of this Agreement and the other Transaction
      Agreements.

     

    (j)  Separability
      of Agreements; Severability of this Agreement.
      The
      Company’s agreement with each of the Investors is a separate agreement and the
      sale of the Notes to each of the Investors is a separate sale. Unless otherwise
      expressly provided herein, the rights of each Investor hereunder are several
      rights, not rights jointly held with any of the other Investors. Any invalidity,
      illegality or limitation on the enforceability of the Agreement or any part
      thereof, by any Investor whether arising by reason of the law of the respective
      Investor’s domicile or otherwise, shall in no way affect or impair the validity,
      legality or enforceability of this Agreement with respect to other Investors.
      If
      any provision of this Agreement shall be judicially determined to be invalid,
      illegal or unenforceable, the validity, legality and enforceability of the
      remaining provisions shall not in any way be affected or impaired
      thereby.

     

    (k)  Counterparts.
      This
      Agreement may be executed in one or more counterparts, each of which will be
      deemed an original, but all of which together will constitute one and the same
      agreement. Facsimile copies of signed signature pages will be deemed binding
      originals.

     

    (Signature
      Page Follows) 

     

    
      
        
        

      

      
        17

        
          

        

      

      
        
        

      

    

     

    The
      parties have caused this Agreement to be duly executed and delivered by their
      proper and duly authorized officers as of the date and year first written
      above.

     

    COMPANY:

     

    SMART
      ONLINE, INC.

    a
      Delaware corporation

     

    By: /s/
      David E.
      Colburn                                         

    Name:
      David E.
      Colburn                                          

    Title:
      President and
      CEO                                         

     

    INVESTORS:

     

    
      	 	 	 	
              CRYSTAL
                MANAGEMENT LTD. 

            

    

     

    

     

    
      By:
        /s/ Doron
        Roethler                                            

      Name:
        Doron
        Roethler                                             

      Title:                                                                            

    

     

     

    ATLAS
      CAPITAL S.A.

     

    
      By:
        /s/ C.
        Waller              
/s/ M.
        Dwek                    

      Name:
        C.
        Waller               M.
        Dwek                           

      Title:  
        Management        General
        Management       

    

    

     

    WILLIAM
      FURR

    
      
/s/
        William P.
        Furr                                                         

    

     

    [Signature
      page for Convertible Secured Subordinated
      Note Purchase Agreement]

     

    
      
        
        

      

      
        18

        
          

        

      

      
        
        

      

    

     

    

     

    THE
      BLUELINE FUND

     

    
      By:
        /s/ P.
        Pouponnot                                                

      Name:
        Pouponnot,
        Philippe                                     

      Title:                                                                             
        

    

    

     

     

     

     

     

     

     

     

     

     

     

     

     

     

     

     

     

    [Signature
      page for Convertible Secured Subordinated
      Note Purchase Agreement]

     

     

    
      
        
        

      

      
        19

        
          

        

      

      
        
        

      

    

     

    
AGENT:

     

    
      	 	 	 	
              DORON
                ROETHLER 

            

    

     

    
      
        By:
          /s/ Doron
          Roethler                                            

        Name: Doron
          Roethler                                             

        Title:
          ________________________________

         

         

         

         

         

         

         

         

         

         

         

         

         

         

         

         

         

         

         

         

         

        
          [Signature
            page for Convertible Secured Subordinated
            Note Purchase Agreement]

        

         

         

        
          
            
            

          

          
            20

            
              

            

          

          
            
            

          

        

      

    

     

    SCHEDULE
      I

     

    SCHEDULE
      OF INVESTORS 

     

    

    
      	
               

              INVESTOR’S
                NAME AND ADDRESS

            	
               

              Initial
                Closing

              Note
                Principal Amount

            
	
              Crystal
                Management Ltd. 

              Michal
                Raviv, Adv.

              Gibor
                Sport House (28th floor)

              7,
                Menahem Begin (Betzalel) St.

              Ramat
                Gan 52521

              Israel

              Fax.:
                +972 (3) 575-5526 

               

            	
              US$500,000.00

            
	
              William
                Furr

              1840
                East Sandpointe Lane

              Vero
                Beach, FL 32963

              Fax:
                

               

            	
              US$250,000.00

            
	
              Atlas
                Capital, S.A.

              Rue
                du Rhône 118, CH - 1204

              Genève

              Switzerland

              Fax:
                

               

            	
              US$2,050,000.00

            
	
              The
                Blueline Fund

              Mary
                Street

              Walker
                House

              P.O.
                Box 908 GT

              George
                Town, Grand Cayman

              Cayman
                Islands

              Fax:

               

            	
              US$500,000.00

            
	
              Total:

            	
              US$3,300,000.00

            

    

    

     

    
      
        
        

      

      
        21

        
          

        

      

      
        
        

      

    

     

    Exhibit
      A

     

    FORM
      OF NOTE

    

     

     

     

     

     

     

     

     

     

     

     

     

     

     

     

     

     

     

    
      
        
        

      

      
        22

        
          

        

      

      
        
        

      

    

     

    Exhibit
      B

    

    FORM
      OF SECURITY AGREEMENT

     

     

     

     

     

     

     

     

     

     

     

     

     

     

     

     

     

     

     

     

    
      
        
        

      

      
        23

        
          

        

      

      
        
        

      

    

     

    Exhibit
      C

    

    FORM
      OF REGISTRATION RIGHTS AGREEMENT

     

    

     

    

     

     

     

     

     

     

     

     

     

     

     

     

     

     

     

     

     

     

     

     

    
      
        
        

      

      
        24

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