Note 6 - Derivative Liabilities

Warrants

In connection with the issuance of convertible promissory notes during the six (6) months ended June 30, 2026, the Company issued warrants to purchase an aggregate 660,000 shares of common stock at an exercise price of $1.25/share, comprising 150,000 warrants with Convertible Note #7, 225,000 with Convertible Note #8, 135,000 with Convertible Note #18, and 75,000 each with Convertible Notes #21 and #22. The Company evaluated the warrants under ASC 815-40 to determine whether they are indexed to the Company’s own common stock and whether they meet the additional conditions for equity classification.

The exercise price and the number of shares issuable are fixed and are subject only to customary anti-dilution adjustments, so the warrants are indexed to the Company’s own common stock. However, each warrant provides that upon specified fundamental transactions the holder may require the Company to purchase the warrant for cash in an amount determined using an option pricing model. Because settlement in cash is within the holder’s control and is not limited to circumstances in which all holders of the underlying common stock receive the same form of consideration, the warrants do not meet the conditions for equity classification in ASC 815-40-25-7 through 25-11. The warrants are therefore accounted for as derivative liabilities, measured at fair value at issuance and remeasured at each reporting date, with changes recognized in earnings.

The warrants issued with Convertible Note #1 and with Notes Payable Note #1 during the year ended December 31, 2025 contain no cash settlement provision, are equity classified and are not remeasured. See Note 5.

Separated Conversion Features

The conversion features of Convertible Notes #21 and #22 were separated from their debt hosts at issuance under ASC 815-15-25-1 and are accounted for as derivative liabilities. See Note 5.

The conversion features of Convertible Notes #2, #3, #4 and #5 were separated from their debt hosts during the three (3) months ended June 30, 2026. The Market Price rate in each of those notes became available to the holder on the Company’s failure to pay an amortization payment when due, and each feature met the conditions for separation in ASC 815-15-25-1 on that date. The aggregate fair value of those features on the dates of separation was $1,168,511. Because each host note was already outstanding on the date of separation, no proceeds remained to be allocated to the feature under ASC 815-15-30-2, no debt discount arose, and that amount was recognized in the consolidated statements of operations as derivative expense. See Note 5.

No conversion feature was separated from any other instrument, and no derivative liability existed at December 31, 2025.

Fair Value Measurement

The derivative liabilities are measured at fair value on a recurring basis using the Black-Scholes-Merton option pricing model. Expected volatility, derived from the historical volatility of the Company’s common stock, and expected term are significant unobservable inputs, and an increase in either increases the fair value of the derivative liabilities. The conversion price of each separated conversion feature is 85% of the lowest daily volume weighted average price of the common stock during the five (5) trading days preceding the measurement date, and a lower conversion price increases the number of shares issuable and the fair value of that feature. The measurements are classified within Level 3 of the fair value hierarchy. There were no transfers into or out of Level 3 during either period presented.

Valuation Assumptions

The Company used the following key assumptions to estimate the fair value of the derivative liabilities:

 Schedule of Estimate Fair Value of Derivative Liabilities

SURGEPAYS, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

JUNE 30, 2026 AND 2025

Level 3 Fair Value Reconciliation

The following table presents a reconciliation of the beginning and ending balances for the Level 3 derivative liabilities for the six months ended June 30, 2026:

 Schedule of Beginning and Ending Balances for Level 3 Derivative Liabilities

The derivative liabilities of $1,107,421 at June 30, 2026 comprise $127,115 attributable to the warrants and $980,306 attributable to the separated conversion features, and are presented as a current liability in the consolidated balance sheets. Each note carrying a separated conversion feature matures on or before June 29, 2027, and the holder may convert while the feature is exercisable, so the Company does not have the unconditional right to defer settlement beyond twelve (12) months.

Effect on the Statement of Operations

The amounts recognized in the consolidated statements of operations are presented in two captions. Derivative expense is the fair value of the conversion features on the dates they were separated and arises from initial recognition.

No day 1 loss (derivative expense) was recognized on the issuance of any instrument during either period presented, because the fair value of the derivative liabilities recognized at each commitment date did not exceed the proceeds received on the related note.

Change in fair value of derivative liabilities is the remeasurement of the derivative liabilities at each conversion date and at the reporting date.

Each separated conversion feature was remeasured to fair value on its conversion date, with the change recognized in earnings, and the resulting carrying amount was reclassified to additional paid-in capital. The reclassification itself had no effect on earnings.

Change in fair value of derivative liabilities for the three and six months ended June 30, 2026 and 2025 was as follows:

 Schedule of Change in Fair Value of Derivative Liabilities

Derivative expense for the three and six months ended June 30, 2026 and 2025 was as follows:

 Schedule of Derivative Liability Activity