THIS DEBENTURE HAS NOT BEEN REGISTERED WITH THE SECURITIES AND EXCHANGE COMMISSION OR THE SECURITIES COMMISSION OF ANY STATE IN RELIANCE UPON AN EXEMPTION FROM REGISTRATION UNDER THE SECURITIES ACT OF 1933, AS AMENDED (THE “SECURITIES ACT”), AND, ACCORDINGLY, MAY NOT BE OFFERED OR SOLD EXCEPT PURSUANT TO AN EFFECTIVE REGISTRATION STATEMENT UNDER THE SECURITIES ACT OR PURSUANT TO AN AVAILABLE EXEMPTION FROM, OR IN A TRANSACTION NOT SUBJECT TO, THE REGISTRATION REQUIREMENTS OF THE SECURITIES ACT AND IN ACCORDANCE WITH APPLICABLE STATE SECURITIES LAWS.

No. [2008-2]

                       U.S. $ 200,000

Original Issue Date:   December 17, 2008

6% CONVERTIBLE DEBENTURE

DUE DECEMBER 31, 2009

THIS DEBENTURE of   GOLDEN WEST BREWING, INC. a Washington corporation (the “Company”) is designated as its 6%  Convertible Debenture (the “Debentures”) due on December 31, 2009 (the “Maturity Date”), in an aggregate principal amount of $200,000.00 plus accrued and unpaid interest.  

FOR VALUE RECEIVED, the Company promises to pay to JOHN D. GIBBS , the registered holder hereof (the "Holder"), the principal sum of Two Hundred Thousand and 00/100  Dollars (US $200,000.00)  and to pay interest on the principal sum outstanding from time to time in arrears at the rate of 6% per annum, accruing from December 1, 2008, the date of initial issuance of this Debenture (the “Issue Date”).  Accrual of interest shall commence on the first such business day to occur after the Issue Date and shall continue to accrue on a daily basis until payment in full of the principal sum has been made or duly provided for.  

The Company shall pay principal and accrued interest on the earlier of (i) the Conversion Date or (ii) the Maturity Date.

This Debenture is being issued pursuant to the terms of the Subscription Agreement, dated December ___, 2008 (the “Subscription Agreement”), to which the Company and the Holder (or the Holder’s predecessor in interest) are parties.  Capitalized terms not otherwise defined herein shall have the meanings ascribed to them in the Subscription Agreement.

This Debenture is subject to the following additional provisions.

Section 1.        No Collateral,  

(a)

The obligations of the Company to pay all sums due under this Debenture are secured by (i) a UCC security interest covering all the tangible and intangible assets of the Company, and (ii) a Hypothecation Agreement covering all of the issued and outstanding shares of common stock of the Company owned by its parent corporation, Golden West Brewing Company, Inc., a Delaware corporation (“Golden West”).

Section 2 .      No Sale or Transfer.  This Debenture may not be sold, transferred, assigned, hypothecated or divided into two or more Debentures of smaller denominations except to the extent such sale, transfer, assignment, hypothecation or division is in compliance with federal and

1

---

applicable state securities laws, the compliance with which must be established to the reasonable satisfaction of the Company.

Section 3 .

No Limitations on Debt .  The existence of this Debenture does not preclude the Company from incurring other indebtedness (including secured debt and including other debentures which may, by their terms, be senior to the Debentures).  

Section 4.

Provisions Regarding Payment of Interest.  Interest hereunder will be paid to the Holder on each Interest Payment Date.  An Interest Payment Date will be the date, from time-to-time, that the Company determines to make an Interest Payment.  If not paid previously, all interest will be payable at the Maturity Date.

Section 5.

(a)

“ Event of Default ” wherever used herein, means any one of the following events (whatever the reason and whether it shall be voluntary or involuntary or effected by operation of law or pursuant to any judgment, decree or order of any court, or any order, rule or regulation of any administrative or governmental body):

(i)

Any default in the payment of the principal of or interest on this Debenture as and when the same shall become due and payable, (whether on the Maturity Date or by acceleration or otherwise);

(ii)

The Company shall fail to observe or perform any other covenant, agreement or warranty contained in, or otherwise commit any breach of, this Debenture or and such failure or breach shall not have been remedied within 30 days after the date on which notice of such failure or breach shall have been given;

(iii)

The Company shall commence a voluntary case under the United States Bankruptcy Code or insolvency laws as now or hereafter in effect or any successor thereto (the “ Bankruptcy Code ”); or an involuntary case is commenced against the Company under the Bankruptcy Code and the petition is not controverted within 30 days, or is not dismissed within 60 days, after commencement of such involuntary case; or a “custodian” (as defined in the Bankruptcy Code) is appointed for, or takes charge of, all or any substantial part of the property of the Company or the Company commences any other proceeding under any reorganization, arrangement, adjustment of debt, relief of debtors, dissolution, insolvency or liquidation or similar law of any jurisdiction whether now or hereafter in effect relating to the Company or there is commenced against the Company any such proceeding which remains undismissed for a period of 60 days; or the Company is adjudicated insolvent or bankrupt; or any order of relief or other order approving any such case or proceeding is entered; or the Company suffers any appointment of any custodian or the like for it or any substantial part of its property which continues undischarged or unstayed for a period of 60 days; or the Company makes a general assignment for the benefit of creditors; or the Company shall fail to pay, or shall state that it is unable to pay its debts generally as they become due; or the Company shall call a meeting of all of its creditors with a view to arranging a composition or adjustment of its debts; or the Company shall by any act or failure to act indicate its consent to, approval of or acquiescence in any of the foregoing; or any corporate or other action is taken by the Company for the purpose of effecting any of the foregoing.

(b)

Remedies .  The Holder may declare a default under Section 5(a)(i) upon not less than 15 days’ written notice to the Company.  If the Company fails to cure an Event of Default within such period (or if the cure cannot be reasonably completed within such period, commence the cure of the Event of Default and diligently pursue such cure), then the principal amount hereof together with

2

---

all accrued and unpaid interest up to the date of default shall thereafter accrue interest at the default interest rate of 12% per annum and the Holders may:

(i)

Declare all amounts due under the Debentures immediately due and owing and exercise all rights with respect thereto permitted by law;

(ii)

Apply to a court with its seat in Washington that has jurisdiction over the Company for the appointment of a receiver to manage the assets and operations of the Company;

(iii)

Convert all of the Debentures into common stock of the Company; or

(iv)

Assert any other remedy available at law or in equity.

 

Section 6.

Prepayment .  The Company may prepay this Debenture in whole or in part at any time prior to the Maturity Date upon not less than 30 days’ written notice to the Holder.

Section 7.

Definitions .  For the purposes hereof, the following terms shall have the following meanings:

“ Business Day ” means any day except Saturday, Sunday and any day which shall be a legal holiday or a day on which banking institutions in the State of Washington are authorized or required by law or other government action to close.

“ Company ” means Golden West Brewing, Inc., a Washington corporation.

“ Conversion Amount ” shall mean the total of unpaid principal and accrued but unpaid interest at the date such amount is determined.

“ Conversion Price ” shall mean $0.10 per share, as adjusted as set forth in Section 8(d), below.

“ Conversion Shares ” shall mean the shares of the Company’s common stock issued or issuable upon conversion of the Debentures.

“ Debentures ” means the Debentures, or any of them, as the context may require.

“ Golden West ” means Golden West Brewing Company, Inc., a Delaware corporation.

“ Holder ” means any Person who is a registered holder of this Debenture as listed in the books of the Company.

“ Interest Payment Date ” is as defined in the paragraph entitled “FOR VALUE RECEIVED,” above.

“ Market Price ” at any date shall be deemed to be (i) if the principal trading market for such securities is any exchange, the last reported sale price, on each Trading Day for which determination is made as officially reported on any consolidated tape, (ii) if the principal market for such securities is the over-the-counter market, the closing prices (or, if no closing price, the closing bid price) on such Trading Days as set forth by Nasdaq or the OTC Bulletin Board (whichever is the principal market for the Golden West’s common stock) as reported at http://finance.yahoo.com or, (iii) if the security is not quoted on Nasdaq or the OTC Bulletin Board), the average bid and asked price as set forth on www.pinksheets.com or (if

3

---

not available) in the National Quotation Bureau sheet listing such securities for such day.  Notwithstanding the foregoing, if there is no reported closing price or bid price, as the case may be, on any of the ten trading days preceding the event requiring a determination of Market Price hereunder, then the Market Price shall be determined in good faith by resolution of the Board of Directors of Golden West, based on the best information available to it.

“ Material Adverse Effect ” means a material adverse effect upon the business, operations, properties, assets or condition (financial or otherwise) of the Company taken as a whole.

“ Maturity Date ” means the date defined in the first paragraph or (if earlier) the date of any prepayment or acceleration.

“ Original Issue Date ” shall mean the date this Debenture is purchased by the initial holder.

“ Person ” means a corporation, an association, a partnership, organization, a business, an individual, a government or political subdivision thereof or a governmental agency.

“ Strike Price ” means a Market Price of $0.10 per share, as adjusted as set forth in Section 8(d), below.

“ Trading Day ” means a day in which the market on which shares of Golden West’s common stock are principally traded is open for trading, whether or not any shares of the Golden West’s common stock are actually traded on that day.

Section 8.

Conversion .  

a.

Voluntary Conversion.  At any time before this Debenture has been paid, upon written notice to Golden West, the Holder may convert the Conversion Amount into shares of Golden West’s common stock by dividing the Conversion Amount by the Conversion Price.

b.

Manner of Converison.

Conversion shall be effectuated by faxing a Notice of Conversion (as defined below) to Golden West as provided in this paragraph.  The Notice of Conversion shall be executed by the Holder of this Debenture and shall evidence such Holder's intention to convert this Debenture or a specified portion hereof in the form annexed hereto as Exhibit A. No fractional shares of Common Stock or scrip representing fractions of shares will be issued on conversion, but the number of shares issuable shall be rounded to the nearest whole share.  The date on which notice of conversion is given (the "Conversion Date") shall be deemed to be the date on which the Holder faxes or otherwise delivers the conversion notice ("Notice of Conversion") to Golden West so that it is received by Golden West on or before such specified date, provided that, if such conversion would convert the entire remaining principal of this Debenture, the Holder shall deliver to Golden West the original Debentures being converted no later than five (5) business days thereafter.  Facsimile delivery of the Notice of Conversion shall be accepted by Golden West at facsimile number (707) 884-3766: Attention John C. Power.  Certificates representing Common Stock upon conversion (“Conversion Certificates”) will be delivered to the Holder at the address specified in the Notice of Conversion (which may be the Holder’s address for notices as contemplated by the Subscription Agreement or a different address), via express courier, by electronic transfer or otherwise, as provided in Section 8(e)(iii) below, and, if interest is paid by Common Stock, the Interest Payment Date. The Holder shall be deemed to be the holder of the shares issuable to it in accordance with the provisions of this Section 8(b) on the Conversion Date.   

4

---

c.

Nature of Common Stock Issued.  

(i)

When issued upon conversion of the Debentures pursuant to Section 8(a) hereof, the Conversion Shares will be legally and validly issued, fully-paid and non-assessable.

(ii)

Upon any conversion, this Debenture will be deemed cancelled and of no further force and effect, representing only the right to receive the Conversion Shares, regardless whether the Holder delivers this Debenture to Golden West for cancellation.

(iii)

As soon as possible after a conversion has been effected (and subject to the Holder having returned the Debenture to Golden West for cancellation), Golden West will deliver to the converting holder a certificate or certificates representing the Conversion Shares issuable by reason of such conversion in such name or names and such denomination or denominations as the converting holder has specified  If any fractional share of common stock would be issuable upon any conversion, Golden West will pay the holder of the Conversion Shares an amount equal to the Market Price of such fractional share.  

(iv)

The issuance of certificates for shares of Conversion Shares will be made without charge.

(v)

Golden West will not close its books against the transfer of the Conversion Shares issued or issuable in any manner which interferes with the conversion of this Debenture.

d.

Conversion Price Dilution Adjustment .  In order to prevent dilution of the conversion rights granted under this Section, the Conversion Price and the Strike Price will be subject to adjustment from time to time pursuant to this Section 8d.

(i)

If, for as long as this Debenture remains outstanding, Golden West enters into a merger (other than where Golden West is the surviving entity) or consolidation with another corporation or other entity or a sale or transfer of all or substantially all of the assets of Golden West to another person (collectively, a "Sale"), Golden West will require, in the agreements reflecting such transaction, that the surviving entity expressly assume the obligations of Golden West hereunder.  Notwithstanding the foregoing, if Golden West enters into a Sale and the holders of the Common Stock are entitled to receive stock, securities or property in respect of or in exchange for Common Stock, then as a condition of such Sale, Golden West and any such successor, purchaser or transferee will agree that the Debenture may thereafter be converted on the terms and subject to the conditions set forth above into the kind and amount of stock, securities or property receivable upon such merger, consolidation, sale or transfer by a holder of the number of shares of Common Stock into which this Debenture might have been converted immediately before such merger, consolidation, sale or transfer, subject to adjustments which shall be as nearly equivalent as may be practicable.  In the event of any such proposed Sale, (i) the Holder hereof shall have the right to convert by delivering a Notice of Conversion to Golden West within fifteen (15) days of receipt of notice of such Sale from Golden West.

(ii)

If, at any time while any portion of this Debenture remains outstanding, Golden West spins off or otherwise divests itself of a part of its business or operations or disposes of all or of a part of its assets in a transaction (the “Spin Off”) in which Golden West, in addition to or in lieu of any other compensation received and retained by Golden West for such business, operations or assets, causes securities of another entity (the “Spin Off Securities”) to be issued to security holders of Golden West, Golden West shall cause (i) to be reserved Spin Off Securities equal to the number thereof which would have been issued to the Holder had all of the Holder’s Debentures outstanding on the record date (the “Record Date”) for determining the amount and number of Spin

5

---

Off Securities to be issued to security holders of Golden West (the “Outstanding Debentures”) been converted as of the close of business on the trading day immediately before the Record Date (the “Reserved Spin Off Shares”), and (ii) to be issued to the Holder on the conversion of all or any of the Outstanding Debentures, such amount of the Reserved Spin Off Shares equal to (x) the Reserved Spin Off Shares multiplied by (y) a fraction, of which (I) the numerator is the principal amount of the Outstanding Debentures then being converted, and (II) the denominator is the principal amount of the Outstanding Debentures.

(iii)

If, at any time while any portion of this Debenture remains outstanding, Golden West effectuates a stock split or reverse stock split of its Common Stock or issues a dividend on its Common Stock consisting of shares of Common Stock, the Conversion Price and any other amounts calculated as contemplated hereby shall be equitably adjusted to reflect such action.  By way of illustration, and not in limitation, of the foregoing,  (i) if Golden West effectuates a 2:1 split of its Common Stock, thereafter, with respect to any conversion for which Golden West issues shares after the record date of such split, the Conversion Price shall be deemed to be one-half of what it had been immediately prior to such split; (ii) if Golden West effectuates a 1:10 reverse split of its Common Stock, thereafter, with respect to any conversion for which Golden West issues shares after the record date of such reverse split, the Conversion Price shall be deemed to be ten times what it had been calculated to be immediately prior to such split; and (iii) if Golden West declares a stock dividend of one share of Common Stock for every 10 shares outstanding, thereafter, with respect to any conversion for which Golden West issues shares after the record date of such dividend, the Conversion Price shall be deemed to be such amount multiplied by a fraction, of which the numerator is the number of shares (10 in the example) for which a dividend share will be issued and the denominator is such number of shares plus the dividend share(s) issuable or issued thereon (11 in the example).

Section 9.

No Impairment.  Except as expressly provided herein, no provision of this Debenture shall alter or impair the obligation of the Company, which is absolute and unconditional, to pay the principal of, and interest on, this Debenture at the time, place, and rate, and in the coin or currency, herein prescribed.  This Debenture is a direct obligation of the Company.

Section 10.

No Rights as a Shareholder.  This Debenture shall not entitle the Holder to any of the rights of a stockholder of Golden West, including without limitation, the right to vote, to receive dividends and other distributions, or to receive any notice of, or to attend, meetings of stockholders or any other proceedings.

Section 11.

No recourse shall be had for the payment of the principal of, or the interest on, this Debenture, or for any claim based hereon, or otherwise in respect hereof, against any incorporator, shareholder, officer or director, as such, past, present or future, of the Company or any successor corporation, whether by virtue of any constitution, statute or rule of law, or by the enforcement of any assessment or penalty or otherwise, all such liability being, by the acceptance hereof and as part of the consideration for the issue hereof, expressly waived and released.

Section 12.

All payments contemplated hereby to be made “in cash” shall be made in immediately available good funds of United States of America currency by wire transfer to an account designated in writing by the Holder to the Company (which account may be changed by notice similarly given).  All payments of cash and each delivery of shares of Common Stock issuable to the Holder as contemplated hereby shall be made to the Holder at the address last appearing on the Debenture Register of the Company as designated in writing by the Holder from time to time; except that the Holder can designate, by notice to the Company, a different delivery address for any one or more specific payments or deliveries.

6

---

Section 13.     

The Holder of the Debenture, by acceptance hereof, agrees that this Debenture is being acquired for investment and that such Holder will not offer, sell or otherwise dispose of this Debenture or the shares of Common Stock issuable upon conversion thereof except under circumstances which will not result in a violation of the Act or any applicable state Blue Sky or foreign laws or similar laws relating to the sale of securities.

Section 14.   

The Debentures will initially be issued in denominations determined by the Company, but are exchangeable for an equal aggregate principal amount of Debentures of different denominations, as requested by the Holder surrendering the same.  No service charge will be made for such registration or transfer or exchange.

Section 15.   

The Company shall be entitled to withhold from all payments of principal of, and interest on, this Debenture any amounts required to be withheld under the applicable provisions of the United States income tax laws or other applicable laws at the time of such payments, and Holder shall execute and deliver all required documentation in connection therewith.

Section 16

This Debenture has been issued subject to investment representations of the original purchaser hereof and may be transferred or exchanged only in compliance with the Securities Act of 1933, as amended (the "Act"), and other applicable state and foreign securities laws and the terms of the Subscription Agreement.  In the event of any proposed transfer of this Debenture, the Company may require, prior to issuance of a new Debenture in the name of such other person, that it receive reasonable transfer documentation that is sufficient to evidence that such proposed transfer complies with the Act and other applicable state and foreign securities laws and the terms of the Subscription Agreement.  Prior to due presentment for transfer of this Debenture, the Company and any agent of the Company may treat the person in whose name this Debenture is duly registered on the Company's Debenture Register as the owner hereof for the purpose of receiving payment as herein provided and for all other purposes, whether or not this Debenture be overdue, and neither the Company nor any such agent shall be affected by notice to the contrary.

Section 17.

Mutilated, Lost or Stolen Debentures.  If this Debenture shall be mutilated, lost, stolen or destroyed, the Company shall execute and deliver, in exchange and substitution for and upon cancellation of a mutilated Debenture, or in lieu of or in substitution for a lost, stolen or destroyed debenture, a new Debenture for the principal amount of this Debenture so mutilated, lost, stolen or destroyed but only upon receipt of evidence of such loss, theft or destruction of such Debenture, and of the ownership hereof, and adequate indemnity, if requested, all reasonably satisfactory to the Company.

Section 18.

Governing Law.  This Debenture shall be governed by and construed in accordance with the laws of the State of Washington.  Each of the parties consents to the exclusive jurisdiction of the federal courts whose districts encompass any part of the State of Washington, or the state courts of the State ofWashington in connection with any dispute arising under this Agreement and hereby waives, to the maximum extent permitted by law, any objection, including any objection based on forum non coveniens , to the bringing of any such proceeding in such jurisdictions. To the extent determined by such court, the Company shall reimburse the Holder for any reasonable legal fees and disbursements incurred by the Holder in enforcement of or protection of any of its rights under any of this Debenture.

Section 19.

Waiver of Jury Trial; No Other Waivers.    The Company and the Holder hereby waive the right to a trial by jury in any action, proceeding or counterclaim in respect of any matter arising out or in connection with this Debenture.  Any waiver by the Company or the Holder of a breach of any provision of this Debenture shall not operate as or be construed to be a waiver of any other breach of such provision or of any breach of any other provision of this Debenture.  The

7

---

failure of the Company or the Holder to insist upon strict adherence to any term of this Debenture on one or more occasions shall not be considered a waiver or deprive that party of the right thereafter to insist upon strict adherence to that term or any other term of this Debenture.  Any waiver must be in writing.

Section 20.

Severability. If any provision of this Debenture is invalid, illegal or unenforceable, the balance of this Debenture shall remain in effect, and if any provision is inapplicable to any Person or circumstance, it shall nevertheless remain applicable to all other Persons and circumstances.

Section 21.

Obligations Due on a Business Day.  Whenever any payment or other obligation hereunder shall be due on a day other than a Business Day, such payment shall be made on the next succeeding Business Day (or, if such next succeeding Business Day falls in the next calendar month, the preceding Business Day in the appropriate calendar month).

IN WITNESS WHEREOF , the Company has caused this instrument to be duly executed by an officer duly authorized for such purpose, as of the date first above indicated.

GOLDEN WEST BREWING, INC.

a Washington corporation

By:_ /s/ John C. Power

John C. Power, CEO

GOLDEN WEST BREWING COMPANY, INC.

a Delaware corporation, as to paragraphs 8 and 10 only

By:__ /s/ John C. Power

John C. Power, CEO

Accepted this 31 ^st day of December, 2008 by the undersigned, thereunto duly authorized, in accordance with the terms stated herein and the Subscription Agreement pursuant to which the undersigned acquired this Debenture.

Name of Holder:   John D. Gibbs

:__ / s/ John D. Gibbs

John D. Gibbs

Social Security No.:  __xxxxxxxxxx____

8

SECURITY AGREEMENT

THIS SECURITY AGREEMENT is entered into effective as of the 17 ^th day of December, 2008 (the “ Effective Date ”) between Golden West Brewing, Inc., a Washington corporation (“ Debtor ”) and John D. Gibbs (the “ Secured Party ”).

Recitals

A.

Debtor has agreed to borrow from the Secured Party, and the Secured Party has agreed to lend to Debtor the sum of $200,000 (the " Loan ");

B.

As of the date hereof, Debtor has executed and delivered to the Secured Party a Convertible Debenture in the principal amount of $200,000, (the " Debenture "); and

C.

As a condition to the obligation of the Secured Party to loan such amount to Debtor, Debtor is required to enter into this Security Agreement and to grant to the Secured Party a security interest in the Collateral (as hereinafter defined).

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

Agreement

1.

SECURITY

1.1

Grant of Security Interest .  As security for all of the Obligations (as defined in Section 1.2 ), Debtor hereby grants to the Secured Party a continuing security interest (as that term is defined in the Uniform Commercial Code as in effect in Washington on the date hereof (the “ Uniform Commercial Code ”)), in, and assigns and pledges to the Secured Party all of the Debtor's right, title and interest in and to the following, whether now owned or hereafter acquired (by operation of law or otherwise), and whether now or hereafter existing, owned by Debtor or in which Debtor otherwise has any rights (collectively, the “ Collateral ”):

(a)

All of Debtor's tangible personal property, including without limitation all present and future inventory, equipment (including items of equipment which are or become fixtures), now owned or hereafter acquired;

(b)

All patents and patent applications and the inventions and improvements described and claimed therein, including without limitation, all patents and patent applications described on Schedule 1.1 hereto, together with (i) all reissues, divisionals, continuations, renewals, substitutions, extensions and continuations-in-part thereof, (ii) all income, royalties, damages and payments now or hereafter due or payable under and with respect thereto, including without limitation, damages and payments for past, present and future infringements thereof, (iii) the right to sue for past, present and future infringements thereof, and (iv) all rights corresponding, incident or relating thereto (collectively, the “ Patents ”);

(c)

All licenses and similar agreements and covenants not to sue with respect to all Patents or any of them (other than any existing license agreements or covenants not to sue which

1

---

by their terms prohibit assignment, transfer or the grant of a security interest by Debtor or give the other party thereto the right to terminate the same upon an assignment, transfer or grant of a security interest therein, which licenses or covenants not to sue do not in the aggregate have a material adverse effect on the value or utility of the Patents or other assets of Debtor individually or as a whole), together with (i) all renewals, extensions, supplements and continuations thereof and supplements thereto, (ii) income, royalties, damages and payments now or hereafter due or payable with respect thereto, including without limitation, damages and payments for past, present and future breaches thereof, (iii) the right to sue for past, present and future breaches thereof, and (iv) all rights corresponding, incident or relating thereto (collectively, the “ Licenses ”);

(d)

To the extent that such rights are assignable, all of Debtor's other intangible personal property other than the property covered by subsection (e) below, including, without limitation, all present and future accounts, contract rights, permits, licenses, general intangibles, chattel paper, documents, and instruments, now owned or hereafter acquired;

(e)

All of Debtor's present and future Government Accounts and rights under Government Contracts, now owned or hereafter acquired; provided, however , that Secured Party shall not have a security interest in any rights under any Government Contract of Debtor or in the related Government Account where the taking of such Security Interest would be a violation of an express prohibition contained in the Government Contract (for purposes of this limitation, the fact that a Government Contract is subject to, or otherwise refers to, Title 31, § 3727 or Title 41, § 15 of the United States Code shall not be deemed an express prohibition against assignment thereof); and

(f)

Any and all additions to any of the foregoing, and any and all replacements, products and proceeds (including insurance proceeds) of any of the foregoing.

For purposes of this Agreement, the terms “ accounts ,” “ chattel paper ,” “ documents ,” “ general intangibles ,” “ instruments ,” “ inventory ,” “ fixtures ”, “ contract rights ” and “ equipment ” shall have the meanings ascribed to them in Article 9 of the Uniform Commercial Code, “ Government Account ” shall mean all accounts arising out of any Government Contract and “ Government Contract ” shall mean all contracts with the United States Government or with any agency thereof, and all amendments thereto.

1.2

Obligations .  The security interest created hereby in the Collateral constitutes a continuing security interest for all of the following obligations, indebtedness and liabilities, whether now existing or hereafter incurred or arising (collectively, the " Obligations "):

(a)

The payment and performance by Debtor, as and when due and payable, of all amounts from time to time owing by it under or with respect to, whether for principal, interest, fees, expenses or otherwise, and the performance of all other obligations of Debtor under the Debenture, this Agreement or any other document or instrument now or hereafter delivered in connection with or as security for the Debenture (collectively, the " Loan Documents ");

(b)

All loans and future advances made by Secured Party to Debtor evidenced by, and all other debts, obligations and liabilities of every kind and character of Debtor arising from, the Debenture, or hereafter arising in favor of Secured Party, whether such debts, obligations or liabilities be direct or indirect, primary or secondary, joint or several, fixed or contingent, and whether originally payable to Secured Party or to a third party and subsequently acquired by Secured Party and whether such debts, obligations or liabilities are evidenced by notes, open account,

2

---

overdraft, endorsement, security agreement, guaranty, or otherwise (it being contemplated that Debtor may hereafter become indebted to Secured Party in further sum or sums, but Secured Party shall have no obligation to extend further indebtedness by reason of this Agreement);

(c)

All expenditures made or incurred by Secured Party to protect and maintain the Collateral and to enforce the rights of Secured Party under this Agreement;

(d)

The due performance and observance by Debtor of all of its other obligations and undertakings from time to time existing under or with respect to the Loan Documents or any other document or instrument now or hereafter delivered in connection with or as security for any of the Loan Documents; and

(e)

All renewals, extensions, amendments, modifications, supplements or restatements of or substitutions for any of the foregoing.

Notwithstanding anything to the contrary contained in this Agreement, the Obligations are not intended to include, and the Collateral is not intended to secure, amounts owing from the Debtor to Secured Party under any promissory note (other than the Debentures, which are intended to be secured hereby), or otherwise, made by the Debtor in favor of Secured Party before the date of this Agreement.

1.3

Certain Rights of Secured Party .  The Secured Party shall have the right, but not the obligation, to pay any taxes or levies on the Collateral or any costs to repair or to preserve the Collateral, which payment shall be made for the account of Debtor and shall constitute a part of the obligations owed to the Secured Party and secured pursuant to this Agreement.

1.4

Financing Statements .  The Secured Party shall be authorized to execute and file of record such financing statements, continuation statements, and other documents with respect to the Collateral pursuant to the Uniform Commercial Code and otherwise as Secured Party may determine, in form satisfactory to the Secured Party, and Debtor will pay the cost of filing the same in all public offices where filing is reasonably necessary (including, without limitation, the cost of filing in the office of the Washington Secretary of State and the United States Patent and Trademark Office).

1.5

No Release .  No injury to, or loss or destruction of, any item of the Collateral shall relieve Debtor of any obligation under this Agreement or under any of the other Loan Documents.

2.

REPRESENTATIONS AND WARRANTIES OF DEBTOR

In order to induce the Secured Party to enter into this Agreement and to make the Loan, Debtor hereby makes the following representations and warranties to the Secured Party:

2.1

Organization; Due Authorization; Enforceability .  Debtor is a corporation duly organized, validly existing and in good standing under the laws of the State of Washington.  The execution, delivery and performance by Debtor of this Agreement and all transactions contemplated herein are within Debtor's corporate powers and have been duly authorized by all necessary action on the part of Debtor, corporate and otherwise.  This Agreement has been duly executed and delivered by Debtor and constitutes the valid and binding obligation of Debtor, enforceable against Debtor in

3

---

accordance with its terms, except as enforcement may be limited by bankruptcy, insolvency, or similar laws affecting the enforcement of creditors' rights generally and by general principles of equity.

2.2

No Conflicts or Consents .   Neither the ownership nor the intended use of the Collateral by Debtor, nor the grant of the security interest by Debtor to Secured Party herein, nor the exercise by Secured Party of their rights and remedies hereunder, does or will (i) conflict with or violate any provision of the certificate of incorporation, bylaws or other governing documents of Debtor, (ii) conflict with or violate any applicable domestic or foreign law, statute, rule or regulation applicable to or binding upon Debtor, (iii) conflict with or violate any agreement, judgment, license, order or permit applicable to or binding upon Debtor, or (iv) result in or require the creation of any lien, charge or Encumbrance (as defined below) upon any assets or properties of Debtor except as expressly contemplated by this Agreement.  Except for filings of financing statements to be made in favor of Secured Party and filing a copy of this Agreement with the United States Patent and Trademark Office, no consent, approval, authorization or order of, and no notice to or filing with, any court, governmental authority or third party is required in connection with the grant by Debtor of the security interest herein or the exercise by Secured Party of their rights and remedies hereunder.

2.3

Security Interest .   Debtor has and will have at all times full right, power and authority to grant a security interest in the Collateral to Secured Party in the manner provided herein, free and clear of any lien, security interest, adverse claims or other charges or encumbrances.  This Agreement creates a valid and binding security interest in favor of Secured Party in the Collateral securing the Obligations.  The filing of the financing statements and other instruments of registration delivered concurrently herewith by Debtor to Secured Party will perfect Secured Party's security interests hereunder in the Collateral securing the Obligations.  No further or subsequent filing, recording, registration, other public notice or other action is necessary or desirable to perfect or otherwise continue, preserve or protect such security interest, except for continuation statements or filings.

2.4

Title to Assets .   As of the date hereof, Debtor has good, valid, and marketable title to all of its properties and assets (whether real or personal), and there exists no mortgage, lien, security interest, reservation, covenant, restriction or other encumbrance (each of the foregoing hereinafter referred to as an “ Encumbrance ”) of any nature upon, or with respect to, Debtor or any of its properties or assets, including, without limitation, the Collateral, except for the security interests created by this Agreement.   No effective financing statement or other instrument similar in effect covering all or any part of the Collateral is on file in any recording office except such as may have been or will be filed in favor of Secured Party relating to this Agreement.

2.5

Taxes .  Debtor has filed all tax returns and reports required by any governmental authority to be filed by Debtor, and such returns and reports are true and correct.  Debtor has paid all taxes, assessments, and other government charges imposed upon it or its income, profits or properties, or upon any part thereof, other than those presently payable without penalty or interest.

2.6

No Default .  No Event of Default (as defined in Section 6.1 hereof), and no event which with notice, lapse of time, or both would constitute an Event of Default, has occurred and is continuing as of the date hereof.

4

---

2.7

Patents .   The Patents are valid and subsisting and have not been adjudged invalid or unenforceable, either in whole or in part.  The Patents specifically described on Schedule 1.1 constitute all of the patents and patent applications now owned by Debtor, and said Patents constitute all patents and patent applications necessary or desirable to conduct Debtor's business as it is currently being conducted.

3.

AFFIRMATIVE COVENANTS OF DEBTOR

Until all of the Obligations of Debtor are paid and performed in full, Debtor hereby covenants and agrees that it shall, unless the Secured Party otherwise consents in advance in writing:

3.1

Payment of Debenture .  Punctually pay the principal of and interest on the Debenture and all other amounts that may be due thereunder at the times and places and in the manner specified therein, except to the extent of any principal or interest that is converted into common stock of the Debtor according to the terms of the Debenture.

3.2

Corporate Existence .   Preserve, maintain, and keep in full force and effect its corporate existence in the jurisdiction of its incorporation.

3.3

Taxes, Charges, and Obligations .  Pay and discharge all taxes, assessments, and governmental charges or levies imposed upon it or upon its income, profits, properties or any part thereof, prior to the date on which penalties or interest attach thereto, as well as all claims which, if unpaid, might become an Encumbrance upon any properties of Debtor, and pay, discharge or otherwise satisfy at or before maturity or before they become delinquent, as the case may be, all of the indebtedness and other obligations of whatever nature of Debtor; provided, however , that Debtor shall not be required to pay any such tax, assessment, charge, levy, claim, indebtedness or obligation so long as (a) the validity thereof is being diligently contested by Debtor in good faith and by proper proceedings, (b) Debtor sets aside on its books adequate reserves therefor in accordance with generally accepted accounting principles, (c) during the period of such contest the enforcement of any contested item is effectively stayed, and (d) in the case where any such tax, assessment, charge, claim or levy might become an Encumbrance upon any item of the Collateral or any part thereof, Debtor makes arrangements acceptable to the Secured Party to secure the payment thereof.

3.4

Maintenance of Property .  Keep all property used or useful in its business, including, without limitation, the Collateral, in good repair, working order, and condition, and from time to time make all necessary or desirable repairs, renewals, and replacements thereof.

3.5

Preservation of Patents .   Prosecute diligently any patent application pertaining to the Patents, now or hereafter pending, file and prosecute opposition, cancellation, reissue, reexamination, protest, public use, concurrent use and similar proceedings relating to the Patents, and preserve and maintain all rights in all Patents.  Any expenses incurred in connection with the foregoing shall be borne by Debtor.

3.6

Notice and Defense of Actions .   Provide Secured Party with immediate notice of any opposition, cancellation, reissue, reexamination, protest, public use, concurrent use or similar proceeding relating to the Patents or any part thereof, and shall diligently defend its rights in any such action or proceeding.

5

---

3.7

Collateral .  Execute, deliver, and file, or cause the execution, delivery, and filing of, any and all documents (including, without limitation, financing statements and continuation statements) that Secured Party deem necessary or desirable to create, perfect, preserve, validate, or otherwise protect a lien and security interest in the Collateral; immediately upon learning thereof, report to the Secured Party any reclamation, return or repossession of any goods forming a part of the Collateral, any claim or dispute asserted by any debtor or other obligor owing an obligation to Debtor, and any other matters affecting the value or enforceability or collectibility of any of the Collateral; defend the Collateral against all claims and demands of all persons at any time claiming the same or any interest therein adverse to the Secured Party, and pay all costs and expenses (including attorneys' fees and expenses) incurred in connection with such defense; indemnify and protect the Secured Party against any liability, loss or expense arising from any such claims, demands, or disputes or out of any such reclamation, return or repossession of goods forming a part of the Collateral; provided , however , that if the Secured Party shall so elect, the Secured Party shall have the right at all times to settle, compromise, adjust or litigate all claims and disputes directly with the debtor or other obligor owing an obligation to Debtor upon such terms and conditions as the Secured Party deem advisable, and all costs and expenses thereof (including attorneys' fees and expenses) shall be made for the account of Debtor and shall constitute a part of the Obligations owed to the Secured Party and secured pursuant to this Agreement.

3.8

Notice of Default and Loss .  Give immediate notice to the Secured Party upon the occurrence of any Event of Default or event which with notice or lapse of time or otherwise would constitute an Event of Default and of any loss or damage to any of the Collateral.

3.9

Information .  Furnish Secured Party any information that Secured Party may from time to time reasonably request concerning any covenant, provision or representation contained in this Agreement or any other matter in connection with the Collateral or Loan Documents.

4.

NEGATIVE COVENANTS OF DEBTOR

Until all of the Obligations of Debtor are paid and performed in full, Debtor hereby covenants and agrees that it shall not, unless the Secured Party otherwise consents in writing:

4.1

Indebtedness and Contingent Obligations .  Create, incur, assume, or suffer to exist any Indebtedness, except for (a) Indebtedness under the Loan Documents; and (b) Indebtedness existing on the date hereof.  For purposes of this Agreement, the term " Indebtedness " means with respect to Debtor (i) all indebtedness for borrowed money, (ii) all liabilities and obligations, contingent or otherwise, evidenced by a letter of credit or a reimbursement obligation of Debtor with respect to any letter of credit, (iii) all obligations issued, undertaken or assumed for the deferred purchase price of property acquired by Debtor (excluding accounts payable arising in the Debtor's ordinary course of business, but including all obligations of Debtor created or arising under any conditional sale or other title retention agreement with respect to any property acquired by Debtor), (iv) all obligations for borrowed money secured by an Encumbrance upon or in any property owned by Debtor whether or not Debtor has assumed or become liable for the payment of such obligations for borrowed money, (v) all obligations of the type described in any of the clauses (i) through (iv) above which are guaranteed, directly or indirectly, or endorsed (otherwise than for collection or deposit in the ordinary course of business) or discounted with recourse by Debtor or for which Debtor is or may be liable, and (vi) all contractual and other obligations of any person or entity which are guaranteed, directly or indirectly, by Debtor or for which Debtor is or may be liable.

6

---

4.2

Fundamental Changes .  Amend its Certificate of Incorporation or bylaws by any amendment which would adversely affect Debtor's ability to perform or comply with any of the terms, conditions or agreements to be performed or complied with by Debtor hereunder or under any of the Loan Documents or to perform any of the transactions contemplated hereby or thereby, change its name, consolidate or merge with any other corporation or other entity, or purchase, lease or otherwise acquire all or substantially all of the assets of any other entity, including shares of stock of other corporations, except that Debtor may own notes and other receivables acquired in the ordinary course of business.  Debtor shall not take any action described in this Section 4.2 unless and until Debtor has taken all action requested by Secured Party to further perfect or protect Secured Party's security interests in the Collateral.

4.3

Transfer of Assets .  Sell, lease, assign (by operation of law or otherwise), pledge or otherwise dispose of any of its properties or assets (including, without limitation, the Collateral), whether now owned or hereafter acquired, except for sales of properties and assets other than the Patents and Licenses in the ordinary course of business and for fair market value.  Debtor shall not enter into any agreement relating to any Patent or License other than licensing agreements in the ordinary course of business, which are not inconsistent with the terms hereof and which do not have a material adverse effect on Debtor.

4.4

Investments .  Make or commit itself to make any advance, loan or capital contribution to, or other investment in, any other person or entity except for investments in bank deposits and other securities issued by banks, short-term securities of the United States of America or any agency thereof, and such other investments as the Secured Party shall approve.

4.5

Repurchase of Securities .   Purchase, redeem or otherwise acquire any of its own capital stock (except in accordance with the terms of employment agreements or other agreements with Debtor’s employees or advisors that contemplate the purchase of Debtor stock from such parties) or purchase, acquire, redeem, retire, or make any payment on account of the principal of any indebtedness of Debtor, except at the stated maturity of such indebtedness, except where payment is required by mandatory sinking fund or prepayment provisions relating thereto, and except payments with respect to the indebtedness created by this Agreement or any other indebtedness owed to any Secured Party.

4.6

Other Agreements .  Enter into any agreement or undertaking containing any provision which would be violated or breached by Debtor's performance of its obligations under the Loan Documents.

4.7

Impairment of Security Interest .   Debtor shall not take or fail to take any action that it has the right to do, or authorize any licensee or third party to take or omit to take any action, that may result in a material change to or the abandonment, invalidation, unenforceability, avoidance, availability or diminution in the value of the Patents if such abandonment, invalidation, unenforceability, avoidance, availability or diminution in value would have a material adverse effect on the operations or financial condition of Debtor, or would in any manner otherwise impair the value or enforceability of Secured Party's security interest in any Patent.

7

---

5.

POWERS AND AUTHORIZATIONS

5.1

New or Additional Patents .  If, before the Obligations shall have been satisfied in full, Debtor shall obtain rights to any new or additional patents or applications therefor, Debtor shall give to Secured Party prompt notice thereof in writing.  Any such new patents and applications therefor shall, without any further action on behalf of Debtor, automatically become subject to the terms of this Agreement and shall be deemed to be Patents for the purposes of this Agreement.  Debtor will amend Schedule 1.1 to include any new or additional patents and applications therefor, but such new or additional patents and applications therefor shall constitute Collateral hereunder whether or not Debtor so amends Schedule 1.1 ; and Debtor agrees to execute such additional security agreements, financing statements, instruments of registration and related documents as may be reasonably requested by Secured Party to perfect Secured Party security interest in such patents and applications therefor.

5.2.

Power of Attorney .  Debtor hereby irrevocably appoints Secured Party as Debtor's attorney-in-fact and proxy, with full authority in the place and stead of Debtor and in the name of Debtor or otherwise, in Secured Party's discretion, at any time upon the occurrence and during the continuance of an Event of Default, to take any action and to execute any instrument which Secured Party may deem necessary or advisable to accomplish the purposes of this Agreement, including without limitation (i) to obtain and adjust insurance required to be paid to Secured Party under the Loan Documents, (ii) to ask, demand, collect, sue for, recover, compound, receive and give acquittance and receipts for moneys due and to become due under or in respect of any of the Collateral, (iii) to receive, endorse and collect any drafts or other instruments, documents and chattel paper in connection with clause (i) or clause (ii) above, (iv) to file any claims or take any action or institute any proceedings that such Secured Party may deem necessary or desirable for the collection of any of the Collateral or otherwise to enforce the rights of Secured Party with respect to any of the Collateral, and (v) to execute and file one or more financing or continuation statements, and amendments thereto, relating to the Collateral.  Secured Party shall be under no duty to exercise or withhold the exercise of any of the rights, powers, privileges, and options expressly or implicitly granted to Secured Party in this Agreement, and shall not be responsible for any failure to do so or any delay in doing so.  Secured Party shall not be liable for any act or omission or for any error of judgment or any mistake of fact or law in their individual capacity or in their capacity as attorney-in-fact except acts or omissions resulting from Secured Party's willful misconduct or gross negligence.  This power of attorney is conferred on Secured Party solely to protect, preserve and realize upon their security interests in the Collateral.  Secured Party shall not be responsible for any decline in the value of the Collateral and shall not be required to take any steps to preserve rights against prior parties or to protect, preserve or maintain any security interest or lien given to secure the Collateral.  The powers granted herein are coupled with an interest and shall be irrevocable from the date hereof and so long as any part of the Obligations is outstanding.

5.3

Performance by Secured Party .  If Debtor fails to perform any agreement or obligation contained herein, Secured Party may itself, at its option and in its sole discretion, perform, or cause performance of, such agreement or obligation, and the expenses of such Secured Party incurred in connection therewith shall be payable by Debtor on demand; provided, however, that nothing herein shall impose any obligation of any kind whatsoever on Secured Party to perform any obligation or agreement of Debtor.

8

---

6.

EVENTS OF DEFAULT AND REMEDIES

6.1

Events of Default .  The occurrence of any one or more of the following events shall constitute an “ Event of Default ” hereunder:

(a)

any action or event that is an “ Event of Default ” under the Debenture; (b) Debtor shall fail to pay or perform the Obligations when due; (c) any representation or warranty made by or on behalf of Debtor herein or in any other Loan Document shall prove to have been incorrect in any material respect on or as of any date as of which made; (d) Debtor shall at any time fail to observe, satisfy or perform any of the covenants or agreements contained in Sections 3.1, 3.2, 4.2, or 4.5 of this Agreement; (e) Debtor shall at any time fail to observe, satisfy or perform any of the covenants or agreements contained in Sections 3 or 4 (other than in Sections 3.1, 3.2, 4.2 or 4.5) of this Agreement, except that no failure to observe any of such covenants or agreements hereof shall constitute an Event of Default hereunder unless such default shall continue unremedied for a period of twenty (20) business days after written notice of the existence of such default shall have been received by Debtor from any Secured Party; or (f) Debtor shall default in the payment of principal of or interest on any Indebtedness (other than the Notes) of Debtor or any such Indebtedness shall be accelerated or otherwise become due and payable prior to its stated maturity.

6.2

Rights and Remedies of the Secured Party .  Upon the occurrence of any Event of Default, or at any time thereafter, in addition to all other rights, powers and remedies herein conferred, conferred in the other Loan Documents or conferred by operation of law, Secured Party may declare the Obligations due, payable and performable or to become due, payable and performable to Secured Party immediately, including all principal and interest remaining unpaid on the Notes payable to such Secured Party and all other amounts with respect to Secured Party secured hereby or thereby, all without demand, presentment or notice, all of which are hereby expressly waived; and from time to time in its discretion, without limitation and without notice except as expressly provided below, Secured Party may:

(a)

Exercise with respect to the Collateral all the rights and remedies of a secured party on default under the Uniform Commercial Code (whether or not the Uniform Commercial Code applies to the affected Collateral);

(b)

Require Debtor to, and Debtor hereby agrees that it shall at its expense and upon request of Secured Party forthwith, assemble all or part of the Collateral and the documentation relating to the Collateral as directed by Secured Party and make it available to Secured Party at a place to be designated by Secured Party which is reasonably convenient to both parties;

(c)

Reduce its claim to judgment or foreclose or otherwise enforce, in whole or in part, the security interest created hereby by any available judicial procedure;

(d)

Dispose of, at its office, on the premises of Debtor or elsewhere, all or any part of the Collateral, as a unit or in parcels, by public or private proceedings, and by way of one or more contracts (it being agreed that the sale of any part of the Collateral shall not exhaust Secured Party's power of sale, but sales may be made from time to time, and at any time, until all of the Collateral has been sold or until the Obligations have been paid and performed in full), and at any such sale it shall not be necessary to exhibit any of the Collateral;

(e)

Buy the Collateral, or any portion thereof, at any public sale;

9

---

(f)

Buy the Collateral, or any portion thereof, at any private sale if the Collateral is of a type customarily sold in a recognized market or is of a type that is the subject of widely distributed standard price quotations;

(g)

Apply by appropriate judicial proceedings for appointment of a receiver for the Collateral, or any part thereof, and Debtor hereby consents to any such appointment; and

(h)

At its discretion, retain the Collateral in satisfaction of the Obligations whenever the circumstances are such that Secured Party is entitled to do so under the Uniform Commercial Code or otherwise.

Debtor agrees that, to the extent notice of sale shall be required by law, five (5) calendar days' notice to Debtor of the time and place of any public sale or the time after which any private sale is to be made shall constitute reasonable notification.  Secured Party shall not be obligated to make any sale of Collateral regardless of notice of sale having been given.  Secured Party may adjourn any public or private sale from time to time by announcement at the time and place fixed therefor, and such sale may, without further notice, be made at the time and place to which it was so adjourned.

6.3

Application of Proceeds .   Upon the occurrence of any Event of Default, or at any time thereafter, Secured Party may in their discretion apply any cash held by any Secured Party as Collateral, and any cash proceeds received by any Secured Party with respect to any sale of, collection from, or other realization upon all or any part of the Collateral, to any or all of the following in such order as Secured Party may elect:

(a)

To the repayment of the reasonable out-of-pocket costs and expenses, including attorneys' fees and legal expenses, incurred by any Secured Party in connection with (i) the administration of this Agreement, (ii) the custody, preservation, use or operation of, or the sale of, collection from, or other realization upon, any Collateral, (iii) the exercise or enforcement of any of the rights of any Secured Party hereunder; or (iv) the failure of Debtor to perform or observe any of the provisions hereof;

(b)

To the payment or other satisfaction of any liens and other encumbrances upon any of the Collateral;

(c)

To the reimbursement of Secured Party for the amount of any obligations of Debtor paid or discharged by any Secured Party pursuant to the provisions of this Agreement or the other Loan Documents, and of any expenses of any Secured Party payable by Debtor hereunder or under the other Loan Documents;

(d)

To the satisfaction of any other Obligations;

(e)

By holding the same as Collateral;

(f)

To the payment of any other amounts required by applicable law; and

(g)

By delivery to Debtor or to whomsoever shall be lawfully entitled to receive the same or as a court of competent jurisdiction shall direct.

10

---

Unless the Secured Party otherwise agree, all proceeds received by Secured Party from the sale of, collection from, or other realization upon any Collateral (net of the actual unreimbursed out-of-pocket costs incurred by Secured Party in connection with such sale, collection or other realization) and all payments to Secured Party to reimburse it for certain expenses as provided herein if Debtor can not pay 100% of the demanded expense amounts shall be distributed to Secured Party.  

6.4

Deficiency .  In the event that the proceeds of any sale, collection or realization of or upon the Collateral by Secured Party are insufficient to pay all amounts to which Secured Party are legally entitled, Debtor shall be liable for the deficiency, together with interest thereon as provided in the governing Loan Documents or (if no interest is so provided) at such other rate as shall be fixed by applicable law, together with the costs of collection and the fees and expenses of any attorneys employed by any Secured Party to collect such deficiency.

6.5

Non-Judicial Remedies .  In granting to Secured Party the power to enforce their rights hereunder without prior judicial process or judicial hearing, Debtor expressly waives, renounces and knowingly relinquishes any legal right which might otherwise require Secured Party to enforce their rights by judicial process.  In so providing for non-judicial remedies, Debtor recognizes and concedes that such remedies are consistent with the usage of trade, are responsive to commercial necessity, and are the result of a bargain at arm's length.   Nothing herein is intended to prevent Secured Party or Debtor from resorting to judicial process at any party's option.

6.6

Remedies Not Exclusive .  All rights, powers and remedies herein conferred are cumulative, and not exclusive, of (i) any and all other rights and remedies herein conferred or provided for, (ii) any and all other rights, powers and remedies conferred or provided for in the Loan Documents, and (iii) any and all rights, powers and remedies conferred, provided for or existing at law or in equity, and Secured Party shall, in addition to the rights, powers and remedies herein conferred or provided for, be entitled to avail themselves of all such other rights, powers and remedies as may now or hereafter exist at law or in equity for the collection of and enforcement of the Obligations and the enforcement of the warranties, representations, covenants, indemnities and other agreements contained the Loan Documents.  Each and every such right, power and remedy may be exercised from time to time and as often and in such order as may be deemed expedient by Secured Party and the exercise of any such right, power or remedy shall not be deemed a waiver of the right to exercise, at the same time or thereafter, any other right, power or remedy.  No delay or omission by Secured Party or other person or entity in the exercise of any right, power or remedy will impair any such right, power or remedy or operate as a waiver thereof or of any other right, power or remedy then or thereafter existing.

7.

MISCELLANEOUS PROVISIONS

7.1

Additional Actions and Documents .   Debtor shall take or cause to be taken such further actions, shall execute, deliver, and file or cause to be executed, delivered, and filed such further documents and instruments, and shall obtain such consents as may be necessary or as the Secured Party may reasonably request in order fully to effectuate the purposes, terms, and conditions of this Agreement and the other Loan Documents, whether before, at or after the closing of transactions contemplated hereby and thereby or the occurrence of an Event of Default hereunder.

7.2

Notification . All notices, requests, instructions or other communications to be given in writing hereunder shall be addressed as follows:

11

---

If to Debtor :

Golden West Brewing, Inc.

Attn:  John C. Power

945 West 2 ^nd Street

Chico, CA  95928

If to the Secured Party :

John D. Gibbs

807 Wood ‘N Creek

Ardmore, OK  73401

Written communications shall be deemed given, when addressed to the other party as set forth above, three days after sent by registered or certified mail, one day after sent by overnight courier of national repute or on the same day when delivered in person or when sent by facsimile to the facsimile number as set forth above, provided that the sending party can provide written evidence of the communication's successful transmission to such facsimile number.  The notification information of any party may be changed by notifying the other parties of such change in accordance with this Section 7.2 .  Notice by e-mail shall not be effective for any purpose under this Agreement.

Any Secured Party who receives from a third party any notice or other written communication relating to the Collateral or any other right or obligation of the Secured Party under this Agreement shall forward promptly a copy of such notice or written communication to the other Secured Party and Borrower, unless it is clear from the face of the notice or written communication that the other Secured Party and Borrower have received or will receive the same notice or written communication from that third party.

7.3

Expenses .  Debtor shall (a) reimburse the Secured Party and save the Secured Party harmless against liability for the payment of all out-of-pocket expenses arising in connection with enforcement of, or the preservation or exercise of any rights (including the right to collect and dispose of the Collateral) under, this Agreement or any of the other Loan Documents, including, without limitation, the fees and expenses of counsel to the Secured Party arising in such connection; and (b) pay, and hold the Secured Party and subsequent holders of the Notes harmless from and against, any and all present and future stamp taxes or similar document taxes or recording taxes and any and all charges with respect to or resulting from any delay in paying, or failure to pay, such taxes.

7.4

Severability .  If fulfillment of any provision of the Loan Documents or performance of any transaction related thereto, at the time such fulfillment or performance shall be due, shall involve transcending the limit of validity prescribed by law, then the obligation to be fulfilled or performed shall be reduced to the limit of such validity; and if any clause or provision contained in any Loan Document operates or would operate prospectively to invalidate any Loan Document, in whole or in part, then such clause or provision only shall be held ineffective, as though not herein or therein contained, and the remainder of the Loan Documents shall remain operative and in full force and effect.

7.5

Waivers .   No waiver by the Secured Party of, or consent by the Secured Party to, a variation from the requirements of any provision of the Loan Documents shall be effective

12

---

unless made in a written instrument duly executed on behalf of each Secured Party, and any such waiver shall be limited solely to those rights or conditions expressly waived.

7.6

Rights Cumulative .  The rights and remedies of the Secured Party described in any of the Loan Documents are cumulative and not exclusive of any other rights or remedies which the Secured Party or the then holder of the Notes otherwise would have at law or in equity or otherwise.  Except as otherwise provided herein, notice to or demand on Debtor in any case shall not entitle Debtor to any other notice or demand in similar or other circumstances.

7.7

Entire Agreement; Modification; Conflicts; Benefit .  This Agreement, the exhibits hereto, and the other Loan Documents constitute the entire agreement of the parties hereto with respect to the matters contemplated herein, supersede all prior oral and written agreements with respect to the matters contemplated herein, and may not be modified, deleted or amended except by written instrument executed by the parties.  The representations, warranties and covenants of the parties contained in this Agreement and in the Credit Agreement and the other Loan Documents are intended to be cumulative and should be construed wherever necessary as accretive to the rights and obligations of the parties.  To the extent that there is a conflict between the terms and provisions of this Agreement and the terms and provisions of the Credit Agreement, the terms and provisions of the Credit Agreement shall control and be binding; provided, however, that the absence of a representation, warranty or covenant in the Credit Agreement that is contained in this Security Agreement shall not be deemed a conflict, but rather the representations, warranties and covenants to the extent not in direct conflict, shall be deemed to be cumulative.  All terms of this Agreement and of the other Loan Documents shall be binding upon, and shall inure to the benefit of and be enforceable by, the parties hereto and their respective successors and permitted assigns; provided , however , that no Secured Party may assign or transfer any of its rights or obligations hereunder except in connection with the transfer or assignment of a Note, which is permitted by the terms thereof.  Debtor shall not have the right to assign or transfer any of its rights or obligations hereunder without the prior written consent of each Secured Party.

7.8

Termination .  This Agreement shall terminate upon the earlier of payment and performance in full of all Obligations or conversion of all amounts payable under the Notes into the common stock of the Debtor as set forth therein.

7.9

Construction .  THIS AGREEMENT AND THE OTHER LOAN DOCUMENTS, THE RIGHTS AND OBLIGATIONS OF THE PARTIES HERETO, AND ANY CLAIMS OR DISPUTES RELATING THERETO SHALL BE GOVERNED BY AND CONSTRUED IN ACCORDANCE WITH THE LAWS OF THE STATE OF WASHINGTON (EXCLUDING THE CHOICE OF LAW RULES THEREOF).  

7.10

Pronouns .  All pronouns and any variations thereof shall be deemed to refer to the masculine, feminine, neuter, singular or plural, as the identity of the person or entity may require.

7.11

Headings .  Section and subsection headings contained in this Agreement are inserted for convenience of reference only, shall not be deemed to be a part of this Agreement for any purpose, and shall not in any way define or affect the meaning, construction or scope of any of the provisions hereof.

13

---

7.12

Payments .  If any payment or performance of the Debentures or of any of the other obligations under this Agreement or any of the other Loan Documents becomes due on a day other than a Business Day, the due date shall be extended to the next succeeding Business Day, and interest thereon (if applicable) shall be payable at the then applicable rate during such extension.  For the purposes of this Agreement, “ Business Day ” means a day other than a Saturday, Sunday or other day on which commercial banks in Colorado are authorized by law to close.

7.13

Execution .  To facilitate execution, this Agreement and any of the other Loan Documents may be executed in as many counterparts as may be required; and it shall not be necessary that the signatures of, or on behalf of, each party, or the signatures of all persons required to bind any party, appear on each counterpart; but it shall be sufficient that the signature of, or on behalf of, each party, or the signatures of the persons required to bind any party, appear on one or more of the counterparts.  All counterparts shall collectively constitute a single agreement.  It shall not be necessary in making proof of this Agreement or any other Loan Document to produce or account for any particular number of counterparts; but rather any number of counterparts shall be sufficient so long as those counterparts contain the respective signatures of, or on behalf of, all of the parties hereto.

IN WITNESS WHEREOF , the undersigned have duly executed this Agreement, or have caused this Agreement to be duly executed on their behalf, as of the day and year first hereinabove set forth.

DEBTOR :

LENDER :

GOLDEN WEST BREWING, INC.

a Washington corporation

By:    ___ / s/ John C. Power

/ s/ John D. Gibbs

John C. Power, President

John D. Gibbs

14

HYPOTHECATION AGREEMENT

THIS AGREEMENT is executed by the undersigned, GOLDEN WEST BREWING COMPANY, INC., a Delaware corporation (the "Golden West") in favor of JOHN D. GIBBS ("Lender"), to induce it to make an extension of credit to or for the account of GOLDEN WEST BREWING, INC., a Washington corporation (hereafter the "Borrower").

In consideration of the foregoing, Golden West hereby delivers to Lender the collateral described below, which is registered or recorded in the name of Golden West as collateral security for the obligation of the Borrower to Lender.

Description of Collateral

A certificate representing 100 shares of Common Stock of Golden West Brewing, Inc., a Washington corporation, duly endorsed in blank or accompanied by an Irrevocable Stock Power duly-executed in form to effect transfer (the "Collateral").

So long as Borrower is not in default (beyond any period given Borrower to cure such default) in the payment to Lender of the amounts due to Lender pursuant to Borrower's Convertible Debenture, or in the performance of any of the terms, covenants or conditions of the terms of any loan agreement on the part of Borrower to perform, Golden West’s rights and privileges with respect to the ownership and use of the Collateral shall not be diminished or interfered with by Lender.

Notwithstanding any provision in the loan agreement to the contrary, Lender shall notify Golden West, in writing, of the occurrence of any default by Borrower and shall permit Golden West a period of thirty (30) days from the date of such notice (the "Cure Period") in which to cure such default prior to proceeding to exercise any of the rights or remedies of Lender against the Collateral, including, without limitation, the right to take possession or to foreclose on the Collateral.

In case of any continuing default of the Borrower following the Cure Period as defined above, Lender may sell all or any part of the Collateral in accordance with applicable law; provided, however, that Lender shall only sell the Collateral into the public trading market for such securities.  The proceeds of any sale of the Collateral shall be applied by Lender as follows:  (a) to the payment of the expenses reasonably incident to such sale or sales for broker's fees;  (b) toward payment of the obligations of the Borrower to Lender; and (c) the surplus proceeds, if any, and all Collateral remaining unsold after full payment to Lender shall be paid and delivered to Golden West.

Golden West agrees to execute and deliver to Lender such other and further security or pledge agreements as Lender may require to effectuate the security interest contemplated hereby, and in the event of any conflict between the provisions hereof and those of any such other security agreement, the provisions of such other security agreement shall control.

This Agreement is delivered and made in and shall be construed pursuant to the laws of the State of Colorado.  It shall inure to the benefit of Lender, its successors, parent, subsidiaries, correspondents, and assigns, and shall apply to any associations or corporations herein called the Borrower and any

---

successors or assigns and it shall be binding upon the undersigned, its legal representatives, successors and assigns.

DATED this 31 ^st day of December, 2008.

LENDER:

/s/ John D. Gibbs

John D. Gibbs

GOLDEN WEST BREWING COMPANY, INC.

A Delaware corporation

By: /s/ John C. Power

John C. Power, CEO & Director